P O L YTE C H NIC U N IVE RS IT Y OF T HE P H IL IP PINE S

Usefulness of Financial Forecasting &

Financial Forecasting Techniques

A Written Report submitted to

Prof. Victoria Baduria
Polytechnic University of the Philippines
Graduate Studies

In partial fulfillment of the requirement in

4MBA656 Advanced Financial Management
for the 2nd Semester S.Y. 2018-2019

CLAIRE MARIE B. SEÑOLOS

Master in Business Administration
Financial Management

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Financial forecasting is applied for the prediction of future company financial

performance and condition.

Usefulness of financial forecasts in the aspect of:

a. Income Statement – This will help to prepare project feasibility studies

to forecast the sales and costs of the product or services in relation to the

expected capital costs.

b. Cash Flow – It helps the management to determine the impact of new

projects on the company’s future cash position. This will also help anticipate

residual cash for investment in temporary holdings to plan debt repayment,

hence, to determine the company’s immediate liquidity position.

c. Balance Sheet – Forecasting will provide a helpful guide to the

company’s future liquidity and solvency position, including any future need

for funds. Both cash flow and balance sheet play a big role in representing

the company’s disposition to its bank and trade creditors.

Finally, investors monitor the expected profits accruing to the company’s

stockholders by analyzing the forecasted income statement and balance sheet.

Forecasting Techniques

I. Subjective Forecasts

This qualitative approach relies most heavily on judgment and educated guesses.

There is essentially only one category of subjective forecast approaches – and it is

rightly called “Judgmental” forecasts. Judgmental forecasting methods rely much on

expert opinion and educated guesses. The most common types of judgmental

forecasting methods are surveys and extrapolate ion, Delphi method, scenario, and

scenario writing.

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 A. Surveys and Extrapolation

In this method, analysts gather data from a sample of the population and plot extents

of the future movement based on the available data gathered. This action of

estimating or concluding something by assuming that existing trends will continue

or a current method will remain applicable.

B. Delphi Method

Panel members are presented with scenarios and asked to predict the probability of

such a scenario occurring and when it may occur. When certain panel members

hold views substantially different from the group median, they are asked to provide

written justification, so that the strength of their opinions can be determined. After a

few iterations, the group tends to move toward a consensus forecast.

C. Scenario Writing

When a company’s or industry’s long-term future is far too difficult to predict, it is

common for experts in that company or industry to ponder over possible situations

in which the company or industry may find itself in the distant future. The

documentation of these situations – scenarios – is known as scenario writing.

Unfortunately, much literature on this approach suggests that writing multiple

scenarios does not have much better quality over any of the other judgmental

forecasting methods we’ve discussed to date.

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 II. Objective Forecasts

A. Trend Analysis

Trend forecasts are based entirely on historical information about the financial

variable in question. The most common technique is to extrapolate value using past

experience. There are several possible interpretations in which might be used in

incorporating the past into predictions about the future, in particular:

1. The use of immediately preceding value, adjusted for “subjective” factors

2. The use of average growth rates

Year Sales
2008 10,000,000
2009 5,000,000
2010 30,000,000
2011 40,000,000
2012 55,000,000
2013 60,000,000
2014 75,500,000
2015 85,100,000
2017 90,000,000
2018 100,000,000

Simple growth rate = Salesn+1 - Salesn / Salesn+1

For an initial analysis of increase/decrease between two consecutive years, one can

simply say that there had been 10% increase of sales from year 2017. From this

trend, we can forecast that in 2019, we are expecting 1,000,000,000 amount of

sales.

Although the use of simple growth rate helps with a quick overview of expected

amount, it is less accurate for those whose generated sales have irregular

movement. Using the compounding growth rate will help in this case because it will

cover up the movement across all covered period to come up with a more accurate

forecast. For calculating the compounding growth rate:

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Sales2018 = (1+g)n x Sales2008. Therefore, g = (Sales2018/Sales2008)1/n – 1.

For the forecast of upcoming year’s value it will computed as: Sales 2019 = Sales2018

+ Growth Rate x Sales2018

Basing on the formula provided, the growth rate across 10 years is 25.89% and the

anticipated sales in 2019 will be 125,890,000.

B. Forecasts Based on Relationships Among Variables

Many financial variables appear to behave in the same direction as certain

determining factors other than the lapse of time. For example, the sales expected

for next year depends on the market and other economic factors which are expected

to prevail next year. The fact that sales have continuously increased in the last many

years does not imply an expected increase in sales next year. Similarly, inventory

levels often depend on sales level, for any given set of management policies on

inventory. These relationships many not be captured by trend analysis because they

go beyond the assumption that financial values progressively change over time.

Instead, we should look at the influence of other factors on the variable being

forecasted. There common method of forecasting using relationships among

financial variables is regression analysis. Below is the table of example we can refer

to:

Year Sales Inventory

2008 10,000,000 2,000,000
2009 5,000,000 3,000,000
2010 30,000,000 3,500,000
2011 40,000,000 4,000,000
2012 55,000,000 5,750,000
2013 60,000,000 7,800,000
2014 75,500,000 6,900,000
2015 85,100,000 8,100,000
2017 90,000,000 9,250,000
2018 100,000,000 10,100,000

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If the regression equation is just the equation of y =a + bx;

The correlation coefficient is gotten by:

b = r x ( Sy / Sx )

a = 𝑦̅ − 𝑏𝑥̅

S - Save I - Iave S - Save * I - Iave

-₱45,060,000.00 - ₱169,425,600,000,000.00
₱3,760,000.00
-₱50,060,000.00 - ₱138,165,600,000,000.00
₱2,760,000.00
-₱25,060,000.00 - ₱56,635,600,000,000.00
₱2,260,000.00
-₱15,060,000.00 - ₱26,505,600,000,000.00
₱1,760,000.00
-₱60,000.00 -₱10,000.00 ₱600,000,000.00
₱4,940,000.00 ₱2,040,000.00 ₱10,077,600,000,000.00
₱20,440,000.00 ₱1,140,000.00 ₱23,301,600,000,000.00
₱30,040,000.00 ₱2,340,000.00 ₱70,293,600,000,000.00
₱34,940,000.00 ₱3,490,000.00 ₱121,940,600,000,000.00
₱100,000,000.00 ₱4,340,000.00 ₱434,000,000,000,000.00
₱55,060,000.00 ₱2,800,000.00 ₱1,050,346,400,000,000.00

S - Save (Squared) I - Iave (Squared)

₱2,030,403,600,000,000.00 ₱14,137,600,000,000.00
₱2,506,003,600,000,000.00 ₱7,617,600,000,000.00
₱628,003,600,000,000.00 ₱5,107,600,000,000.00
₱226,803,600,000,000.00 ₱3,097,600,000,000.00
₱3,600,000,000.00 ₱100,000,000.00
₱24,403,600,000,000.00 ₱4,161,600,000,000.00
₱417,793,600,000,000.00 ₱1,299,600,000,000.00
₱902,401,600,000,000.00 ₱5,475,600,000,000.00
₱1,220,803,600,000,000.00 ₱12,180,100,000,000.00
₱10,000,000,000,000,000.00 ₱18,835,600,000,000.00
₱17,956,620,400,000,000.00 ₱71,913,000,000,000.00

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The correlation coefficient will be 0.92

Standard Deviation of Inventory = ₱2,826,717.77

Standard Deviation of Sales = ₱44,667,438.30

b = 0.058493546

a = 0.058493546

y = 2,539,345.36 + 0.058493546x

References

https://analysights.wordpress.com/

https://www.youtube.com/watch?v=GhrxgbQnEEU

https://www.statisticshowto.datasciencecentral.com/

Financial Management in the Philippine Setting by Cesar G. Saldaña