Question

1What are examples of pro forma financial statements? How are they used?

2. Discuss the differences between GAAP financial statements and pro forma statements?

Answer 1

1. Pro forma financial statements are being used by the analysts and management to make financial decisions.A pro forma financial statement is prepared on certain assumptions and projections in order to ascertain the impact of certain financial situation on the financial statements of the company. Therefore, these are not real financial statements but are prepared to check the impact that certain transactions and events may have on the overall financial statements of the company. These financial statements are mostly used by the management of company and analysts. It can be prepared and used before any activity of merger and acquisition to analyze the prospective impact of such transaction on the business. Such statements are also helpful in deciding the optimal capital structure for the company, with proper knowledge of interest cost to the company in future, the management can decide on how much debt will be sufficient for the company and what debt - equity mix can be kept in longer run.

2. The main difference between GAAP financial statements and pro forma financial statements is that GAAP financial statements are prepared on the basis of strict guidelines and reporting standards which are governed within the United States. On the other hand a pro forma financial statement is prepared without any accounting and reporting requirements, it can be called as ;rough' statement prepared by the management solely for internal use. Yet another difference is its uses, GAAP financial statements are official statements of the company and is being submitted with exchanges and are distributed among shareholders and public. The decision of people is based on the numbers reported in GAAP and not pro forma statements. GAAP compels organization to report certain uncertain cost as losses in the P&L despite their low probability etc. In Pro forma, the management and company can reflect that what will be the profitability situation of the company in case the events or transactions will turn out in company's favor, these statements are only informative in nature and the ultimate investing and business decision rests with the investor and management in the longer run.