Section A Top-Level Planning and Analysis Other Uses of Pro Forma Financial Statements Pro forma financial statements can be used to evaluate the companys dividend policy. ABC Industries has had a policy of increasing its dividend every year, and it has projected a 4% increase in its dividend for 2010. However, if the company were to reduce the growth rate in the dividend, additional funds would be available to invest in plant, equipment or inventories, used to reduce borrowings, or possibly used to repurchase its stock. Another important use of pro forma statements is determining whether the company will be in compliance with its debt covenants. As we explained earlier, covenants in a loan agreement are used by the lender to require the borrower to maintain certain financial ratios. If the borrower fails to maintain those ratios, then the lender can declare the loan in default and can require payment of the outstanding balance immediately (called accelerating the loan). Acceleration of its loans usually forces a firm to declare bankruptcy and may cause it to go into liquidation, so it is a serious matter. Some of the usual covenants include maintenance of a minimum current ratio, maintenance of a minimum debt ratio, and maintenance of a minimum interest coverage ratio. So calculation and analysis of these ratios need to be a part of the analysis of the pro forma statements. If the pro forma statements indicate that the covenants may not be met unless changes are made, the necessary operational changes must be made urgently to prevent that from occurring.
Posted on: Sun, 27 Jul 2014 10:55:09 +0000
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