Cash Flow Forecasting

Selling, general and administrative expense (SGA)

The technique for projecting the SGA account is similar to that for other

sales-driven expense items in the P&L statement. This involves examin-

ing historic trends in the SGA/sales ratio and selecting a projected ratio

that can then be applied to the projected sales figure to determine pro-

jected SGA expenses in cash terms. Alternatively, you can establish SGA

by projecting operating profit (as with gross profit) and then work back-

wards to establish SGA.

The former approach is, however, preferable, as a number of factors can

affect SGA, and analysis should include conditions that may cause a rise

or fall in this account. For example, if AmaOS intends to achieve sales

growth by expanding into new markets, it is likely that there will be an

increase in selling expenses typically associated with ‘start-up costs’

(salaries, commissions, advertising, legal, and consulting fees).

Depending on the type of company, SGA may or may not be critical. SGA

will be more important for retail stores than for a manufacturer. Other

companies may spend on advertising or R&D (which will probably be cut

back in a recession, since they fall under management control). You

should understand the nature of the company you are analysing, and

adjust these figures accordingly.

Operating profit

As with net sales and gross margin, forecasting expense items from

gross profit on down to operating profit (SGA, depreciation, other expenses)

follows a similar process. To determine operating profit, you can

either:

■ calculate SGA as in the preceding paragraph and subsequently derive

operating profit, or

■ calculate the historical operating profit average and then work out

the various expense items above operating profit and below gross

profit by calculating the difference between the two.

Cash flow forecasting of financial statements

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At this stage, you should begin to get a feel of the company’s projected

sales performance.

Example

Using the historical AmaOS spreadsheets, we see that operating expenses,

SGA, is also accompanied by depreciation and other costs. For the sake

of simplicity, we can estimate these items as a group by working out the

average percentage of operating profit to historical sales:

FACT SHEET 2000 2001 2002 2003 2004

OP/sales (%) 23.8 8.5 10.1 8.9 #N/A

Average OP/Sales  8.37 per cent.

This average percentage can then be used to estimate future operating

profits based on future net sales.

Projecting AmaOS’s operating income at a historical average figure of

20.1 per cent of net sales (OPM: operating profit margin), the resulting

projected operating income is:

2004 2005 2006 2007 2008

Net sales:

€614,538 €639,120 €677,467 €718,115 €761,202 €806,874

Last actual year 4% growth 6% growth 6% growth 6% growth 6% growth

CGS €426,293 €451,870 €478,983 €507,721 €538,185

33.3% GPM 33.3% GPM 33.3% GPM 33.3% GPM 33.3% GPM 33.3% GPM

historical

average

GPM €212,827 €225,596 €239,132 €253,480 €268,689

8.37% OP/sales 8.37% OPM 8.37% OPM 8.37% OPM 8.37% OPM 8.37% OPM

historical

average

Operating profit 53,494 56,703 60,106 63,712 76,535

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