Projecting What Is to Come
It's tough to make predictions, especially about the future.
—Lawrence Peter “Yogi” Berra (1925–), American athlete
NOW WE COME TO THE REALLY INTERESTING PART: preparing effective supportable financial projections for fair values. This is always an iterative process, as the projections must reflect the assumptions of market participants, which are not directly known, rather than the anticipations of management. It involves generating hypotheses about outcomes and eventual responses, discovering avoidable unpleasant surprises, and identifying otherwise missed opportunities. As the projections will be audited, it is essential that management assumes responsibility for the reasonableness of:
- The underlying assumptions
- Their context and structure
- The logic and integrity of the model used
- The resulting amounts
This chapter covers the major problems of financial property concerning:
- Context: Base the future on the past.
- Structure: The truth is in the parts.
- Models: Avoid unnecessary risks.
- Assumptions: Garbage in, garbage out.
- Results: Achieve believable and supportable conclusions.
BASE THE FUTURE ON THE PAST
An understanding of the context, especially the economic outlook, is essential in preparing a financial projection. According to Marshall McLuhan (1911–1980), a Canadian philosopher, “Too often people steer their way into the future while staring into the rearview mirror because the past is so much more comforting than the present.”
Used properly, ...