What are the advantages and disadvantages of using a pro forma balance sheet for strategic planning purposes and explain the advantages and disadvantages?
To talk about pro foma balance sheets in the context of strategic planning, it is first necessary to understand strategic planning. Note that strategic planning examines a company's present to measure it against its past so to plan for its future while a pro forma balance sheet projects a company's accounting into the future based on hypothetical "as if" assumptions about the company's activity.
Strategic planning is planning a company does to move to a new set of objectives and goals; to renew or update its vision for itself and its values for its conduct in the marketplace and in the world; to evaluate performance compared to expectation as established in the original company business plan.
Pro forma balance sheets provide information about future asset management and about projected financial soundness, especially by highlighting debt-to-equity ratios. Pro forma balance sheets include current and long-term assets as well as current and long-term liabilities.
An advantage to using a pro forma balance sheet during strategic planning relates to strategic planning identification of strengths, weakness, threats, opportunities (through SWOT analysis) while identifying areas of needed or desired development. A pro forma will provide for strategic planners the projected financial position to inform on what expected resources might be used to meet development interests and needs. A disadvantage to a pro forma balance sheet is that all information is "best estimate" of "as if" data: estimations based on accounting as if the company continues at status quo. It is "a projection showing a business's financial statements after the completion of a planned transaction" or after strategic planning is implemented (FinancePractitioner.com).
The biggest advantage of a pro forma balance sheet is that it allows a business to make specific predictions about the future. For planning purposes, this is very important. Businesses need to project more than just earnings.
It is good to know what you think the company will make in the future, of course, but you can’t really make decisions based on that information without having the company’s entire future financial picture. Let’s say you think profits are going up 15%, but then you also realize that expenses are going to go up 30%. You can’t make information just on the project profits, it would be disastrous! A pro forma balance sheet gives you the bigger picture.
The disadvantage of using a pro forma balance sheet is that it is really just a prediction. You may be off, in one area or in all areas. Sometimes being off in one area can affect the whole company’s financial health. So you should continue to be cautious making decisions based on a pro forma balance sheet.