Debt and equity forecasting.

Our debt and equity assumptions help us to determine the financing mix and the adequacy of finance for the business throughout our forecasts. Long-term debt is the first one that will tackle and actually this is a tricky one. Our forecasts need to reflect what will happen to the current debt finance lines, but also need to anticipate new ones. For current finance lines, we can use the financial statement debt maturity disclosures to help us anticipate significant debt repayments that's repayments on term loans or bonds which are due to mature. However, we also need to anticipate new finance needs of the business. If the company is targeting a specific level of leverage, we should incorporate this into our assumptions or at least see if management targets are feasible. Also, if the company has specific investment plans, for example, major capital expenditure or even operational expenditure outlays, then we should consider where the this will be funded by debt. Dividends are the next major assumption, dividend paying companies typically aim for stable growing dividends. So we usually use a dividend growth assumption for dividend per share. The risk with using this assumption is that it isn't linked to profitability. A company can't pay dividends that exceed profits in the longer term and even very mature businesses need to reinvest at least a proportion of their profits to grow. So we usually monitor the dividend payout ratio and leverage ratios throughout our forecasts as a check on our dividend assumption. One other thing to flag here is that the dividend policy will have a major impact on leverage. If a company is paying out very low dividends relative to the cash generated each year. This will result in rapidly increasing cash balances. It's important to think about whether this is feasible given that companies don't earn much interest on cash shareholders are not usually very happy about a company hoarding cash and earning very little interest on it. There's much rather it was returned to them so that they can invest the money themselves. Equally, very high dividends relative to the cash generated each year will result in rapidly decreasing cash balances and the company will eventually be forced to raise more debt to finance these dividends. Either way, this will impact on The leverage ratios. Therefore, it's really important that we check leverage ratios at the end of our model build to make sure that these are sensible. One final assumption which will also impact on your dividend payments and other metrics is the shares outstanding. Typically we flatline this since we don't usually have the ability to forecast share count changes. The exception here is if the company has announced an equity issuance or share repurchase program, if this occurs, we usually forecast the total increase or decrease in our equity calculation and then work backwards to the change in share count based on the share price that we think the transactions will take place at you do this by editing your model. Don't forget that the cash flows need to be included in the financing section of your cash flow statement.