Financial Statement Modeling

Table of Contents
1. Financial Statement Modeling
2. Module: Forecasting Financial Statements
3. Module: Competitive Analysis and Growth Rate
4. Module Quiz 14.1 & 14.2
5. Key Concepts
6. Answer Key for Module Quizzes
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Financial Statement Modeling

Exam focus

This topic review discusses estimation of inputs for price-multiple and discounted cash flow (DCF) valuation models. Be able to forecast income statement and balance sheet items given specific assumptions. Understand top-down, bottom-up, and hybrid approaches to developing inputs; how Porter's five forces influence forecasts; and the concepts of inflection points and cannibalization factor.

Module: Forecasting Financial Statements

Video covering this content is available online.

LOS 14.a - Top-down, bottom-up, and hybrid approaches

Bottom-up analysis starts with an individual company or its reportable segments. Revenue projections based on historical revenue growth, a company's new product introductions, or linkages to balance-sheet composition (for example, forecasting interest revenue for a bank based on expected loan growth) are bottom-up approaches.

Top-down analysis begins with macroeconomic expectations (often nominal GDP growth). Company revenues are projected from estimated GDP growth and an assumed relationship between GDP growth and company sales.

Hybrid analysis combines elements of both top-down and bottom-up approaches. A hybrid approach is common because it helps expose inconsistencies between macro expectations and company-specific factors.

LOS 14.b - Growth relative to GDP vs market growth and market share

Growth relative to GDP models the relationship between GDP and company sales as either "GDP growth plus x%" or "GDP growth times (1 + x%)." For example, if forecast GDP growth is 5% and the company is expected to grow 20% faster than GDP, company revenue growth = 5% × (1 + 0.20) = 6%.

Market growth and market share begins with an estimate of industry sales growth and then applies an expected market share to that industry size to obtain company revenue. Different business or geographic segments may have different relationships to GDP (for example, a Chinese division vs a Japanese division).

LOS 14.c - Economies of scale

If average cost of production falls as industry sales increase, the industry exhibits economies of scale. Firms benefiting from economies of scale will generally show higher operating margins as sales grow; sales volume and margins will tend to be positively correlated.

To evaluate economies of scale, compare common-size income statements across firms of different sizes. Evidence of economies of scale: lower COGS as a proportion of sales (COGS/sales) and lower SG&A as a proportion of sales for larger firms.

LOS 14.d - Forecasting COGS and operating expenses

Cost of goods sold (COGS)

Because COGS is closely related to revenue, a common method is to forecast COGS as a percentage of revenue:

forecast COGS = (historical COGS / historical revenue) × forecast revenue

or

forecast COGS = (1 - forecast gross margin) × forecast revenue

If gross margin shows a trend, an analyst should consider whether that trend will continue. Comparing a firm's historical gross margins to competitors' margins helps validate margin assumptions, adjusting for business-model differences where appropriate.

Short-run forecasts of COGS can be improved by analysing input price volumes and hedging practices (for commodity inputs) and by estimating COGS separately by product category or segment.

Selling, general & administrative (SG&A)

SG&A typically has a larger fixed-cost component than COGS and therefore is less sensitive to sales volume changes. R&D, corporate headquarters, management salaries, and IT are often relatively fixed in the short term. Selling and distribution costs can be more variable, increasing with sales as more salespeople or distribution activities are required.

Where SG&A components are disclosed separately or by segment, forecast each component individually to improve accuracy.

LOS 14.e - Forecasting non-operating items, financing costs, and income taxes

Financing cost

Gross interest expense is primarily determined by debt levels (gross debt) and market interest rates. Companies may also report interest income from investments, which is relevant for financial firms and less so for non-financial firms. Net debt = gross debt - cash and short-term securities. Net interest expense = gross interest expense - interest income on cash and short-term securities.

Example: Calculating gross and net interest rates

Using the example data in the exhibit, the calculations are:

Gross interest expense rate = 220 / 3,400 = 6.47%.

Net interest expense rate = 212 / 2,650 = 8.00%.

Yield on average cash balance = 8 / 750 = 1.07%.

Analysts should consider planned debt issuances/retirements and the maturity structure of debt (from footnotes) when forecasting future interest costs.

Income tax expense

Three tax rates are commonly used:

• Statutory tax rate - the country's statutory corporate tax rate where the firm is domiciled.
• Effective tax rate - income tax expense / pretax income (from the income statement).
• Cash tax rate - cash taxes paid / pretax income.

Income tax expense = cash taxes due + change in deferred tax liabilities - change in deferred tax assets. Differences between statutory and effective rates arise from permanent differences and from multi-jurisdiction operations; the effective rate is a weighted average of jurisdictional rates based on taxable income by jurisdiction. Analysts should investigate persistent gaps between a company's effective tax rate and statutory or peer rates.

Other non-operating items

Dividends can be modelled using historical payout behaviour, a constant growth rate, or a target payout ratio. Forecasting shares outstanding requires attention to stated capital-structure changes. Exclude unusual charges from forecasts unless they recur, in which case include a normalised estimate.

LOS 14.f - Balance sheet modelling approaches

Many balance sheet items flow from the forecasted income statement. Retained earnings = prior retained earnings + net income - dividends. Working-capital items can be forecast using historical relationships with revenue (turnover ratios):

Inventory forecast: use COGS and inventory turnover ratio.

Accounts receivable forecast = (days sales outstanding) × (forecasted sales / 365).

PP&E is driven by depreciation and capital expenditures (capex). Approaches include:

• Assume PP&E remains a constant proportion of sales (PP&E grows with revenue).
• Forecast capex for maintenance separately from capex for growth, using operational plans and historical patterns.

When estimating maintenance capex, increase historical depreciation by expected inflation (replacement costs rise with inflation).

After constructing forecasted financial statements, perform sensitivity and scenario analyses to assess how net income and cash flows respond to changes in key assumptions.

LOS 14.h - Behavioural factors affecting analyst forecasts

Analysts are subject to behavioural biases that can impair forecasts. For each bias below, know its definition, likely effect, and mitigation methods.

1. Overconfidence bias: Excessive faith in one's own forecasts. Analysts may underestimate forecast errors and produce overly narrow confidence intervals. Mitigation: share forecasts for critique, evaluate past forecast performance, and widen confidence intervals; use scenario analysis.
2. Illusion of control: A false sense of security. Manifests as seeking confirming expert opinions or overcomplicating models (overfitting). Mitigation: focus on variables with known explanatory power; seek outside opinions with unique insights.
3. Conservatism (anchoring): Small adjustments to prior forecasts when new information arrives. Mitigation: periodically evaluate forecasting errors and use simpler, flexible models.
4. Representativeness: Classifying new information based on superficial similarity to known cases; neglecting base rates. Mitigation: consider both the "inside view" (company-specific) and "outside view" (base rates) when forecasting.
5. Confirmation bias: Seeking information that confirms prior beliefs and ignoring contradictory evidence. Mitigation: review dissenting analyst research and solicit unconstrained viewpoints; be sceptical of management representations.

Module: Competitive Analysis and Growth Rate

Video covering this content is available online.

LOS 14.i - How competitive factors affect prices and costs

Competitive forces determine pricing power and cost structure. These forces must be considered when forecasting revenues, margins, and returns on invested capital (ROIC).

LOS 14.j - Porter's five forces and implications for forecasting

ROIC can be approximated as NOPLAT (net operating profit less adjusted taxes) divided by invested capital (operating assets minus operating liabilities). ROIC is useful because it is independent of capital structure and reflects returns to both debt and equity.

How each of Porter's five forces affects pricing power and profitability:

1. Threat of substitutes: High threat of substitutes and low switching costs reduce pricing power.
2. Industry rivalry: High rivalry (low concentration, high fixed costs, high exit barriers, slow growth, undifferentiated products) reduces pricing power.
3. Supplier bargaining power: High supplier power reduces company margins because suppliers capture a greater share of value added.
4. Customer bargaining power: Strong buyer power (few customers, low switching costs) reduces pricing power and margins.
5. Threat of new entrants: High barriers to entry protect incumbents' returns and allow higher ROIC.

LOS 14.k - Forecasting under price inflation or deflation

Input costs matter in many industries (e.g., jet fuel for airlines, grains for food producers). Firms with commodity inputs can hedge with derivatives or fixed-price contracts; vertical integration reduces exposure to input-price variation. For firms without hedges or vertical integration, analysts must estimate how quickly and to what extent cost increases can be passed to customers and how price increases will affect unit sales (elasticity of demand).

When input cost increases are temporary, companies may cut discretionary costs (e.g., advertising) to preserve margins. For permanent increases, cutting other costs is not sustainable.

Example: Effect of price inflation on gross profit, gross margin, and operating margin

Alfredo, Inc. sells a specialised network component. Income statement for the prior year (20X1) is shown in the exhibit.

For 20X2, input costs (COGS) increase by $5 per unit. Calculate 20X1 gross and operating margins, and compute 20X2 margins under three scenarios:

1. Entire $5 unit cost increase is passed to customers via an equal increase in selling price; units sold unchanged.
2. Selling price is increased by 5% and units sold decrease by 5%.
3. Selling price is increased by 5% and units sold decrease by 10%.

Answer (summary)

1. 20X1 gross margin = gross profit / sales = $60,000 / $100,000 = 60%. Operating margin = operating profit / sales = $30,000 / $100,000 = 30%.

2.a) If unit price increases by $5 and units sold unchanged: 20X2 sales = $105,000; gross profit = $60,000; gross margin = $60,000 / $105,000 = 57.14% (≈57%). Operating profit = $30,000; operating margin = $30,000 / $105,000 = 28.57% (≈29%).

2.b) If price increases but units sold fall by 5% (example numbers): gross profit and operating profit both fall; in the illustrative calculation gross margin ≈ 57% and operating margin ≈ 27%.

2.c) If units sold fall by 10% with same price increase: gross margin ≈ 57% and operating margin ≈ 25%.

Note: In many practical examples the gross margin percentage can remain similar if both price and cost increases are in dollar terms, but operating margin will fall if fixed operating costs remain unchanged while sales decline.

The key analytic points: elasticity of demand, availability of substitutes, timing of competitor price changes, and hedging or vertical-integration status all determine how cost increases feed through to revenue and profit margins.

LOS 14.l - Effects of technological developments

Technological advances can reduce production costs (increasing margins for early adopters) or create improved substitutes or entirely new products (disruptive technology). Analysts can model introduction of new substitutes via a cannibalization factor, the percentage of new-product sales that displace existing-product sales. Cannibalization varies by sales channel and customer type (often lower for business customers than for consumers).

Example: Cannibalization

Alpha, Inc. manufactures LED bulbs sold to businesses and households. Seventy-five percent of Alpha's unit sales are to business customers. A new, more energy-efficient bulb is projected to sell 87,000 units to business customers and 11,000 units to households next year.

Assume cannibalization factors of 50% for businesses and 20% for households. Lost unit sales of the current product due to cannibalization:

Business cannibalization = 87,000 × 0.50 = 43,500 units.

Household cannibalization = 11,000 × 0.20 = 2,200 units.

Total lost unit sales = 45,700 units.

LOS 14.m - Choice of explicit forecast horizon

For a buy-side analyst, the forecast horizon may equal the expected holding period of the stock (for example, average holding period = 4 years for a 25% annual turnover). The horizon should reflect the investment strategy. For highly cyclical companies, choose a horizon long enough to include mid-cycle (normalized) earnings. When recent impactful events (acquisitions, restructurings) are present, the horizon should be long enough to reflect whether those events deliver expected benefits. Managers or investment mandates may dictate the forecast horizon.

LOS 14.n - Projections beyond the short-term horizon

For long-term earnings, one method is to extend trend revenue growth over a full economic cycle. Valuation uses forecast cash flows over the explicit period and a terminal value at horizon end. Terminal value may be estimated by a relative multiple or a DCF perpetuity. Ensure that the chosen multiple or perpetuity growth rate is consistent with expected growth and the required return. Small changes in perpetual growth rate materially affect terminal value and present value; recognise inflection points where future dynamics differ from past trends (due to economic changes, business-cycle stage, regulation, or technology).

Development of a sales-based pro forma company model

This section summarises the practical steps used to develop pro forma financial statements driven by sales forecasts. Use segment-level forecasts where segments differ materially; perform sensitivity and scenario analyses where appropriate.

Steps to build a sales-based pro forma model:

1. Estimate revenue growth and forecast future revenue (market growth & share, trend growth, or growth relative to GDP).
2. Estimate COGS (percentage of sales or a more detailed input-price based method).
3. Estimate SG&A (fixed, growing with revenue, or component-based forecast).
4. Estimate financing costs (interest rates, debt levels, and any planned changes in capital structure).
5. Estimate income tax expense and cash taxes, accounting for deferred tax changes.
6. Model balance sheet items that flow from the income statement (working capital accounts).
7. Estimate depreciation and capex for maintenance and growth to forecast net PP&E.
8. Use the pro forma income statement and balance sheet to construct a pro forma cash flow statement.

Module Quiz 14.1 & 14.2

Use the following information to answer Questions 1 through 6.

Jane Larsted, CFA, heads a retail coverage team. She is reviewing forecasts for two home-improvement retailers: Retail, Inc. (dominant market share) and Midsize, Inc. (smaller market share). Financial results for the most recent three years are shown in an exhibit.

Larsted allows each team member to choose their own revenue-forecasting method; results are discussed afterwards. The team members' assumptions are shown in Exhibit 1.

Exhibit 1: Assumptions Used for Modeling Revenue

E. Meyers

"I have assumed that the U.S. economy will expand sufficiently to post output growth in nominal terms of 2% for the coming year. Retail, Inc., is positioned in the home improvement sector, which is currently enjoying an upswing due to the recent strength of the housing sector. My model assumes that Retail, Inc., will see revenue growth that is 10% faster than U.S. output growth."

J. Conway

"My model used to forecast the revenue of Retail, Inc., assumes that the company will be able to increase its market share for next year from the current level of 35% to 38%. This is a realistic assumption given the number of new Retail, Inc., stores coming online and the demise of a significant competitor. However, I have assumed that housing growth will falter, and that the size of the home improvement retail sector will decrease from a total revenue figure of $40 billion this year to $38 billion for the forecast period."

E. Dominguez

"Revenue growth includes the following assumptions:

U.S. GDP will grow at a long-term real rate of 1% per year into the foreseeable future.

Retail, Inc., has seen an average revenue growth rate of 4% per year for the last five years. I expect this growth rate to decline linearly over the next five years until it is equal to the long-term U.S. GDP growth rate.

Long-term inflation is expected to be 2%."

Exhibit 2: Financial Results for Retail, Inc., and Midsize, Inc.

Larsted is concerned that the U.S. tax code may change. She provides selected tax information for Retail, Inc. in Exhibit 3 and asks the team to consider effects of an increased allowance for depreciation under two assumptions:

1. The change results in a 25% reduction in taxes charged in the current period and an increase by the same amount in the following period; this pattern repeats each year.
2. Pretax profit increases by 10% next year.

Exhibit 3: Tax Rate for Retail, Inc.

Larsted also asks the team to forecast Retail, Inc.'s balance-sheet debt for the next three years using Exhibit 4 assumptions:

Exhibit 4: Balance Sheet Debt Assumptions

• Retail, Inc. will maintain a constant debt-to-equity ratio.
• The company will pay out 100% of net income as dividends each year for the next five years; no share repurchases.
• No gains or losses in other comprehensive income are expected for the next three years.
• Profits are expected to be positive and to increase by 5% per year for the next five years.

1. Which of the following statements regarding the three team members' assumptions shown in Exhibit 1 is most accurate?

1. A. Myers is using a top-down approach, Conway is using a hybrid approach, and Dominguez is using a bottom-up approach.
2. B. Conway is using a top-down approach, and Myers is using a bottom-up approach.
3. C. Myers and Conway are using a top-down approach, while Dominguez is using a hybrid approach.

2. Which of the following statements regarding the three analysts' models in Exhibit 1 is most accurate?

1. A. The analyst using the "growth relative to GDP growth" approach is predicting a higher growth rate in Retail, Inc.'s, revenue than the analyst using the "market growth and market share" approach.
2. B. The analyst using the "growth relative to GDP growth" approach is predicting a lower growth rate in Retail, Inc.'s, revenue than the analyst using the "market growth and market share" approach.
3. C. The analyst using the "growth relative to GDP growth" approach is predicting a growth rate in Retail, Inc.'s, revenue that is more than 5% higher than the analyst using the "market growth and market share" approach.

3. Using the financial results for 2019 shown in Exhibit 2, it would be most appropriate for Larsted to conclude that economies of scale for firms in the home-improvement retail sector:

1. A. do not exist.
2. B. exist and are realized in cost of goods sold only.
3. C. exist and are realized in both cost of goods sold and SG&A.

4. Using the information in Exhibit 3 and Larsted's two assumptions, the cash tax rate should be closest to:

1. A. 21% in 2019 and 27% in 2020.
2. B. 21% in 2019 and subsequent years.
3. C. 26% in 2019 and 27% in subsequent years.

5. Under the assumptions given in Exhibit 4, Retail, Inc.'s, level of debt on the balance sheet is most likely to:

1. A. increase over the next three years.
2. B. remain constant over the next three years.
3. C. decrease over the next three years.

6. To try to validate her forecast of rapid revenue growth for Retail Inc. over the next year, Meyers schedules an in-depth interview with the management of Retail Inc. Meyers is most likely to be exhibiting the behavioural bias of:

1. A. conservatism.
2. B. representativeness.
3. C. confirmation.

Use the following information to answer Questions 7 through 13.

Jorge Stanza, CFA, covers Entertaining Kids, Inc. (ENK), a large U.S. toy retailer. A product recall (electrical problem in an inflatable-pool pump) has prompted expectations that the government will impose strict regulations for such toys. Stanza plans to add government involvement as a sixth force in his competitive model.

Exhibit 1: ENK Five Forces Analysis

Another concern is near-term inflation. Rising input costs and extreme weather affecting food prices may reduce discretionary spending on toys. Exhibit 2 shows ENK's current gross margin and two possible inflation scenarios at 5% next year.

Exhibit 2: Gross Margin

Stanza is also concerned about a new game console (XTF 2500). Although ENK has exclusivity with the console maker, Stanza fears the new console will cannibalize sales of other consoles. A significant share of ENK's console revenue comes from both individual customers and assisted-living facilities (ALFs).

Exhibit 3: Current Year Sales Figures

Exhibit 4: Forecasting Assumptions

Stanza uses data from a colleague at another firm who believes the XTF 2500 introduction is an inflection point and lists three factors that cause inflection points.

7. Stanza's intended treatment of government intervention in his competitive analysis model is:

1. A. consistent with Porter's five forces approach.
2. B. inconsistent with Porter's five forces approach, as government involvement should always be considered a reduction in the threat of new entrants.
3. C. inconsistent with Porter's five forces approach, as Stanza should analyze how government involvement affects all of the five forces.

8. Stanza is most likely wrong regarding the threat to profitability resulting from the:

1. A. bargaining power of customers, because a highly fragmented group (i.e., a large number of low-volume customers) complicates pricing strategy, which implies a high threat to profitability.
2. B. threat of new entrants, as the high costs of setting up a distribution network and new stores means there is a low threat to profitability.
3. C. bargaining power of suppliers, as the reliance of console suppliers on ENK gives ENK a high level of bargaining power.

9. Which of the following statements regarding the inflation scenarios in Exhibit 2 is most accurate?

1. A. Scenario 1 would lead to an increase in gross profit but a decrease in gross margin.
2. B. Both scenarios would lead to an unchanged gross margin.
3. C. Only Scenario 2 would leave gross profit unchanged.

10. Using the information in Exhibits 3 and 4, total estimated revenue from consoles next year should be closest to:

1. A. $2,494 million.
2. B. $2,548 million.
3. C. $2,594 million.

11. Regarding the choice of forecast horizon for a discounted cash flow model, which of the following statements is least accurate? The forecast horizon:

1. A. for a highly cyclical company should be long enough to allow the company to reach a mid-cycle level of sales and profitability.
2. B. should be independent of the investment strategy for which the stock is being considered.
3. C. should be long enough to allow the full benefits from an acquisition to be reflected in the financial statements.

12. Which of the three factors suggested by Hoombert is least likely to be the cause of an inflection point?

1. A. Factor 1.
2. B. Factor 2.
3. C. Factor 3.

13. Which of the following statements about building a model using pro forma financial statements is least accurate?

1. A. The cash flow forecast can be automatically generated using the forecasted balance sheet and income statement.
2. B. Depreciation is typically forecasted as a decreasing percentage of sales to reflect the ageing assets.
3. C. Working capital is often forecasted as a constant percentage of sales.

Key Concepts

LOS 14.a

Bottom-up analysis begins with company or segment-level information. Top-down analysis begins with macroeconomic expectations (commonly nominal GDP growth). A hybrid combines elements of both.

LOS 14.b

Growth-relative-to-GDP uses an estimated relationship between GDP and company sales to forecast company growth. Market-growth-and-market-share forecasts industry sales then applies an expected market share to estimate company revenue.

LOS 14.c

Economies of scale imply larger firms can achieve lower unit costs and higher operating margins as sales increase; look for lower COGS/sales and SG&A/sales for larger firms.

LOS 14.d

COGS is primarily variable and often modelled as a percentage of forecasted revenue. SG&A contains both fixed (R&D, HQ costs) and variable (selling and distribution) components; forecast components separately where possible.

LOS 14.e

Gross interest expense depends on gross debt and interest rates. Net debt = gross debt - cash & short-term securities; net interest expense = gross interest expense - interest income on short-term assets. Forecast income tax expense using the expected effective tax rate applied to pretax income and adjust for expected changes in the effective rate.

LOS 14.f

Some balance-sheet items flow from income-statement forecasts. Retained earnings reflect net income less dividends. Working capital items can be forecast using turnover ratios; PP&E is driven by depreciation and capex. Separate maintenance capex from growth capex; adjust maintenance capex for inflation.

LOS 14.g

Sales-based pro forma statements follow steps: forecast revenue; forecast COGS; forecast SG&A; forecast financing costs; forecast income taxes and cash taxes; model balance sheet items that flow from the income statement; forecast depreciation and capex; and derive the cash flow statement.

LOS 14.h

Behavioural biases that affect analysts include overconfidence, illusion of control, conservatism (anchoring), representativeness (including base-rate neglect), and confirmation bias. Mitigate these biases by structured critique, focusing on proven explanatory variables, using flexible models, and seeking dissenting views.

LOS 14.i

ROIC = NOPLAT / invested capital is useful across capital structures. Competitive environment expectations are central to forecasting future revenue and costs; there are no simple formulae but careful analysis of competitive factors is essential.

LOS 14.j

Summarised effects of Porter's five forces on pricing power and profit growth: substitutes, rivalry, supplier power, buyer power, and threat of entrants each reduce or increase pricing power and earnings prospects depending on their intensity.

LOS 14.k

Input-price exposure can be hedged or reduced by vertical integration. If unhedged, analysts must estimate pass-through of cost increases to prices and the demand elasticity effect on sales volume and revenue.

LOS 14.l

Technology can reduce costs or create substitutes/disruption. Model new-product introductions with a cannibalization factor (percentage of new-product sales that replace existing-product sales).

LOS 14.m

Choose the forecast horizon consistent with the investment strategy and long enough to capture mid-cycle normalized earnings and the effects of recent impactful events.

LOS 14.n

Longer-term earnings forecasts commonly extend historic cycle-average revenue growth. Terminal value must be consistent with the final-period growth and required return; small changes in perpetual growth can materially change valuation. Recognise potential inflection points where the future diverges from past trends.

Answer Key for Module Quizzes

Module Quiz 14.1, 14.2 - Answers

1. C. Myers is using a "growth relative to GDP growth" approach (top-down). Conway is using a market-growth-and-market-share approach (top-down). Dominguez combines growth-relative-to-GDP and historical company growth (hybrid).

2. B. Myers is using the growth-relative-to-GDP approach (top-down). Conway is using the market-growth-and-market-share approach.

3. B. Retail, Inc. is larger and has a larger operating margin, implying economies of scale exist and are realised in COGS rather than SG&A.

4. A. Retail, Inc.

5. B. Given a constant debt-to-equity ratio and constant equity (100% payout of net income, no buybacks, no other comprehensive income changes), the level of debt will remain constant.

6. C. Meyers is likely exhibiting confirmation bias by seeking management validation; she should seek dissenting views to mitigate this bias.

Module 14.2 - Selected answers and notes

7. C. Government involvement should be analysed for its effect on each of Porter's five forces (i.e., analyse impact across the framework).

8. B. High barriers to entry (distribution network and store costs) suggest the threat of new entrants poses a low threat to profitability; choice B is incorrect as a statement of heightened threat.

9. A. Scenario 1 increases gross profit but reduces gross margin (price increases do not fully offset costs relative to sales mix or inflation adjustments).

10. C. $2,594 million (see exhibit calculations and note about percent increases: a 100% increase = multiply by 2; a 375% increase = multiply by 4.75).

11. B. The forecast horizon should be influenced by the investment strategy; it is not independent of it.

12. B. A gradual reduction in prices can be incorporated into long-term growth and so is least likely to constitute an inflection point.

13. B. Depreciation is typically forecast as a constant percentage of sales or an increasing percentage if the asset base is expanding; it is not typically modelled as a decreasing percentage of sales to reflect ageing assets.

End of module.