Carol has taught college Finance, Accounting, Management and Business courses and has a MBA in Finance.
What is projected income, and why would you need to know how to estimate it? In this lesson, we'll discuss what it is, how to calculate it and why you might need to create a projection.
What Is Projected Income?
Projected income is an estimate of the financial results you'll see from your business in a future period of time. It is often presented in the form of an income statement, although it doesn't have to be.
How It's Estimated
Let's say you are a small business owner and are considering an expansion into the widgets business. You have decided to put together a projected income statement for the following year to see if the new product is worthwhile.
The first item you need to estimate is your revenue, also known as sales to customers. You believe you can sell 1,000 widgets at an average price of $50 each, so your revenue estimate is $50,000.
Cost of Goods Sold
Next, you need to estimate your cost of goods sold. This is the cost of buying or producing the widgets. In this case, you have already located a supplier who will sell them to you at $1,500 for 100 widgets, or $15 each. So, your estimated cost of goods sold for the 1,000 widgets you anticipate selling will be 1,000 * $15 = $15,000.
Gross profit is simply revenues - cost of goods sold. So, in this case, it's $50,000 - $15,000, which is $35,000.
Next, you need to estimate the additional operating costs you'll incur by offering this product. You'll need to pay a sales person a ten percent commission on sales of your widgets, which is five dollars each. For the 1,000 anticipated sales, this will be $5,000 for the year.
You also anticipate spending $500 a month for brochures and $1,500 a month for additional office costs, such as office supplies, telephone calls, and other odds and ends. Operating expenses are generally shown in broad categories, so your operating expense projection will be:
Marketing costs: $6,000 ($500 a month * 12 months)
Office costs: $18,000 ($1,500 a month * 12 months)
Finally, we can estimate our net income. For the accountants reading this - we're going to assume we don't need a loan to roll out this new business and ignore the impact of taxes to keep our example simple. Net income is our gross profit of $35,000 less our operating expenses of $29,000 = $6,000 for the year.
The Final Projection
Now that you've put together the revenues and costs of this venture, it's time to create your projected income statement. Here is the final projection, in standard income statement format:
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With this information, we can now decide if we want to add this product to our offerings for next year.
In this example, we created a projected income statement to decide whether or not to launch a new product for next year. Other reasons we might create one include:
Preparation of our annual budget
Creation of a long range business plan - perhaps for the next five years
Other business decisions - such as scenarios for modifying our product, expanding our sales staff or moving our office location
Let's review. Projected income is an estimate of the financial results you'll see from your business in a future period of time. It is often presented in the form of an income statement. To create a projected income statement, it's important to take into account revenues, cost of goods sold, gross profit, and operating expenses. Using the equation gross profit - operating expenses = net income, you can estimate your projected income.
Lesson at a Glance
Estimating your projected income involves calculating your net income, which is your gross profit minus operating expenses. This may be presented in the form of an income statement. Your income statement will include amounts for revenue, cost of goods sold, gross profit, and operating expenses.
Projected income statements can be used to prepare an annual budget or to create a long range business plan.
Following this lesson on projected income, you should be able to:
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