"Pro Forma," Explained

This Latin term has some things in common with science fiction.

Motley Fool Staff
Motley Fool Staff
Feb 22, 2006 at 12:00AM
Other

What does it mean when you read the term "pro forma" on a financial statement?

Well, here's the problem. It used to reflect some rather helpful calculations, but now it's commonly used in a much less helpful manner. The better usage this is: Pro forma numbers on a financial statement mean that you're looking at what-if numbers. Imagine that Joanie, Inc. merges with Chachi Co. in April. At the end of the year, you might see some pro forma financial statements in JoanieChachi's annual report. These would show you the financial state of the firm as if it had been a combined company all year long.

In this case, pro forma results are useful. If you were researching JoanieChachi, Inc., you'd want to be able to compare apples to apples. It wouldn't be too insightful to contrast one period's results, pre-merger, with post-merger results. By examining combined results, you can get a clearer idea of the company's financial health.

Here's an explanation of the less useful usage of the term "pro forma": Companies have increasingly been offering investors "pro forma" numbers when they really just want to get rid of undesirable things. They're gussied-up numbers that companies would prefer you focus on instead of less attractive numbers that are often more accurate representations of the company's health or performance. These firms will often exclude in their pro forma numbers expenses related to acquisitions and charges taken for bad business decisions, etc. So from now on, when you see the term "pro forma," take off your rose-colored glasses.

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