Section Learning Objectives
The Roll-Forward Concept
Every Balance Sheet item follows the same pattern: Ending Balance = Beginning Balance + Additions − Subtractions. This "roll-forward" connects the beginning-of-period balance to the end-of-period balance through activity during the period. Each addition or subtraction has a corresponding entry on the IS or CF.
Retained Earnings Roll-Forward
💰 Retained Earnings (Shareholders' Equity)
The most critical equity roll-forward — connects Net Income from the IS to equity on the BS.
Excel: =Prior_RE + Net_Income - Dividends
Key Points:
• Net Income comes directly from the IS
• Dividends are a financing assumption (payout ratio × Net Income)
• If Net Income is negative (loss), RE decreases
• Stock repurchases also reduce equity (separate line)
Dividends reduce Retained Earnings, NOT Net Income. They appear as a financing cash outflow in the CF statement, not as an expense on the IS.
PP&E (Net Fixed Assets) Roll-Forward
🏭 Property, Plant & Equipment
The largest asset for most companies — connects CapEx (CF) and Depreciation (IS) to the BS.
CapEx = Forecast assumption (% of Revenue or absolute)
Depreciation = Straight-line: Cost / Useful Life
Excel: =Beg_PPE + CapEx - Depreciation
Numerical Example:
Beg PP&E = $500M, CapEx = $50M, Depreciation = $40M
Ending PP&E = $500 + $50 − $40 = $510M
CapEx Links
- BS: Increases PP&E
- CF: Outflow in Investing
Depreciation Links
- BS: Reduces PP&E
- IS: Expense; CF: Add back
Working Capital Balance Changes
🔄 Operating Current Assets & Liabilities
Working capital balances are forecast using ratios (DSO, DIO, DPO) and feed the CF statement through changes.
Inventory = COGS × (DIO / 365)
Accounts Payable = COGS × (DPO / 365)
Accrued Expenses = SGA × (Accrual Days / 365)
Net Working Capital = (AR + Inventory + Other CA) − (AP + Accrued + Other CL)
Change in NWC = Current NWC − Prior NWC
→ Increase in NWC = cash outflow (more capital tied up)
→ Decrease in NWC = cash inflow (less capital tied up)
Numerical Example
| Item | Year 1 | Year 2 | Change | CF Impact |
|---|---|---|---|---|
| Accounts Receivable | $80M | $90M | +$10M | ($10M) outflow |
| Inventory | $60M | $55M | −$5M | $5M inflow |
| Accounts Payable | $40M | $50M | +$10M | $10M inflow |
| Total NWC Change | $5M inflow |
Debt Balances from the Debt Schedule
🏦 Debt Roll-Forward
Built in the debt schedule (Lecture 7) and linked to the BS and CF.
Links:
• IS: Interest Expense = Avg Debt × Rate (from debt schedule)
• BS: Ending Debt balance → Long-term liabilities
• CF: Borrowings = inflow; Repayments = outflow (financing)
• Revolver: Balancing mechanism (draws when cash is short)
Goodwill & Intangible Assets
📋 Goodwill and Intangibles Roll-Forward
Important for companies with acquisitions — typically constant unless impairment occurs.
Intangibles = Prior Intangibles − Amortization
Goodwill is NOT amortized under US GAAP; tested for impairment annually.
Intangibles (customer lists, patents) ARE amortized over useful life.
Simplification in models:
• No forecasted acquisitions → Goodwill stays constant
• Intangibles amortize to zero over estimated useful life
• Impairment is rare but must be considered for valuation
Hands-on Exercise: Roll‑Forwards (PP&E & Retained Earnings)
Practice the mechanics of roll‑forwards for PP&E and Retained Earnings. Download the dataset and follow the condensed instructions below. Full step‑by‑step solutions are hidden and can be revealed with the Show / Hide Solution Steps button.
Download Roll‑Forwards CSV Download Full Guide (includes solutions)
- Open the roll‑forwards CSV in Excel and locate beginning balances and the per‑year activity table.
- Build the PP&E roll‑forward: Beg PP&E + CapEx − Depreciation = Ending PP&E for each year.
- Build the Retained Earnings roll‑forward: Beg RE + Net Income − Dividends = Ending RE.
- Confirm that the PP&E roll‑forward equals the reported Net PP&E and that the RE roll‑forward ties to the Balance Sheet.
Key Takeaways
- Retained Earnings = Beg RE + Net Income − Dividends
- PP&E = Beg PP&E + CapEx − Depreciation (triple link: BS, IS, CF)
- Working Capital = Forecast using DSO/DIO/DPO; changes flow to CF
- Debt = Beg Debt + Borrowings − Repayments (from debt schedule)
- Every roll-forward follows the same pattern: Beg + Additions − Subtractions = End