You are reading the 2026 curriculum (exams up to November 2026). Sitting in February 2027 or later? Go to the 2027 Equities guide.

Learning Module 7 of Equity Investments 11–14% of the exam

Company Analysis: Forecasting

5 lessons. About 26 minutes in cram mode, 130 minutes in full.

Start with lesson 1 Learn with Sensei Read the module summary

Lessons

1
What to forecast, how, and over what horizon
explain 6 min cram, 28 min full
2
Forecasting revenue: top-down, bottom-up and hybrid
explain 6 min cram, 28 min full
3
Forecasting costs, margins and working capital
explain 6 min cram, 28 min full
4
Forecasting capital expenditure and capital structure
explain 4 min cram, 22 min full
5
Scenario analysis in forecasting
describe 4 min cram, 24 min full

What the exam expects you to do

Explain principles and approaches to forecasting a company’s financial results and position.What to forecast, how, and over what horizon
Explain approaches to forecasting a company’s revenues.Forecasting revenue: top-down, bottom-up and hybrid
Explain approaches to forecasting a company’s operating expenses and working capital.Forecasting costs, margins and working capital
Explain approaches to forecasting a company’s capital investments and capital structure.Forecasting capital expenditure and capital structure
Describe the use of scenario analysis in forecasting.Scenario analysis in forecasting

Module summary

The whole module on one sheet, organised by lesson: what to memorize, how the ideas fit together, the formulas and the key terms. No paragraphs, just what you need to revise.

Hide what I know

How deeply to learn each part

Know the idea: Understand it in general. It frames other topics, but you will not calculate with it.
Use it: Understand it well enough to solve a question with it. Recognize when it applies.
Memorize: Learn it by heart. The exam will not give it to you.

What to forecast, how, and over what horizon

Known

MemorizeFour approaches: when each fits

Approach	Fits	Avoid for
Historical results	stable, non-cyclical, unchanged industry; minor lines	cyclical firms (single year), restructurings, large deals
Base rates and convergence	young firm in established industry, many listed peers	new or changing industries, highly cyclical, the dominant leader
Management guidance	items management controls (costs, capex); proven record	macro-driven items (GDP, commodity prices); poor record
Discretionary	cyclical, few comparables, no guidance, fundamental change	views with no evidence

Memory hook Ask what the company is: steady (history), young and ordinary (base rates), controllable and trusted (guidance), cyclical or unique (your own view).

Know it cold An industry leader cannot converge to a base rate it dominates: that is just its own history. A cyclical firm needs a mid-cycle view, not the current year.

MemorizeHorizon: four influences

Memory hook S-C-C-E: Strategy, Cycle, Company events, Employer.

Know it cold Cyclical company: forecast far enough to reach mid-cycle. Long-term manager: about 3 to 5 years; short-term manager: the next quarters.

MemorizeForecast object principles

Memory hook If the company does not report it regularly, you cannot check your forecast.

Know it cold Prefer objects disclosed regularly (or computed from them). Do not build detail you cannot verify. Summary measures: efficient but opaque. Drivers: explanatory.

Key terms

forecast object Use it
drivers Use it
individual financial statement lines Know the idea
summary measures Use it
ad hoc forecast objects Use it
historical results Memorize
historical base rates and convergence Memorize
management guidance Memorize
discretionary forecast Memorize
forecast horizon Use it
mid-cycle Use it

Four kinds of forecast object

What the analyst forecastschoose on information, efficiency, accuracy, explanatory value and verifiability

Drivers of statement lines Memorize subscribers and revenue per subscriber; gross margin %
- Gain explanatory value, often accuracy
- Cost more inputs to forecast and update
Individual statement lines Use it lines without clear drivers, or immaterial ones
Summary measures Memorize free cash flow, earnings per share (EPS), total assets
- Gain efficiency: fewer variables
- Cost less transparent, harder to audit
Ad hoc objects Use it a loss or gain not yet in the accounts (legal case, disaster)

Four forecast approaches and where each fits

Forecast approachapplies to any object; often combined

Historical results Memorize past is precedent
- Fits stable, non-cyclical, unchanged structure; immaterial lines
- Avoid cyclical, restructuring, big acquisition
Historical base rates and convergence Memorize move toward a peer or industry long-run median
- Fits young or small firm in an established industry with many peers
- Avoid new or changing industries, highly cyclical, a dominant leader
Management guidance Memorize management targets, often a range
- Fits items management controls and has a record on
- Avoid macro-driven items; weak or promotional record
Discretionary forecast Memorize surveys, models, probabilities, analogies
- Fits cyclical, few comparables, no guidance, fundamental change
- Avoid when it has no evidence behind it

What sets the forecast horizon

Forecast horizonhow far ahead the model goes

Investment strategy Memorize long-term managers 3 to 5 years; short-term managers the next quarters
Cyclicality Memorize long enough to reach mid-cycle sales and profit
Company events Memorize time for an acquisition or restructuring to show its effect
Employer Use it may fix the horizon outright

Forecasting revenue: top-down, bottom-up and hybrid

Known

MemorizeRevenue forecast objects

Type	Object	Typical user
Top-down	growth vs GDP; market × share	any; stable macro link
Bottom-up	volume × price	software, airlines, asset managers, miners
Bottom-up	segment or product revenues	segments with different drivers
Bottom-up	capacity: outlets × sales per outlet	restaurants, hotels, gyms, retailers
Bottom-up	balances × yield	banks

Memory hook Top-down starts outside the company (economy, market). Bottom-up starts inside it (units, prices, outlets).

Know it cold Market share and market growth are top-down. Sales growth rate, average selling price, store count are bottom-up. Strip out non-recurring effects first.

MemorizeNon-recurring revenue effects

Memory hook C-A-W-O: Currency, Acquisitions (and disposals), extra Weeks or days, One-offs.

Know it cold Forecast underlying growth separately and add the non-recurring items on their own. They do not share the drivers of recurring revenue.

MemorizeComputations

Case	Rule
Premium in points	g = GDP + points
Premium relative	g = GDP × (1 + k)
Market and share both move	(M₁ × s₁) ÷ (M₀ × s₀) − 1
Volume and price	(1 + g_V)(1 + g_P) − 1

Memory hook "Faster than" or "x% of" means multiply. "Points above" means add.

Know it cold When both market and share move, compute both revenues and compare. Never add the market growth and the share change.

Key terms

top-down forecast Use it
growth relative to GDP growth Use it
market growth and market share Use it
bottom-up forecast Use it
volume and average selling price Use it
segment revenues Know the idea
capacity-based measures Use it
return- or yield-based measures Use it
recurring and non-recurring revenue Use it

Ways to forecast revenue

Revenue forecastany of the four approaches can drive any object

Top-down Memorize start from the economy or the market
- Growth relative to GDP Memorize nominal GDP, plus a premium or discount (points or relative)
- Market growth and share Memorize market size × company share
Bottom-up Memorize start from the company
- Volume × average price Memorize users, units, assets under management × fee rate
- Product, geographic or segment revenues Use it forecast each, then add
- Capacity-based Memorize outlets × sales per outlet; same-outlet growth + new openings
- Return- or yield-based Memorize balances × yield, for banks
Hybrid Use it check one against the other
- Bottom-up result against implied market share Use it does the share gain make sense?

Formulas

Revenue growth relative to GDP Use it

g_R = g_{GDP}\,(1 + k) \quad\text{or}\quad g_R = g_{GDP} + p

Quick example

Nominal GDP grows 3.5% and a company grows 60% faster: 3.5% × 1.6 = 5.6%. In points, the same forecast is a premium of 2.1 (3.5% + 2.1 = 5.6%). Adding 60 points would be absurd; read the wording.

On your calculator

3.5×1.6= 5.6 (percent)

3.5ENTER1.6× 5.6 (percent)

ENTER enter (on the HP, puts the number on the stack)

Revenue from market size and share Use it

R = M \times s \qquad g_R = \frac{M_1 s_1}{M_0 s_0} - 1

Quick example

Market 312 → 330 (billions) at a constant 4.5% share. Revenue 14.04 → 14.85, growth 330 ÷ 312 − 1 = 5.77%. If the share also rose, growth would be higher.

On your calculator

330÷312−1= 0.0577

330ENTER312÷1− 0.0577

ENTER enter (on the HP, puts the number on the stack)

Revenue from volume and price Use it

R_1 = R_0\,(1 + g_V)(1 + g_P)

Quick example

Revenue 80.0; volume +5%, average price +2%. 80.0 × 1.05 × 1.02 = 85.68, growth 7.1%, not 7.0%: the cross term is real.

On your calculator

80×1.05×1.02= 85.68

80ENTER1.05×1.02× 85.68

ENTER enter (on the HP, puts the number on the stack)

Forecasting costs, margins and working capital

Known

MemorizeWorking capital balances

Balance	Formula	Base
Receivables	DSO × revenue ÷ 365	revenue
Inventory	DIO × cost of sales ÷ 365	cost of sales
Payables	DPO × cost of sales ÷ 365	cost of sales

Memory hook Receivables are owed from sales, so they use revenue. Stock and suppliers are about purchases, so they use cost of sales.

Know it cold Hold last year's days unless there is a reason to change them. Growth in revenue raises receivables and inventory, absorbing cash.

MemorizeCost pass-through

Memory hook Same money added to price and cost: profit unchanged, price (the base) bigger, so the percentage falls.

Know it cold Money pass-through: margin = (P − C) ÷ (P + ΔC). To keep the margin percentage, the price must rise by the same percentage as the cost.

MemorizeOperating cost rules

Memory hook Fixed costs give leverage: sales up, fixed cost share down.

Know it cold Cost of sales: % of sales, coherent with mix. SG&A: fixed part grows with inflation or wages; variable part with sales. Mix shifting toward a low-margin line lowers the total margin.

Key terms

cost of sales Use it
gross margin Use it
cost pass-through Use it
product mix Use it
SG&A expenses Use it
days sales outstanding Memorize
days of inventory on hand Memorize
days payables outstanding Memorize

How to forecast operating costs and working capital

Costs and working capitalkeep coherent with the revenue forecast

Cost of sales Memorize forecast as a % of sales (a gross margin)
- Mix Use it faster growth in a low-margin line lowers the total margin
- Competition Use it share lost to cheaper substitutes presses margin; differentiated launches lift it
- Input costs Use it volume and price; lag and hedging before they reach customers
SG&A Memorize a mix of variable and fixed parts
- Selling and distribution Use it largely variable: % of sales
- General corporate costs Use it largely fixed: grow with wage inflation
Working capital Memorize days ratio × revenue or cost of sales ÷ 365
- Receivables Memorize DSO × revenue
- Inventory Memorize DIO × cost of sales
- Payables Memorize DPO × cost of sales

Formulas

Gross margin after a money pass-through Use it

m = \frac{P - C}{P + \Delta C}

Quick example

Price 80, cost 48; cost rises 8 and the price rises 8. (88 − 56) ÷ 88 = 32 ÷ 88 = 36.4%, down from 40.0%. Gross profit stays 32.

On your calculator

80+8=STO1 88
80−48÷RCL1= 0.3636

STO store · RCL recall a stored number

80ENTER48− 32
80ENTER8+÷ 0.3636

ENTER enter (on the HP, puts the number on the stack)

Price that keeps the margin percentage Use it

P^* = \frac{P\,(C + \Delta C)}{C}

Quick example

Price 80, cost 48, cost +8. P = 80 × 56 ÷ 48 = 93.33, a 16.7% price rise, the same percentage as the cost rise (8 ÷ 48)

On your calculator

48+8×80÷48= 93.33

48ENTER8+80×48÷ 93.33

ENTER enter (on the HP, puts the number on the stack)

Receivables from days sales outstanding Memorize

\text{Receivables} = \frac{DSO \times \text{Revenue}}{365}

Quick example

Revenue 730, DSO 40. 40 × 730 ÷ 365 = 80. Revenue, not cost of sales.

On your calculator

40×730÷365= 80

40ENTER730×365÷ 80

ENTER enter (on the HP, puts the number on the stack)

Inventory from days of inventory on hand Memorize

\text{Inventory} = \frac{DIO \times \text{Cost of sales}}{365}

Quick example

Cost of sales 292, DIO 45. 45 × 292 ÷ 365 = 36.0. Cost of sales, not revenue.

On your calculator

45×292÷365= 36

45ENTER292×365÷ 36

ENTER enter (on the HP, puts the number on the stack)

Payables from days payables outstanding Memorize

\text{Payables} = \frac{DPO \times \text{Cost of sales}}{365}

Quick example

Cost of sales 292, DPO 60. 60 × 292 ÷ 365 = 48.0. A longer DPO means a larger payable and less cash tied up.

On your calculator

60×292÷365= 48

60ENTER292×365÷ 48

ENTER enter (on the HP, puts the number on the stack)

Forecasting capital expenditure and capital structure

Known

MemorizeCapex and depreciation

Item	How it is forecast
Maintenance capex	historical D&A, adjusted up for capital goods inflation
Growth capex	management plans and revenue growth (discretionary)
D&A	net PP&E and intangibles, and useful lives
Useful life	gross PP&E ÷ annual depreciation
Net PP&E	beginning + capex − depreciation (− disposals)

Memory hook Maintenance replaces what wears out, so it tracks D&A. Growth is a choice, so it follows plans.

Know it cold Capital-heavy businesses (low fixed asset turnover) need a lot of maintenance capex. Capex below depreciation for years signals underinvestment.

MemorizeCapital structure forecast

Memory hook Pick the ratio first, then the money follows: debt = ratio × EBITDA.

Know it cold Use a leverage ratio as the object; base it on history, stated policy or covenants and the funding the capex plan needs. Debt comes from the target, not from guessing amounts.

Key terms

maintenance capital expenditures Memorize
growth capital expenditures Memorize
depreciation and amortization forecast Use it
useful life Use it
net PP&E roll-forward Use it
leverage ratio Use it
target capital structure Use it

Why a company spends on long-term assets

Capital expenditureon the cash flow statement; builds net PP&E and intangibles

Maintenance capex Memorize sustains today's business; roughly D&A plus capital goods inflation
Growth capex Memorize expands the business; discretionary, follows plans and revenue growth
Acquisitions Know the idea forecast as a separate object

How to forecast the capital structure

Capital structure forecastpick a leverage ratio, then derive debt and equity

Forecast object: a leverage ratio Memorize debt to capital, debt to equity, debt to EBITDA, net debt to EBITDA
Inputs Memorize what sets the target
- History Use it the company's usual ratio
- Financial strategy Use it stated target, covenants, guidance
- Capex plan Use it the funding the plan needs

Formulas

Maintenance capital expenditure Use it

K_m \approx DA\,(1 + i)

Quick example

Depreciation and amortization 2.0, capital goods inflation 4%. 2.0 × 1.04 = 2.08. Low fixed asset turnover pushes this higher.

On your calculator

2×1.04= 2.08

2ENTER1.04× 2.08

ENTER enter (on the HP, puts the number on the stack)

Approximate useful life Use it

\text{Life} \approx \frac{\text{Gross PP\&E}}{\text{Annual depreciation}}

Quick example

Gross PP&E 45.0 and depreciation 3.0 a year. 45.0 ÷ 3.0 = 15 years. New capex of 6.0 then adds about 6.0 ÷ 15 = 0.40 a year.

On your calculator

45÷3= 15
6÷15= 0.4

45ENTER3÷ 15
6ENTER15÷ 0.4

ENTER enter (on the HP, puts the number on the stack)

Net PP&E roll-forward Use it

PPE_{end} = PPE_{begin} + \text{Capex} - \text{Depreciation} \;(-\text{disposals})

Quick example

Opening net PP&E 20.0, capex 5.0, depreciation 3.0, no disposals. 20.0 + 5.0 − 3.0 = 22.0.

On your calculator

20+5−3= 22

20ENTER5+3− 22

ENTER enter (on the HP, puts the number on the stack)

Debt from a leverage target Use it

\text{Debt} = L \times \text{EBITDA}

Quick example

Target debt of 3.5 times EBITDA and forecast EBITDA of 40. 3.5 × 40 = 140. Net debt to EBITDA works the same way for net debt.

On your calculator

3.5×40= 140

3.5ENTER40× 140

ENTER enter (on the HP, puts the number on the stack)

Scenario analysis in forecasting

Known

MemorizeScenario against sensitivity

	Scenario analysis	Sensitivity analysis
Inputs changed	several, together, linked	one, others held constant
Result	bear, base, bull values with probabilities	how far the result moves per input
Example	recession: volume, price and margin all fall	subscriber growth ±5 points only

Memory hook A scenario is a story; a sensitivity is a dial.

Know it cold Weight scenarios by probability; compare with consensus and with the forecasts implied by the current price. The base case is not automatically the most likely single outcome.

MemorizeGeneric risk factors

Memory hook C-C-I-T: Cycle, Competition, Inflation or deflation, Technology.

Know it cold Name the ones that matter for the company: a lender lives with the cycle, a branded food maker more with input-cost inflation.

Key terms

key risk factors Use it
scenario analysis Memorize
sensitivity analysis Memorize
base case Use it
bull case Use it
bear case Use it
cannibalization Use it
consensus forecasts Use it

Risk factors that drive scenarios

Key risk factorseach scenario takes a different view of them

Generic risk factors Memorize affect all companies, to varying degrees
- Business cycle Memorize volume, price and margin move together
- Competition Memorize share and pricing
- Inflation or deflation Memorize input costs and prices
- Technological developments Memorize shift supply (cheaper production) or demand (a substitute)
Company-specific risk factors Use it a product launch, a regulator's decision

Scenario analysis against sensitivity analysis

Handling forecast uncertainty

Scenario analysis Memorize a few complete forecasts
- Changes several linked assumptions at once
- Output bear, base, bull; each with a probability
Sensitivity analysis Memorize one lever at a time
- Changes one input, all others held constant
- Output how much the result moves per input (a tornado)

Formulas

Probability-weighted scenario value Use it

E = \sum_i p_i\,V_i \qquad \sum_i p_i = 1

Quick example

Bear 10 (20%), base 14 (60%), bull 20 (20%). 0.2 × 10 + 0.6 × 14 + 0.2 × 20 = 2.0 + 8.4 + 4.0 = 14.40. The unweighted average, 14.67, ignores the probabilities.

On your calculator

(0.2×10)+(0.6×14)+(0.2×20)= 14.4

0.2ENTER10×0.6ENTER14×+0.2ENTER20×+ 14.4

ENTER enter (on the HP, puts the number on the stack)

Cheat sheet · PDF · 5 A4 pages

Company Analysis: Forecasting on 5 pages

What to memorize, the concept maps, every formula with a worked example and keystrokes for the TI BA II Plus and HP 12C, how each idea is asked, and the traps. Print it, or keep it on your phone.

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