264  Forecasting Performance financial statements, note 12 details this line item. Some of the components (such as compensation, benefit, and other employee-related costs) are operat- ing liabilities, and others are debt equivalents (such as environmental costs). Since the valuation of each of these items requires different treatment, the items must be separated on the expanded balance sheet. We prefer to collect raw data on a separate worksheet. On the raw-data sheet, record financial data as originally reported, and never combine multiple data into a single cell. Once you have collected raw data from the reported financials and notes, use the data to build a set of expanded (or simplified) financial statements: the in- come statement, balance sheet, statement of equity, and statement of accumulated other comprehensive income. Although the statement of equity appears redundant, it will be critical for error checking during the forecasting process, because it con- nects the income statement to the balance sheet. If available, accumulated other comprehensive income will be necessary to complete the free cash flow statement. As you build the integrated financials, you must decide whether to aggre- gate immaterial line items. Analyzing and forecasting too many line items can lead to confusion, introduce errors, and cause the model to become unwieldy. Returning to the Honeywell example presented in Exhibit 13.2, the income taxes payable account amounts to under 0.1 percent of Honeywell’s revenues.3 Therefore, you might simplify a valuation of Honeywell by combining income EXHIBIT 13.2  Honeywell: Current Liabilities in Balance Sheet $ million Balance Sheet 2017 2018 Accounts payable 6,584 5,607 Commercial paper and other short-term borrowings 3,958 3,586 Current maturities of long-term debt 1,351 2,872 Accrued liabilities 6,968 6,859 Total current liabilities 18,861 18,924 Note 12: Accrued liabilities Customer advances and deferred income 2,198 2,403 Compensation, benefit, and other employee-related costs 1,420 1,469 Asbestos-related liabilities 350 245 Repositioning 508 566 Product warranties and performance guarantees 307 243 Environmental costs 226 175 Income taxes 134 166 Accrued interest 94 94 Other taxes 277 234 Insurance 199 170 Other (primary operating expenses) 1,255 1,094 Accrued liabilities 6,968 6,859 Source: Honeywell International annual report, 2018. 3 Contrast this to accrued compensation and employee benefit costs; that account is nearly 15 times as large as taxes payable. Given its size, accrued compensation and employee benefit costs should not be aggregated with other accrued liabilities. Mechanics of Forecasting  265 taxes payable with the “other” account. When aggregating, however, make sure never to combine operating and nonoperating accounts into a single cat- egory. If operating and nonoperating accounts are combined, you cannot cal- culate ROIC and FCF properly. Step 2: Build the Revenue Forecast To build a revenue forecast, you can use a top-down forecast, in which you estimate revenues by sizing the total market, determining market share, and forecasting prices. Alternatively, with the bottom-up approach, you can use the company’s own forecasts of demand from existing customers, customer turn- over, and the potential for new customers. When possible, use both methods to establish bounds for the forecast. The top-down approach can be applied to any company. For companies in mature industries, the aggregate market grows slowly and is closely tied to economic growth and other long-term trends, such as changing consumer preferences. In these situations, you can rely on third-party forecasts of the aggregate market and focus your own efforts on forecasting market share by competitor.4 To do this, you must determine which companies have the capa- bilities and resources to compete effectively and capture share. A good place to start, of course, is with historical financial analysis. But more importantly, make sure to address how the company is positioned for the future. Does it have the required products and services to capture share? Do other competi- tors have products and services that will displace the company’s market posi- tion? A good forecast will address each of these issues. Over the short term, top-down forecasts should build on the company’s announced intentions and capabilities for growth. For instance, retailers like Costco have well-mapped plans for new store openings, which are their pri- mary driver of revenue growth. Oil companies like BP have proven reserves and relatively fixed amounts of refining capacity. And pharmaceutical com- panies like Merck have a fixed set of drugs under patent and in clinical trials. To value Costco in Appendix H, we relied on forecasts from the sell-side analyst community to project company revenue. Exhibit 13.3 presents one analyst’s forecasts for Costco. The forecast is split into domestic revenues, international revenues, membership fees, and ancillary businesses. The an- cillary-businesses segment includes gas stations and pharmacies. Using a geographically segmented forecast for Costco is important because revenue per square foot and square feet per store differ between domestic and inter- national stores. Details such as these will vary depending on the company and industry. Some analysts will provide their corporate clients with forecasts of the number of transactions, average revenue per transaction, and other 4 Examples of third-party forecasts include EvaluatePharma for drug-by-drug revenue forecasts, McCoy Power Reports for power generation equipment, and RBR for point-of-sale systems.