I often wonder how many businesses look at the term ‘financial model’ and wonder, what is that and why would I ever need one? Today I’m going to talk about financial models and explain how they can be useful to businesses in all situations.
Try Googling the term ‘financial model’ and you will come up with a very interesting array of possibilities. It can all be a little bit overwhelming unless you have a very clear idea about what a financial model is and what you need to build one. Different product offerings, price points, and marketing messages all add to the confusion.
A financial model leverages the capabilities of sophisticated software applications like Excel to create flexible financial statements and scenarios that can be updated and re-updated over time. The inputs are variable (ex. revenue projections), while the outputs are automatically recalculated as the inputs change (ex. net income).
For example, let’s say that you want to send potential investors some information about the merits of investing in your business. As part of the package, you want to send a financial model to show how lucrative the opportunity is. You need to send 3-5 year projections including a balance sheet, income statement and cashflow. Now, if you were to just draw up those statements using a simple spreadsheet or, even worse, a Word document, then every time there is a small change in one of the underlying assumptions about the business, all of the numbers need to be recalculated. A financial model would allow you or the potential investors, to modify any assumptions and instantly see how the changes affect the projected financial performance of the business.
So how can it be used in by businesses on an on-going basis?
Financial models help make the future of a company’s financial health easier to forecast. They allow for assumption testing, “what if” analysis and easy updating. Since the most important aspect of a business financially is the cashflow, a financial model is a great way to forecast a company’s cashflow on an on-going basis. Regardless of the specific purpose that a model is used for, it is a great way to see the company’s financial results in real-time rather than waiting for quarterlies or year-end statements.
How do you know what you need in your financial model?
If you have given the idea some thought and still are not sure, then it is probably best to ask someone who has done it before, whether it is an individual or a company.
Should you build your own financial model?
If you know relatively complex commands on Excel, and the fundamentals behind financial statements, then yes. There are a lot of great, free resources on the Internet to teach you how to build a customized financial model. If you are missing one of these elements, then it may not be worth the time to learn from scratch.
What can Lumos Business Solutions offer for financial modeling?
We are not accountants or CFA’s, but we can build basic to moderately sophisticated financial models. Depending on the complexity of the business, we can build fully customized models on cost-effective terms. When building a financial model, various complications can arise, which is why we have a network of number crunchers in place to help us with any questions.
If you would like to learn more about our financial modeling package, simply contact us and we can send some information and examples your way.
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