The Guide to Developing a Financial Model | FinModelsLab

Every company requires a financial model for its decision-making. It is crucial to understand and to use appropriate tools to make a financial model. Of course, developing a successful financial model lays out questions that require answering.

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This article will provide a short tour about how to build financial models and some tips for success, as many beginners find it difficult to develop an effective financial model due to its complexity. But before starting with some tips and resources on developing a financial model for investors and for a startup idea, it is important to understand the basics.

Financial Model and Its Types

A tool that helps analyze and improve the dynamics of a business’s finances is a financial model. Its main purpose is to predict financial outcomes in the future. A company hires different professionals to make such models and update them.

Following are the major types of financial models that are used by companies:

• Three-Statement model
• Discounted cash flow model
• Merger model
• Consolidation model
• Budget model
• Forecasting model
• Option Pricing model

And when it comes to picking the type of model, it depends purely on the needs of the company and corporate finance interpretation. It is simply because the main goal is to analyze the company’s finances properly.

How to Make a Financial Model

According to Investopedia, a financial model is better made in Excel rather than some sophisticated software because it can be customized to a company’s specific needs. It’s easy to make a financial model but takes years of practice to master it. Making financial models for established companies and then trying to match with their current market value is a good way to practice.

And researching about it might help in many other ways. Many courses are provided online to help people in their initial stages. However, if you want an easier way, you can ask for help and start working with financial experts when developing a system that can model the risks in financial terms.

Why Develop a Financial Model

Appropriate financial models are the key to success in areas like corporate development, financial planning, and investment banking, to name a few. All the big companies rely on their finance models for their growth and expansion into new areas. Moreover, the startups that provide financial services require the income statement from the model. According to Gartner, enterprises use basic modeling for their analysis when advanced digital methods are available.

Therefore, regarding the following, the most important decisions depend on the financial model:

• Investing in a project or asset
• Merger or acquisitions of assets
• Ratio analysis and cash flow metrics
• Flexible and adaptable cost models

When dealing with finances, merely depending on personal thought or instinct seems to be the wrong choice. The best thing is to test the situations, interpret the financial outcomes, and make better choices based on the financial model. Therefore, the financial modeling industry is racing toward near perfection in creating reliable and cost-effective models. Investing in financial modeling is one of the high priorities over the next two years (26 percent) according to information from Statista.

Special Excel Tips

Excel is the software of choice, which is used by almost all the corporations and financial institutions because of its versatile and customizing nature. Special techniques in Excel can be used to make the work easy and presentable to the common user.

However, the downside of Excel is that there is no way to be sure about the accuracy of the model. Some of the best tips for Excel are:

• Various keyboard shortcuts
• Using simple calculations and formulas
• Group function usage to unify the sections
• In order to locate complicated formulas, use F5
• Add the grid lines to charts to line up the points
• Use INDEX MATCH rather than VLOOKUP
• Use date functions to make date more dynamic

Structuring and Organizing

Apart from better-than-average Excel skills, professional financial model developers also concentrate more on the organization of the Excel spreadsheet. Structuring is important for the companies, which helps them locate the important parts of the model.

Following are some of the things that can be done to improve Excel skills:

• Color coding for input and output to make the Excel sheet easier to read
• For the three-statement model, building the model on one worksheet is essential
• Demarcate the assumptions from the rest of the model
• When some calculations need explanation, using “cell comments” is better

Make Your Excel Sheet Professional

In conclusion, note that financial models are a necessity in financial services, and the tips above can improve their functionality. The main financial model concept is about reducing loss. Also, provide financial forecast using top-down, bottom-up, or regression analysis, followed by the statements, linked using some basic calculations. And finally, represent all the calculations using simple graphs or charts in order to have effective results.

Try to make your Excel sheets look professional and simple. Building a financial model for a business can be quite cumbersome. Let us help you today!