Financial Modelling: Definition and Applications

Financial Modelling: Definition and Applications

Financial modelling is a process that involves creating a spreadsheet-based representation of a company’s costs and profits. This representation may be used to predict the impact of future events or decisions on the company’s stock performance.

Knowledge of Financial Modelling

Financial modelling uses numerical data to describe a company’s past, present, and future operations. This data is used by company leaders to predict expenses and profitability of new projects, as well as by financial analysts to evaluate the impact of external and internal events on a company’s stock price. Financial models are also used in valuation, strategic planning, budgeting, and resource allocation.

Real-World Illustration

An example of financial modelling is using sales data from the previous and current year to predict sales growth in the future. This is just one of the many uses that can also be used to evaluate growth factors and make comparisons between companies in the same industry.

What Purposes Does Financial Modelling Serve?

Financial modelling serves as a tool for decision-making and financial analysis, used by both individuals within and outside of a business. It can be used for various purposes, such as obtaining funding, expanding the company, allocating capital, budgeting, and evaluating the company.

What Details Should Go into a Financial Model?

A financial model should include sections on assumptions and drivers, an income statement, a balance sheet, a cash flow statement, supporting schedules, valuations, sensitivity analysis, charts, and graphs to be meaningful and easy to understand.

Which Business Sectors Employ Financial Modelling?

A financial model is a tool used by professionals in many industries, such as public accounting, banking, private equity, and portfolio management.

Validation of Financial Model

Financial inaccuracies can result in costly mistakes. To ensure the accuracy of the model, it may be subjected to model validation, which is carried out by outsiders to verify the data and calculations included in the model.