Establishing key assumptions in building a financial model

Establishing key assumptions in building a financial model is essential to ensure accuracy and success. As a business leader, you will need to consider many different factors before constructing your model. Here are some tips that can help:

1. Set realistic assumptions: Take the time to research and understand the industry trends and historical performance of the company. Doing this will help you set realistic, achievable assumptions for your financial model.
2. Analyze the data: Once you’ve gathered the appropriate data, take the time to analyze it and see if it is in line with what you expected. This will help ensure that your assumptions are valid and give you greater confidence in your model.
3. Identify key drivers: Consider any external factors that could affect your assumptions and analyze how they might influence your results. This will help you identify potential risks or opportunities and make sure your model is as accurate as possible.

As a business leader, it’s important to take the time to establish realistic, achievable assumptions for your financial model. With a little research and analysis, you can confidently move forward with the development of a successful financial model. The more prepared and knowledgeable you are, the more likely it is that your assumptions will be correct and your model will yield successful results.

Building a Robust Model

Most business leaders are immensely proud of their financial models and are confident that it will stand up to scrutiny. However, most investment bankers will tell you that one of the first challenges in preparing a company for a significant fundraising transaction is to completely re-build their financial model.

During this video, experienced CFO and professional mentor Paul McKoen shares insights on the typical challenges that arise from bankers and financiers during a fundraising process:

One common issue is that the financial model may be too basic. It is important to remember that potential investors and lenders will want to fully understand the key drivers of the business and scrutinize each of the performance metrics. The model needs to include sufficient detail of these, presented in a clear and concise manner.

Another common issue is that the assumptions made in the financial model may be unrealistic. For example, many models assume that revenue will grow at a constant rate. However, in reality, revenue often fluctuates and can be difficult to predict. As such, it is important to make sure that the assumptions made in your financial model are realistic and achievable.

Flexibility is key when it comes to financial models. Bankers and financiers will often challenge key assumptions and want to determine the impact of any variations. For example, if sales were to reduce by ten percent, or if the EUR foreign exchange rate weakens against the USD, or if interest rates increased by two percent. Each of these factors could have a significant impact on the business and should be considered when creating a financial model.

An additional problem with financial models is that they can often be too complex. This can make them difficult to understand and interpret, which can lead to errors being made. Simplicity is often key when it comes to financial modelling, as it allows for easy understanding and fewer mistakes.

Finally, another common issue with financial models is that they can often be inaccurate. This is because there are many variables involved in a business, and it can be difficult to account for all of them in a model. As such, it is important to regularly review and test your financial model to ensure that it is still accurate.

Summary

If you are facing any issues with your financial model, it is important to seek help from a qualified professional. They will be able to help you understand the issues and make the necessary changes to improve your model.

Remember, a financial model is only as good as the assumptions that go into it, so make sure that they are realistic and achievable. With the right financial model, you can safeguard your business during a fundraising process or other significant business event.