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Financial modelling is a method to prepare a summary of the incomes and expenses of a company. Prepared in spreadsheets, these models help business owners to predict the financial future of their company.
Financial modelling is an exercise needed for corporate finance or asset pricing. With it, the fluctuations of the financial agents or markets get converted into numerical predictions. Generally, this prediction depends on future assumptions and the company’s historical performance.
It requires preparing schedules (namely 3 statement models), cash flow statements, balance sheets, and income statements. From here, one can create more advanced models such as consolidation, IPO, Leveraged Buyout, Discounted Cash Flow (DCF), and merger models.
Uses of a Financial Model
With the definition of financial modelling out of the way, it is essential to understand its usage. The utilization of such a system is widespread; executives use financial models inside a company to take decisions related to:
- Management Accounting
- Ratio analysis/ financial statement analysis
- Valuing a business
- Capital allocation (to determine the most effective investment strategy)
- Forecasting and budgeting for the upcoming years
- Divesting or selling business units or assets
- Expanding the business organically, such as entering new markets and opening new stores
- Making acquisitions (assets and/or businesses)
- Raising capital (equity and/or debt)
- Projecting raw material requirements
- Building a roadmap to business profitability
- Identification of undervalued securities
- Evaluation of portfolio performance
Advantages of Financial Modelling
Here are the various benefits of a financial model:
Helps a business to grow
A financial model highlights the areas that have the potential to generate higher profits. It also enables cost-benefit analysis for new projects. As such, executives can find out which projects or areas can bring growth and better profitability.
Offers accurate budgets
It designs financial forecasts and budgets by business data. With these forecasts and budgets, business activities remain within the prescribed structure. Moreover, it helps a company to allocate its financial resources in a more structured, well-planned way.
Generates prompt outputs
Often, a business takes time to determine the effect of a particular decision or to get the answer to a specific financial question. However, financial models deliver prompt results, which, in turn, facilitate quick decision-making.
Ensures variance analysis
A financial model helps to conduct variance analysis by correlating the actual outcomes of a company against its budget. Executives can carry on the performance review periodically to get feedback on the company’s operations. Certain advanced models allow companies to adjust their operations and improve overall profits.
Prepares for uncertain situations
It makes executives understand how a company operates and which factors can impact its business. They can evaluate the expected changes in a situation when there are fluctuations in the external and internal environment of a company.
Decides the fund strategy
It effectively predicts the expected cash outflows and inflows. Further, it helps to understand what will be the position of cash flow after meeting the loan repayments and interest expenses. With this, a business can determine whether to take a debt or how much debt they can take.
How to Enter the Field of Financial Modelling?
One can efficiently manage business finances and reduce financial risks through a recognized chartered financial analyst course in India. Go for the Certified Investment Banking Operations Professional course of Euronext to build your skills.
Some platforms/institutes facilitate financial modelling certifications once a student has passed class 12th, while some others offer the same after a student has passed class 10th. There are no particular eligibility criteria to register for these courses.
However, candidates must have a preliminary knowledge of finance as well as the necessary skill set to pursue such courses. Students having an MBA or CA degree or CFA candidates may find the syllabus and curriculum more relevant.
Additionally, if you wish to become a successful financial analyst, opt for the job-ready financial analysis course of Imarticus in collaboration with KPMG.
The demand for financial analysts has increased significantly over the years, and a well-trained professional can fetch a good salary package from any company. So, if you are interested in this area of operations, hopefully, this blog will help you to understand the fundamentals of this segment and operate accordingly.