- Karthikeyan V
- October 2, 2021
- 6:21 am
F-Cube Series – Finance Fundamentals for Founders – Financial Modeling (Part 2) – Why use a Financial Model
In Part 1, we understood the meaning of a financial model, its contents and it’s relevance to business-owners. In this post, we will look into why we use a financial model at all.
How do you normally make decisions? Do you have a process or method to your decision-making? Does Financial analysis and cash flow analysis help you with such decision-making?
To start off on the right foot in any business endeavor, it is important to analyze your financial situation before taking action. Understanding where your business stands financially gives you clarity on making decisions about future investments or expenses. The same principles apply when considering an investment opportunity – understanding if there’s enough money available in the time spent funding a new investment is critical information. This is where your cash flow statement comes in. It is used to track all incoming and outgoing funds associated with any growth investments or working capital.
Some analyses facilitated by the different components of your financial model are:
- Determining the feasibility of a project
- Understanding what your expected cash generation potential is in the future
- Break-even analysis for determining when all investments have been recovered
- Assessing your company’s profitability by projecting Operating Profit after deduction of all Cost of Sales, Operating Expenses like staff, sales and marketing, administration expenses along with others, determining risks and opportunities and so on
- Preparing for the base case, best case and worst case based on different assumptions in the Scenario analysis
To elaborate, cash-flow analysis and financial analysis are the key components for any business decision. With the help of financial models, you will be able to make more informed decisions and eliminate costly mistakes. Financial analysis is all about analyzing the company’s performance by looking at its assets, liabilities, revenues, expenses and equity (or net worth). This type of analysis allows us to understand if we are making money or losing money on our current course of action. Cash flow management analyzes revenue sources against expenditures across various time periods in order to track cash inflows and outflows resulting from operating activities. The goal is predicting future cash needs so that the business is able to manage its short term obligations as well long term growth.
A company’s financial health is essential for decision making. A good understanding of cash flows can be the difference between success and failure; financial models are the best tool to help you make life easier as a founder or CEO.
If you’re not sure where to start, there are plenty of resources available online and in the Fynmodels Portal, or you can consult with a financial professional. Creating a financial model is an important step in starting any business, so don’t hesitate to get started today!
F-Cube Series: This is part 2 of 5-part series of blog posts
- What is a Financial Model
- Why use a financial model
- How to create a financial model
- Types of models in finance
- Use-cases of financial models
