As finance students, we are no stranger to the term ‘Financial Modelling’. But what exactly does financial modelling mean and why is it so important in finance?

Let’s find out.

What is Financial Modelling?

In simple terms, financial modelling is using a company’s historical performance to forecast its future growth. A financial model is simply a spreadsheet built using Microsoft Excel that is intended to be used for decision making. It is a combination of accounting, finance and business metrics.

There are many different types of financial models, including the three-statement model, discounted cash flow model and merger model to name a few. The most common of these models is the three-statement model which uses the income statement, balance sheet and cash flow statements. These three statements are linked using Excel formulas.

Uses of Financial Modelling

Financial modelling is used across many areas of finance including investment banking, corporate finance, private equity and also accounting.

Company executives may use them to estimate the costs and expected profits of a new project or the expansion of an existing project. This helps companies decide on how to manage their budget and also allocate company resources. It is also used by financial analysts to study the movement of the company’s stock as a result of internal or external changes. It is also used to study how a business is performing relative to their competitors.

What Skills Do You Need?

Like most areas in finance, you don’t need to be math genius to succeed. However, a strong knowledge of Microsoft Excel is desired, particularly knowledge of complex formulas and macros. For example, this comes in handy when linking Excel formulas as required in the three-statement-model. Excel is mainly used because it is the most customisable spreadsheet available.

Other skills that will be helpful include basic accounting. A sound understanding of financial statements and accounting principles is essential for building accurate and reliable models. Having good analytical and communication skills is key to drawing meaningful conclusions and presenting information in a way that is easily acceptable and understandable.

Conclusion

While financial modelling can sound intimidating, it is really just telling a story with numbers. However, its importance cannot be underestimated. Most skills required to build a reliable model is covered in university however, students wanting to enhance their abilities can also take online financial modelling courses or even practice using available templates.

Getting a hang of financial modelling becomes a big plus point on your resume and is one of the most powerful tools in the financial world.