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How can you create custom financial models in Excel for any industry?

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Financial modeling is a crucial skill for any investment banker, as it allows you to analyze the performance, valuation, and risks of different businesses and transactions. However, not every industry has the same financial drivers, assumptions, and metrics, so you need to be able to create custom financial models in Excel that suit your specific needs and objectives. In this article, we will show you how to create custom financial models in Excel for any industry, using some basic principles and techniques that you can apply to any scenario.

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1 Understand the industry

Before you start building your financial model, you need to understand the industry you are dealing with, and what are the key factors that affect its revenues, costs, margins, growth, and profitability. You can use various sources of information, such as industry reports, company filings, market data, and expert opinions, to research the industry trends, dynamics, competitive landscape, and regulatory environment. You should also identify the main drivers and assumptions that you will use to forecast the future performance of the industry and the company you are modeling.

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Chris Reilly

I teach Financial Modeling based on real Private Equity and FP&A experience.
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Everything can be mapped back to a three statement model, so you want to make sure that part of the model functions properly. From there, you're just building sub-schedules for the income statement and balance sheet accounts (as needed). That's where the custom logic is added.

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M. Todd Lucas

Leader of Dynamic and Engaged Teams
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A deep understanding of the industry, but also the nuances of the individual company being modeled are paramount. If the model does not take into account the manner in which the company operates, it is potentially fatally flawed. Timing of revenues, operating expenses, capital expenditures, capital injections, debt, etc. all play a part in the model and ultimately the subsequent valuation that can be the result of the model.

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2 Define the structure and scope

Next, you need to define the structure and scope of your financial model, and decide what level of detail and complexity you want to include. You should consider the purpose and audience of your model, and what questions you want to answer with it. For example, are you trying to value a company, assess a merger or acquisition, evaluate a project or investment, or test a strategy or scenario? Depending on your goal, you may need to include different components in your model, such as income statement, balance sheet, cash flow statement, valuation methods, sensitivity analysis, scenario analysis, or debt schedule. You should also decide how many years of historical and projected data you want to use, and how frequently you want to update your model.

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Emmanuel Collins Miiro

Financial Planning & Analysis
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To create custom financial models in Excel for any industry, follow these steps: ?Identify key financial metrics for the industry. Industry specific key financial metrics will vary but some common metrics include revenue, cost of goods sold, operating expenses, net income, and earnings per share. ?Create a financial statement template. This will include the balance sheet, income statement, and cash flow statement. ?Populate the financial statement template with historical and projected data. The historical data can be obtained from the company's financial statements, and the projected data can be obtained from the company's management team or industry analysts. ?Customize the financial model to address the specific needs of the industry.

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3 Set up the inputs and outputs

Once you have defined the structure and scope of your model, you need to set up the inputs and outputs of your model, and organize them in a clear and logical way. You should create separate worksheets or tabs for your inputs and outputs, and label them accordingly. Your inputs should include all the drivers and assumptions that you will use to forecast the revenues, costs, cash flows, and other financial metrics of your model. You should also make sure that your inputs are easy to change and update, and that they are linked to reliable and consistent sources of data. Your outputs should include all the results and outputs that you want to generate from your model, such as financial statements, ratios, charts, graphs, valuation metrics, or key performance indicators. You should also make sure that your outputs are easy to read and interpret, and that they are formatted and presented in a professional and attractive way.

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Akira Mizoguchi, CPA

Fractional CFO for Small Businesses | Toronto & Tokyo
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Creating separate tabs for inputs, like volume and prices for sales and purchases, is crucial for facilitating easy inspection of inputs. While some preparers may lean towards integrating inputs into calculation tabs, it's generally unfriendly for a diverse range of reviewers, including investment committee staff, lenders, and co-investors.

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4 Build the calculations and formulas

The next step is to build the calculations and formulas that will link your inputs and outputs, and produce the financial projections and outputs of your model. You should use Excel's built-in functions and features, such as formulas, references, ranges, tables, arrays, conditional statements, lookup functions, or data validation, to create accurate and robust calculations that can handle different scenarios and changes in your inputs. You should also use consistent and clear naming conventions, cell styles, and formatting, to make your calculations and formulas easy to follow and audit. You should also check and test your calculations and formulas for errors, inconsistencies, or circular references, and use Excel's tools, such as error checking, formula auditing, or debugging, to fix any issues.

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Blagoja Hamamdziev

Founder and CEO at Modeliks | Advanced business planning simplified
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Building a proper financial model in Excel takes a lot of time, skill and is still prone to error. Just use dedicated planning software and make your life better and easier. I love excel, but today there are better options, we just need to get out of our comfort zone and try something new :) No formulas, references, data validation, formatting, charting, error finding, circular references, etc. But if you decide to use excel for planning, make sure you build a driver based model and have a defensible benchmark for every key input and output. The first time I raised funds, the VC said that the logic and defensiveness of my financial model was the reason that tipped the scale towards investing (on top of great idea and team!).

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M. Todd Lucas

Leader of Dynamic and Engaged Teams
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The 3 most important things to do when you complete building a model: 1) Test 2) Test 3) Test For extra protection, ask a colleague to try to 'break' the model.

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5 Analyze and interpret the results

The final step is to analyze and interpret the results of your financial model, and draw meaningful conclusions and recommendations from them. You should use Excel's tools, such as charts, graphs, pivot tables, slicers, or dashboards, to visualize and summarize your results, and highlight the key findings and insights. You should also use Excel's tools, such as what-if analysis, goal seek, solver, or data tables, to perform sensitivity analysis, scenario analysis, or optimization, and see how your results change under different assumptions or conditions. You should also compare and benchmark your results with industry standards, market expectations, or historical trends, and identify any gaps, risks, or opportunities. You should also communicate and present your results in a clear and concise way, and support your arguments with evidence and data.

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6 Here’s what else to consider

This is a space to share examples, stories, or insights that don’t fit into any of the previous sections. What else would you like to add?

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How can you create custom financial models in Excel for any industry?

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1 Understand the industry

2 Define the structure and scope

3 Set up the inputs and outputs

4 Build the calculations and formulas

5 Analyze and interpret the results

6 Here’s what else to consider

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