Many people are rather confused by the terms financial model and excel spreadsheets. Are they one and the same? Or are there significant differences?
What is excel financial modeling and what is financial modeling?
Truth be told, there is a very fine line distinguishing them and the confusion might come from the fact that an Excel spreadsheet is where you create a financial model.
This means that a financial model built on excel spreadsheets basically ends up as a very complex excel spreadsheet.
Simply put – financial modeling is the structure that contains data input and output. It means that by changing certain factors, you can see what impact a specific change on input will have to the output. Excel spreadsheet is where you execute that.
So then the more important question is – why is financial modeling ineffective in Excel spreadsheets?
- A financial model has to be structured
A financial model to be effective must contain a set of changing assumptions, inputs, outputs, simple to complex calculations, varying scenarios, a set of business rules, set of standard financial forecasts such as P&L, cash flow, balance sheets.
The trouble with doing all these in Excel spreadsheet is that there is no good way to structure them effectively within the spreadsheets. Setting up organizational hierarchy within an excel spreadsheet for example requires high level skill and tremendous amount of effort when it comes to maintenance.
There are also factors like putting in business rules or complex calculations that make excel spreadsheets prone to errors and crashing.
- A financial model has to be dynamic
An excel spreadsheet is static. This means that once completed, it becomes a report that cannot accommodate changes. A financial model, on the other hand, must always allow the users to change certain variables in their calculations in order to see the effects of their assumptions to the business.
- A financial model has to have multiple dimensions
A financial model has to utilize relationships among various variables in order to create a sensible report. The trouble with excel spreadsheets is that it just isn´t designed to handle multiple parameters or dimensions. It is usually just two dimensional.
- A financial model has to have the ability to perform multiple scenario analysis
An excel spreadsheet shows historical data but a financial model must have the capability to bear hypothetical outcomes.
An effective financial model must always make it possible for the user to perform a ”what-if” scenario. For example, what if I increase the salary of the employees by 3.5%, what is its effect to the current cash flow? How about its effect to the planned market expansion? How much discount are we allowed to offer at a specific holiday before the company starts losing money?
These types of multiple scenario analysis is not possible with excel spreadsheets as it is too limited in its capabilities not to mention it would require significant effort and skill from the user.
- A financial model should be flexible and easily updated
One of the biggest disadvantage of an excel spreadsheet is that it takes a long time to complete the entire process of financial modeling and by the time it is done, you have a static, unchangeable output.
In uncertain times and at times when the market is faced with rapidly changing regulations, political turbulance, fierce competition, it is important that a financial model is real-time, easily updated to reflect current changes and flexible enough to accomodate unforeseen events or factors.
Financial Modeling Software
To solve the issue of not being able to effectively create a financial model in excel spreadsheets, there are financial modeling software like Performance Canvas Financials out in the market today.
Performance Canvas Financials is a cloud-based financial modeling software that makes financial modeling effortless while still reaping the benefits of excel spreadsheets. It uses Excel on its front end to make it easy for users to learn the tool. At the same time, it has a powerful server that takes care of mapping hierarchy, storing formula/calculations, business rules or business logic.
With Performance Canvas Financials, you get the best of both worlds – financial modeling and excel modeling in one, easy-to-use and affordable software. Visit www.performancecanvas.com to learn more or email [email protected].
DSPanel offers cutting edge technology platform for business analytics, planning, and visualization. DSPanel designs, builds, and operates with the end users in mind. Performance Canvas was created by DSPanel to answer the unarticulated needs of the market not addressed by previous available solutions. With Performance Canvas, information is transformed into valuable business insights for the business executives to utilize in their decision-making process. DSPanel currently has over 2500 organizations deploying their solutions.