Creating a financial model is common for any business. One of the main types of these created is the 3 statement financial model. There is a range of things you need to consider when it comes to creating this, though. Here, you will understand the basics of 3 statement financial modeling excel and how to build its integrated version.
The first thing that you must be wondering is what a 3 statement financial model is. It is perhaps the basic version of financial modeling excel as it accounts for all the financial statements, including the income statement, balance sheet, and cash flow statement. Creating this financial model helps you take a step further than just simple accounting.
With this, you will be able to forecast your future cash flows and then create a business budget. It might sound easy, but you will have to look at a range of things when creating the 3 statement financial model.
You need to focus on three main things as you go about financial modeling excel; formatting, periodicity, and structure of the financial model. Each of these holds an immense amount of importance. So stay tuned to understand how to go about each of them.
When it comes to the 3 statement financial model format, you want to make sure that you’re practicing standardized procedures. Don’t try to make too many variations when it comes to the format. But what is the standard practice?
You want to ensure that your input is in blue, and the formulas should be in black. Follow this color code throughout your financial models to make them easier to understand. If you go with a single color for everything, it will get difficult to set apart your inputs, formulas, and links.
Moreover, always make sure that you are consistent with your data format. If you’re using two decimal places for your values, then stick to the same rule throughout your financial modeling excel.
Next, we have the periodicity. What does this mean? Essentially, this refers to the periods that you divide your financial model. There are four variations that you will find here; annual, quarterly, monthly, and weekly.
You can use any of these variants when creating your 3 statement financial model. However, when it comes to the presentation of it, the annual periodicity is always considered. When it comes to working, you can get into more details through the other methods.
The most common uses of the annual variation are to figure out the DCF value. Yearly cash flows are taken to figure out where the business stands by the end of a specific time frame. Moreover, quarterly and monthly 3 statement financial models eventually are converted to annual ones. The weekly one is used to keep a check on the cash and liquidity of the business.
Now, when it comes to the structure of the financial modeling excel, you want to ensure you’re following a particular structure. It holds especially for extensive 3 statement financial models. You don’t want to have a haphazard financial model. It will make it difficult for you to understand and will drive away any potential investors.
Ensure that your assumptions or inputs are in a separate sheet so that it is easier for you to know every aspect of the financial model. Moreover, you will also need to ensure that you’re not going excessive when it comes to linking files. If you move around your financial model to different devices, it will get difficult to keep track of all the data that is coming in your financial modeling excel.
Now, you must be wondering what an integrated version of a 3 statement financial model looks like. Well, it is pretty similar, but it is more connected internally. What does this mean? Well, your 3 statement financial model is primarily built on assumptions that you input. In the integrated version of a 3 statement financial model, you will see that each of the financial statements is better linked with each other.
Essentially, any change in the assumptions will automatically show a clear impact throughout the financial model. Since the income statement, balance sheet, and cash flow statement are thoroughly linked here; you will be able to see a significant impact of any change in the assumptions.
However, integrating the 3 statement financial model requires the right skills. Your CFO will have to be highly skilled to ensure that they make a robust financial model for your business. Financial modeling excel is not something just anyone can do. So, you need to make sure that you have an experienced CFO service on board to make your financial models flawless.
As you go about creating your 3 statement financial model, you need to have all the relevant data beforehand. So, you will need to gather all the historical data before you go on to creating your financial model. But that’s not all. Financial modeling excel requires you to have a multitude of data for you to work.
Analysts or any other CFO services working to create the 3 statement financial model will require financial reports, tax filings, research reports, and anything else that can help form an accurate financial model. It is no easy task, and, therefore, requires you to collect adequate data for the entire process. It’s best to let a professional who has sufficient knowledge about all the data handle this. You can reach out or outsource a CFO service to help you prepare for your financial modeling excel needs.
Now, we will be talking about everything that a 3 statement financial model includes. While most people know about the three statement financial models used in this, the way they are forecasted is different. So, here you will understand the details about the relevance of these financial statements for your financial modeling excel.
The first financial statement that we will talk about is the income statement. As we all know, the income statement exhibits the company’s profitability. It is the key statement that business owners, investors, and other creditors look at to verify whether the business is generating profits or not.
When it comes to creating a financial model and forecasting the income statement, analysts take a minimum of 3-years data. Doing so helps in creating assumptions or following pre-existing patterns. Once the historical data is on the excel file, analysts make assumptions and figure out the level of sales for the forecast.
Forecasting an income statement requires vigilance as you need to factor in various challenges to create accurate assumptions. Moreover, the income statement has an impact on the balance sheet and cash flows; therefore, making sure it’s accurate is essential.
Next, we have the infamous balance sheet or statement of financial position as it is mainly referred to as. Here, you get to see all the assets, liabilities, and capital of your business. So, you can agree on how essential it is to make sure that you’re making accurate assumptions for this statement.
When it comes to the data, you will add the historical data in the same manner as you did with the income statement. A minimum of 3-years of data is to be worked on and used for making assumptions and forecasts. It portrays the company’s overall performance in the last few years and becomes the definitive statement that almost every interested party reviews.
For the formation of assumptions, much of the balance sheet’s assumptions are linked to the income statement. Working capital elements and the capital expenditure is linked to the assumptions you create for the revenue. And, as you integrate each statement to another, you will find a massive impact throughout your financial model of any change in the income statement.
Finally, we have the cash flow statement that is third and the last in line when it comes to the 3 statement financial model. Here, you will find a range of things happening. But mostly, it will be the yearly changes in the balance sheet presented here. The main thing to notice about the cash flow statement is that it represents only cash-based changes, as the name suggests.
When it comes to forecasting the cash flow statement, you should know that there is none. Instead, cashflow statements take all of their information from the balance sheets. So, if your assumptions are accurate, then your forecasted cash flow statement will have no reconciliation issues either.
You will have to look at a few things when it comes to financial modeling excel. These are additional items when it comes to creating an integrated 3 statement financial model.
These are essentially salient cash features of the model that are integral to measuring the shortage and surplus. The credit line and revolver are two plugs used by financial analysts as they go about creating financial models.
The revolver considers any amount of shortage when it comes to cash. If there is a shortage, the revolver adjusts to meet the requirement of the shortage. Whereas, the credit line ensures that any amount of surplus is accumulated there.
Another thing to consider is the circularity in the financial model. Circularity is when one calculation depends on itself for any outcome. One of the main reasons why this might arise is because of the model plugs present. It can be highly destructive for the entire financial model.
You want to make sure a professional is handling these details so that you don’t end up with an ineffective financial model. Professionals make use of the excel option to help with the circularity challenge. However, this doesn’t always ensure that there are no mistakes. Sometimes, there is a need for manual changes to help get rid of the circularity issues.
As you go about creating your financial model, you have to ensure that you are conducting tests and analysis to see its effectiveness. Two main analyses need to be conducted to make sure that your integrated 3 statement financial model is created the right way.
The sensitivity analysis focuses on one output of the financial model and how one or two inputs attached to it affect it—observing the changes in the EPS while making changes in the revenue growth or margins. If your financial model allows you to make these changes and see the desired outcome, then you’re sure to have created a robust 3 statement financial model.
Another largely used analysis is scenario analysis. Here, you will be able to test out various assumptions of the finance, operating, or investing aspects change the outcome. You do this once you have completed creating your initial model. As that comes to an end, you can test out how different assumption will impact your results. It is highly relevant to test out whether your 3 statement model is integrated the right way.
Just like other aspects of your business, you need to ensure that you have the right people overlooking your finance department. When it comes to the creation of financial models, you should choose the ultimate CFO service for your needs. Get your financial model prepared by professionals in the business.
We, at Oak Business Consultants, provide expert consultancy in such matters. With a vast experience in creating robust and extensive financial models, you will find our service exceptional.
Have a look at how our CFO services can help you in this technical and critical success factor. Visit our website at Oak Business Consultant to schedule a free consultation.