Lesson Objective

Establish a baseline understanding of what financial modeling is and how the Logica platform enhances it.

Lesson

Purpose of Financial Modeling

A model is an abstract representation of some real-world entity or process. Models are used when the actual entity or process is too complicated or costly to be used for analysis. For example, architects and engineers might use scale or digital models to test specific aspects of their designs before actually building physical structures. In a similar way, business managers want to analyze different decision options and market conditions before they set their plans in motion. Financial modeling provides an abstract representation of business operations in the past, the present, and the forecasted future in order to assist managers in making decisions.

Types of Financial Models

Business managers must make decisions today, but the effects of those decisions will play out over time. In order to make the best-informed decision possible, wise managers will consider a variety of factors and conditions that could affect outcomes. Financial modeling provides a means to consider different assumptions, conditions, and scenarios. Some of the most commonly used models include the following:

Three-Statement Model

The three-statement model is used to represent the company’s financial statements, namely the balance sheet, income statement, and statement of cash flows. It is useful in a wide variety of applications, such as budgeting, forecasting, valuation, and mergers & acquisitions.

Budgeting Model

Emphasizing the income statement, budgeting models set targets for revenues and expenses over the measurement period. The budget represents what management hopes to achieve.

Forecasting Model

While closely related to the budget, a forecasting model provides a representation of expected results, given a set of circumstances. The forecast represents what management is likely to achieve.

Headcount Model

A headcount model is used to analyze the company’s personnel structure and forecast future needs.

Burn Rate Model

For startup companies, the burn rate measures how fast they are expending capital before the business becomes cash flow positive. Since cash is the life blood of any business, the managers of young companies must keep a close eye on their cash balances and rely on burn rate models to estimate capital needs.

Valuation Models

Valuation models are used to analyze potential investments, mergers & acquisitions, and valuing the company itself. Valuation models might take a cost approach, a relative value approach, or an intrinsic value approach.

Key Performance Metrics (KPIs)

Quantitative performance targets are useful to managers in monitoring the status and health of their businesses. Managers often rely on a collection of KPIs presented together in a dashboard format.

Financial Modeling with Logica

Financial modeling is an extremely useful tool for business management and a valued skill among professionals. While we tend to think of a model as an end product, like a spreadsheet, modeling is better understood as an ongoing process consisting of three components: Design, Construction, and Communication. While the spreadsheet represented a technological leap forward in the construction of financial models, it provided almost nothing to the design and very little to the communication components. Logica offers an integrated solution that addresses the entire financial modeling process.

Model Design

Our unique visual modeling canvas makes model design quick and intuitive, combining the ease of drag-and-drop with a schematic display of all the relationships among variables. With this approach, explaining “where that number came from” becomes elementary as the derived variables are distinctly colored from the input variables and links connect related variables through their operators.

Need to get up and running quickly? Logica provides a growing list of model templates that take a best-practices approach to giving your model design a head start. Need to make a change? Add a component? Move something around? No problem. Logica’s canvas is versatile, and its grouping feature keeps everything organized.

Model Construction

Armed with a well-designed model, it’s time to crunch some numbers. Logica makes data entry convenient and efficient with multiple options for entering and altering values. Drawing data for an outside source? Logica has integration and import capabilities from popular accounting, workforce, and sales software vendors, as well as custom imports from Excel, Google Sheets, and its own API.

Creating what-ifs and multiple alternate scenarios based on a single model is a breeze with Logica. You can easily set up variance reports and visualize differences using the integrated charting window with the click of a button. Similarly, constructing and sharing distinct views of the same model allows you to focus on specific aspects without recreating anything.

Logica is designed to be a collaborative tool and facilitates working with teams through role-based sharing, log history, and live calculations. Our unique commenting feature allows colleagues to be tagged for interactive threaded discussions, instead of offline emails.

Communicating Results

Analysis is about transforming raw data into useful information for decision-making. The most effective financial models help tell a story about the company, its operations, and its performance. This is another facet of modeling where Logica shines.

Logica’s ability to generate customized views and dashboards allow you to tailor your messaging to fit different audiences. Need to present a particular graph for one group? Create a graph-based view. Would a table better make your point? Create a tabular view. Need to convey a series of Key Performance Indicators (KPIs)? Create a dashboard view.

Logica is designed to tell the story you need to communicate.

What's next?

Complete the next lesson about creating your first Logica model.