financial modeling
The process of building a spreadsheet representation of a company's financial performance to forecast future results and evaluate business decisions.
Example
“The analyst built a three-statement financial model linking the income statement, balance sheet, and cash flow statement.”
Memory Tip
FINANCIAL MODELING = Excel spreadsheet that simulates a company's finances. Core skill in finance.
Why It Matters
Financial modeling helps individuals and businesses understand their financial future by projecting income, expenses, and cash flow. This skill is essential for making informed decisions about investments, loans, budgeting, and major purchases that can significantly impact your financial wellbeing.
Common Misconception
Many people believe financial models predict the future with certainty, but they actually provide estimates based on assumptions that may change. A model is only as accurate as the assumptions used, and real-world variables like market conditions or personal circumstances can shift unexpectedly.
In Practice
A small business owner might create a financial model showing that if they increase marketing spending by 5,000 dollars per month, they could grow revenue from 100,000 dollars to 150,000 dollars annually within two years. By adjusting different variables in the spreadsheet, they can test whether this investment will generate sufficient returns to justify the additional expense.
Etymology
FINANCIAL (money-related) MODELING (building a representative structure). Building a FINANCIAL MODEL to simulate reality.
Common Misspellings
Small business accounting made simple
Related Terms
More in accounting
Other accounting terms you should know
See Also
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