What’s the point of a Financial Model?
Short and simple answer… To tell the story about your business with math.
A great financial model isn’t just a spreadsheet: it’s an outline of your fundamental business model that can be used to understand your business. A lot of stakeholders tend to say that financial models are irrelevant for start-up companies. I agree that financial models are rarely accurate, especially if they are prepared by an individual that has a narrow grasp of basic accounting.
But accuracy is a misguided goal. Unfortunately, any business plan needs the inclusion of a comprehensive financial model. There is no way around that! The importance is to start with well-grounded assumptions, create a structure that allows you to understand how your business works, and create a model that helps you make the decisions you need to: that’s the goal.
I often advise people to create a “Minimum Viable Model”; the minimum amount of a model they need to make an important decision in their business. Products always come before spreadsheets, but there does come a point when spreadsheets are important and necessary to help you make business decisions. And that’s typically when we need to validate the business models we are contemplating for our products. In my opinion, you need to focus on business models before financial models. Start by reading a couple of articles on business models and then answer the two questions below. Just write them down in any document you want, and save it so you can revisit them as you build your financial model.
Read More: Top 10 Business Models for your Startup.
Consider and answer the following:
- What is your Business Model? Explain your business and business model in one paragraph. Explain the problem being solved and how the business solves it. Then explain how it spends money, acquires users, and earns revenue.
- What are your costs? List out your major cost items. Staff, offices, travel, equipment, inventory, etc. Listing out the major items here helps frame out what to pay attention to on the Costs sheet.