Launching a new business is a huge step that requires much planning and organizing. Handling finances in an efficient manner is a cornerstone to the success of any startup. Therefore, building a financial model is an essential step to be able to make the financial operation run smoothly. Financial models are the mathematical representation you need for some or all aspects of how the financial operation of your business will go. This way, you will be able to see how the changes you make will affect your business by modifying variables until you reach a satisfactory outcome.
To understand how important financial models are to your startup, here are 4 reasons why they are a necessity for your business.
It’s safe to assume that any business is launched with the intention of making money. The simple goal of earning more than spending isn’t easily accomplished in the business world. It’s hard to achieve this goal without a thorough understanding of where your cash flow is coming from and how much you are spending on investments. Creating a financial model in its essence is just like taking a step back to see the bigger picture; it shows you how to turn your outcome to be positive. In this big picture, you collect all puzzle pieces in a way of large scale thinking to calculate costs, cash-flow summaries, revenue, profit, and loss.
When you have your financial plan drawn out right in front of your eyes, you will be forced to rethink every variable that affects the profitability potential of your business. When you can clearly see all your weaknesses and strong points, you will be able to reevaluate what you need to change and what you should keep doing. For these reasons, enhancing your financial modeling skills is essential to the success of your business. Once you have all the valuable information you need, you will have a clear vision of how to improve your business.
There are two types of decision-making processes in any line of business, short-term and long-term processes. Making decisions as you go without taking a step back to evaluate the consequences of these decisions will only get you so far. With a financial model, you will get a chance to validate your decisions and assumptions.
There are many indirect benefits a financial model can provide your business with. However, the important consideration to take into account is the fact that investors want numbers. The main reason for the existence of a financial model is satisfying potential investors. They will be able to easily navigate through the numbers to understand why you are asking for funds and what you are going to do with them.
When you are bootstrapping your business with your money until you manage to land some investors, every move should be carefully calculated. To do so, you need structure and an obvious baseline valuation to be able to see all the variables that go into the equation and manipulate them in your favor. A financial model can provide you with a clear picture you need to take the right steps.