Financial Modeling - Accounting

Accounting

In corporate finance, investment banking and the accounting profession financial modeling is largely synonymous with cash flow forecasting. This usually involves the preparation of detailed company specific models used for decision making purposes and financial analysis. Applications include:

  • Business valuation, especially discounted cash flow, but including other valuation problems
  • Scenario planning and management decision making ("what is"; "what if"; "what has to be done")
  • Capital budgeting
  • Cost of capital (i.e. WACC) calculations
  • Financial statement analysis (including of operating- and finance leases, and R&D)
  • Project finance.

To generalize as to the nature of these models: firstly, as they are built around financial statements, calculations and outputs are monthly, quarterly or annual; secondly, the inputs take the form of “assumptions”, where the analyst specifies the values that will apply in each period for external / global variables (exchange rates, tax percentage, etc.…) and internal / company specific variables (wages, unit costs, etc.…). Correspondingly, both characteristics are reflected (at least implicitly) in the mathematical form of these models: firstly, the models are in discrete time; secondly, they are deterministic. For discussion of the issues that may arise, see below; for discussion as to more sophisticated approaches sometimes employed, see Corporate finance: Quantifying uncertainty.

Modellers are sometimes referred to (tongue in cheek) as "number crunchers", and are often designated "financial analyst". Typically, the modeller will have completed an MBA or MSF with (optional) coursework in "financial modeling". Accounting qualifications and finance certifications such as the CIIA and CFA generally do not provide direct or explicit training in modeling. At the same time, numerous commercial training courses are offered, both through universities and privately.

Although purpose built software does exist, the vast proportion of the market is spreadsheet-based - this is largely since the models are almost always company specific. Microsoft Excel now has by far the dominant position, having overtaken Lotus 1-2-3 in the 1990s. Spreadsheet-based modelling can have its own problems, and several standardizations and "best practices" have been proposed. "Spreadsheet risk" is increasingly studied and managed.

One critique here, is that model outputs, i.e. line items, often incorporate “unrealistic implicit assumptions” and “internal inconsistencies” (for example, a forecast for growth in revenue but without corresponding increases in working capital, fixed assets and the associated financing, may imbed unrealistic assumptions about asset turnover, leverage and / or equity financing). What is required, but often lacking, is that all key elements are explicitly and consistently forecasted. An extension of this is that modellers often additionally "fail to identify crucial assumptions" relating to inputs, "and to explore what can go wrong". Here, in general, modellers "use point values and simple arithmetic instead of probability distributions and statistical measures" - i.e., as mentioned, the problems are treated as deterministic in nature - and thus calculate a single value for the asset or project, but without providing information on the range, variance and sensitivity of outcomes. Other critiques discuss the lack of adequate spreadsheet design skills, and of basic computer programming concepts. More serious criticism, in fact, relates to the nature of budgeting itself, and its impact on the organization.

The inaugural 2012 Modeloff Financial Modelling World Championship was held on 2nd December 2012 in New York City. . Major judges were Professor Simon Benninga and Bill Jelen (aka "Mr Excel"). Event Sponsors included Microsoft, S&P Capital IQ, Bloomberg Institute, AMT Training and Deloitte. The event was won by Alex Gordon of New Zealand.

Read more about this topic:  Financial Modeling

Other articles related to "accounting":

Deen Kemsley
... Deen Kemsley is an accounting professor and a Christian author ... Kemsley for his published research on taxes, accounting, and firm value ... He has published several articles in top finance and accounting journals, including the Journal of Finance, the Journal of Accounting Research, and the Accounting Review, among others ...
Robert Hiester Montgomery - Career
... In 1889 he got a job as an office boy at an accounting firm in Philadelphia ... There he learned accounting and was made partner after seven years ... He created the Journal of Accountancy (then called the American Journal of Accounting) ...
British Qualified Accountants - Bookkeepers and Accounting Technicians
... The Association of Accounting Technicians (AAT) (designatory letters MAAT or FMAAT, standing for "Member of the Association of Accounting Technicians" or "Fellow Member of the ... and regulated by the AAT to provide practice accounting, tax and financial advisory services, although they are not entitled to undertake audit or insolvency work ... Practising Accounting Technicians are entitled to refer to themselves as 'accountants', as the term is not protected in law (unlike, say, 'solicitors' and 'doctors') ...
G. A. Swanson - Biography
... In his PhD thesis he had developed the outlines for a "general theory of accounting" which was largely inspired in Miller’s the living systems theory ... Since 1982 he was a Tennessee Tech Professor of Accounting at the department of Accounting and Business Law ... He was founder of the Tennessee Society of Accounting Educators, and former council member of the TSCPA Educational Foundation ...
Generational Accounting
... Generational accounting is a relatively new method of national accounting for measuring redistribution of lifetime tax burdens across generations from social insurance, including social ... Generational accounting goes beyond conventional government budget measures, such the national debt and budget deficits, by accounting for projected lifetime ... the proportion of retirees to the labor force, generational accounting might examine different projected changes in taxes or program benefits to finance the change ...

Famous quotes containing the word accounting:

    At the crash of economic collapse of which the rumblings can already be heard, the sleeping soldiers of the proletariat will awake as at the fanfare of the Last Judgment and the corpses of the victims of the struggle will arise and demand an accounting from those who are loaded down with curses.
    Karl Liebknecht (1871–1919)

    I, who am king of the matter I treat, and who owe an accounting for it to no one, do not for all that believe myself in all I write. I often hazard sallies of my mind which I mistrust.
    Michel de Montaigne (1533–1592)