Accounting software: financial modelling and how to get the most out of your tools

A good financial model is the bedrock of any good business, but what requirements must there be to make it successful?

Ongoing financial modelling is crucial for millions of businesses up and down the land. It allows them to plan ahead and make decisions relating to all aspects of their operations based on expected sales, expenses and cash.

Typically, this is based on historical performance, assumptions and growth factors for the future. Using the historical data and assumptions, a balance sheet, income statement, and cash flow statement are prepared, which show historical trends and future projections. So, how do you take account of that?

Must-haves for any financial model

Understand your timescale

This is a crucial question that affects a huge amount of the modelling process, down to the software you select. Different tools are better for different periods of time, so it’s important to undertake bespoke forecasting for each client, as their needs are often different and you have to be able to reflect that in the modelling.

Flexibility is crucial

For looking further ahead, spreadsheets still have their place, as many apps are not always flexible when it comes to changing the input data. The value is in integrated models that automatically update when you toggle an assumption or add or remove a condition. Spreadsheets are useful for layering up variables and understanding how they interact. Key export data from different apps can be exported to build models in Excel, too.

Take the strain

Key to any good financial model is stress testing on a regular basis. This is achieved by keeping the data constantly up to date and changing variables to gain a fuller picture of where the business’s vulnerabilities lie.  Asking the right questions important. If you continually ask questions – perhaps by partnering and sharing it with other departments – and push the model as hard as you can, then that’s how you get results you can learn from.

Potential financial modelling pitfalls to avoid

Using the wrong tools

It’s vital to understand the task you are undertaking prior to modelling and selecting the appropriate tool for the job. For example, if you are making a change to your business, such as adding a service line, then using your accounting software to project forward using historical data will not suffice. Similarly, it’s imperative to understand how far you are looking ahead and the granularity required.

Narrow data pool

Drawing upon traditional data sources can only tell you so much and it risks masking factors that could have a significant impact on your business. As such, it’s crucial to ensure data and information included in your modelling is drawn from as wide a range of sources as possible – to build up a complete picture. This data must also be kept up to date.  

Human factor

Human behaviour is what lies behind much of the data and many of the assumptions made in any financial model. You need to predict behaviour and the social side of what’s happening in the business. If you’re too cautious, it’s important to understand how that might affect purchasing patterns. It’s about getting the data, getting that right and feeding it into the model.

The future and automating your financial model

Financial modelling requires data – the more the better. Artificial intelligence and machine learning may well just take this to the next level. Automation will mean more data can be applied to the model and will allow it to be updated automatically, improving accuracy and sensitivity.

Live feeds will be available from sources as diverse as stock holdings to the company’s electricity meter reading, and even external ones such as weather and stock markets, bringing the modelling platform up to speed in real time.

One business that adopted the AI shift early on, is Model Citizn in Melbourne, Australia. It worked with one Australian bank to set up a driver-based rolling forecast capability. The result was a more accurate, frequent rolling forecast which reduced the budget cycles dramatically for the bank. The time saved meant that the finance team was able to undertake more business partnering with other departments.

Further reading

Accounting software: analysis tools to make your life easier

Are technological developments making accounting careers more attractive?

Working with AI: boosting your career in the right way

AAT Comment offers news and opinion on the world of business and finance from the Association of Accounting Technicians.