A Financial Model is a mathematical approach to analysing the relationships of variable factors with regard to a specific financial problem. The purpose of engaging in a financial modelling exercise is to examine the effects on a business or proposal of a change in certain variables. The complexity of a financial model depends on the type of proposal being analysed and the level of interdependencies at play.
The following are just two examples that outline a basic financial model.
Example 1 – Mortgage Interest Cost Calculator
The inputs in this simple model are the outstanding loan amount, the term of the loan and the interest rate applicable. By changing any of the three inputs you can immediately see the ‘what if’ effect. This simple calculator outlines the interdependencies of each input.
Example 2 – International Property Transaction Calculator
A more complex financial modeI might be an international property transaction. This may have the following inputs:
- Currency rate
- Purchase price
- Loan amount
- Term of loan
- Legal costs
- Taxes involved
- Commissions applicable
- Interest rate
- Net initial yield (on rent)
- Annual rent escalation
- Inflation rate
- Management charges
This example is much more complex. However, a financial model using these inputs will provide a far greater understanding of the interdependencies of the variables and the likely impact of a ‘what if’ effect on the proposal.
The end result of a financial model is to create a greater understanding of every aspect of the proposal in question. We in Opes Wealth Trust have significant experience in structuring financial models to help our clients make more informed financial decisions.