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Table of Contents
Cover
Title Page
Copyright
Dedication
About This Book
The Author
Part One: Introduction to Modeling
1 Modeling and Its Uses
1.1 WHAT IS A MODEL?
1.2 WHAT ARE MODELS USED FOR?
2 Principles of Model Design
2.1 INTRODUCTION
2.2 DECISION IDENTIFICATION, FRAMING, AND STRUCTURE
2.3 DECISION CRITERIA AND INFORMATION NEEDS
2.4 SENSITIVITY‐BASED DESIGN
2.5 DATA AND DATA SOURCES
2.6 MODEL MAPPING AND APPROXIMATIONS
2.7 BUILDING AND TESTING
2.8 RESULTS PRESENTATION
2.9 BIASES
Part Two: Essentials of Excel
3 Menus, Operations, Functions, and Features
3.1 INTRODUCTION
3.2 STRUCTURE AND MENUS
3.3 CALCULATIONS USING ARITHMETIC
3.4 FUNCTION BASICS
3.5 A CORE FUNCTION SET
3.6 FURTHER PROPERTIES AND USES OF FUNCTIONS
3.7 CALCULATION SETTINGS AND OPTIONS
3.8 KEYTIPS AND SHORTCUTS
3.9 ABSOLUTE AND RELATIVE REFERENCING
3.10 AUDITING AND LOGIC TRACING
3.11 NAMED RANGES
3.12 BEST PRACTICES: OVERVIEW
3.13 BEST PRACTICES: FLOW
3.14 BEST PRACTICES: TIME AXIS
3.15 BEST PRACTICES: MULTIPLE WORKSHEETS
3.16 BEST PRACTICES: FORMATTING
3.17 MODEL TESTING, CHECKING, AND ERROR MANAGEMENT
3.18 GRAPHS AND CHARTS
4 Sensitivity and Scenario Analysis
4.1 INTRODUCTION
4.2 BASIC OR MANUAL SENSITIVITY ANALYSIS
4.3 AUTOMATING SENSITIVITY ANALYSIS: AN INTRODUCTION
4.4 USING DataTables
 4.5 CHECKING THE RESULTS, LIMITATIONS, AND TIPS
4.6 CREATING FLEXIBILITY IN THE OUTPUTS THAT ARE ANALYZED
4.7 SCENARIO ANALYSIS
4.8 VARIATIONS ANALYSIS
4.9 USING GoalSeek
4.10 FURTHER TOPICS: OPTIMIZATION, RISK, UNCERTAINTY, AND SIMULATION
Part Three: General Calculations and Structures
5 Growth Calculations for Forecasting
5.1 INTRODUCTION
5.2 GROWTH MEASUREMENT AND FORECASTING
5.3 LOGIC REVERSALS
5.4 FORECASTING STRUCTURES IN PRACTICE
5.5 SIMPLIFYING THE SENSITIVITY ANALYSIS AND REDUCING THE NUMBER OF
PARAMETERS
5.6 DEALING WITH INFLATION
5.7 CONVERSIONS FOR MODEL PERIODS
5.8 FURTHER TOPICS: LOGARITHMIC AND EXPONENTIAL GROWTH
6 Modular Structures and Summary Reports
6.1 INTRODUCTION
6.2 MOTIVATION FOR SUMMARY AREAS AND THEIR PLACEMENT
6.3 EXAMPLE I: SUMMARIES AND CONDITIONAL SUMMARIES
6.4 EXAMPLE II: TARGETS, FLAGS, AND MATCHING
6.5 SENSITIVITY ANALYSIS
6.6 COMMENTS ON FORMATTING
6.7 INITIALIZATION AREAS
7 Scaling and Ratio‐driven Forecasts
7.1 INTRODUCTION
7.2 BASIC USES
7.3 LINKS TO LENGTH OF MODEL PERIODS
7.4 DAYS' EQUIVALENT APPROACHES
7.5 EXAMPLE I: FORECASTING FROM REVENUES TO EBITDA
7.6 USING RATIO‐BASED FORECASTING EFFECTIVELY
7.7 EXAMPLE II: RATIO‐BASED FORECASTING OF CAPITAL ITEMS
7.8 FURTHER TOPICS: LINKS TO GENERAL RATIO ANALYSIS
8 Corkscrews and Reverse Corkscrews
8.1 INTRODUCTION
8.2 CLASSICAL CORKSCREWS
8.3 BENEFITS AND FURTHER USES
8.4 REVERSE CORKSCREWS
9 Waterfall Allocations
9.1 INTRODUCTION
9.2 EXAMPLE I: COST SHARING
9.3 EXAMPLE II: TAX CALCULATIONS
9.4 OPTIONS FOR LAYOUT AND STRUCTURE
9.5 FURTHER TOPICS: WATERFALLS FOR SHARING CAPITAL RETURNS OR CARRIED
INTEREST
10 Interpolations and Allocations
 10.1 INTRODUCTION
10.2 EXAMPLE I: LINEAR SMOOTHING
10.3 EXAMPLE II: PROPORTIONAL SMOOTHING
10.4 USES OF TAPERING AND INTERPOLATION
10.5 TRIANGLES
10.6 FURTHER TOPICS: TRIANGLES
Part Four: Economic Foundations and Evaluation
11 Breakeven and Payback Analysis
11.1 INTRODUCTION
11.2 SINGLE‐PERIOD BREAKEVEN ANALYSIS: PRICES AND VOLUMES
11.3 BREAKEVEN TIME AND PAYBACK PERIODS
12 Interest Rates and Compounding
12.1 INTRODUCTION
12.2 STATED RATES AND CALCULATIONS WITHOUT COMPOUNDING
12.3 COMPOUNDING TYPES AND EFFECTIVE RATES
12.4 CONVERSION OF EFFECTIVE RATES FOR PERIODS OF DIFFERENT LENGTHS
12.5 AVERAGE EFFECTIVE RATES
12.6 IMPLIED RATES AND BOOTSTRAPPING
13 Loan Repayment Calculations
13.1 INTRODUCTION
13.2 EFFECTIVE RATES FOR INTEREST‐ONLY REPAYMENTS
13.3 ALIGNING MODEL PERIODS WITH INTEREST REPAYMENTS
13.4 CONSTANT REPAYMENT LOANS USING THE PMT FUNCTION
13.5 CONSTANT REPAYMENT LOANS: OTHER FUNCTIONS
13.6 PERIODS OF DIFFERENT LENGTHS
14 Discounting, Present Values, and Annuities
14.1 INTRODUCTION
14.2 THE TIME VALUE OF MONEY
14.3 CALCULATION OPTIONS FOR PRESENT VALUES
14.4 ANNUITIES AND PERPETUITIES
14.5 MULTI‐PERIOD APPROACHES AND TERMINAL VALUES
14.6 FURTHER TOPICS I: MATHEMATICS OF ANNUITIES
14.7 FURTHER TOPICS II: CASH FLOW TIMING
15 Returns and Internal Rate of Return
15.1 INTRODUCTION
15.2 SINGLE INVESTMENTS AND PAYBACKS
15.3 MULTIPLE PAYBACKS: AVERAGE RETURNS AND THE INTERNAL RATE OF
RETURN
15.4 USING ECONOMIC METRICS TO GUIDE INVESTMENT DECISIONS
15.5 PROPERTIES AND COMPARISON OF NPV AND IRR
Part V: Corporate Finance and Valuation
16 The Cost of Capital
16.1 INTRODUCTION
16.2 RETURNS, COSTS, AND OPPORTUNITY COSTS OF CAPITAL
16.3 THE ROLE OF RISK IN DETERMINING THE COST OF CAPITAL
16.4 THE PROPERTIES AND BENEFITS OF DEBT
16.5 THE FINANCING MIX AND THE WEIGHTED AVERAGE COST OF CAPITAL
 16.6 MODIGLIANI‐MILLER AND LEVERAGE ADJUSTMENTS
16.7 THE CAPITAL ASSET PRICING MODEL
16.8 FURTHER TOPICS: DERIVATION OF LEVERAGING AND DELEVERAGING
FORMULAS
17 Financial Statement Modeling
17.1 INTRODUCTION
17.2 FINANCIAL STATEMENT ESSENTIALS
17.3 KEY CHALLENGES IN BUILDING INTEGRATED FINANCIAL STATEMENT MODELS
17.4 FORECASTING OF THE INTEGRATED STATEMENTS: A SIMPLE EXAMPLE
17.5 THE DYNAMIC FINANCING ADJUSTMENT MECHANISM
17.6 GENERALIZING THE MODEL FEATURES AND CAPABILITIES
17.7 STEPS AND PRINCIPLES IN BUILDING A FINANCIAL STATEMENT MODEL
17.8 FURTHER TOPICS: AVOIDING CIRCULARITIES
18 Corporate Valuation Modeling
18.1 INTRODUCTION
18.2 OVERVIEW OF VALUATION METHODS
18.3 PRINCIPLES OF CASH FLOW VALUATION
18.4 FREE CASH FLOW FOR ENTERPRISE VALUATION
18.5 THE ROLE OF THE EXPLICIT FORECAST
18.6 EXAMPLE: EXPLICIT FORECAST WITH TERMINAL VALUE CALCULATION
18.7 FURTHER TOPICS I: ENTERPRISE VALUE BASED ON FREE CASH FLOW AND
EQUIVALENCES
18.8 FURTHER TOPICS II: VALUE‐DRIVER FORMULAS
18.9 FURTHER TOPICS III: IMPLIED COST OF EQUITY
19 Ratio Analysis
19.1 INTRODUCTION
19.2 USE AND PRINCIPLES
19.3 RATIOS FOR PROFITABILITY AND VALUATION
19.4 RATIOS RELATING TO OPERATIONS AND EFFICIENCY
19.5 RATIOS FOR LIQUIDITY AND LEVERAGE
19.6 DuPont ANALYSIS
19.7 VARIATIONS ANALYSIS WITHIN THE DuPont FRAMEWORK
19.8 FURTHER TOPICS: PORTFOLIOS AND THE PIOTROSKI F‐SCORE
Part Six: Data and Statistical Analysis
20 Statistical Analysis and Measures
20.1 INTRODUCTION
20.2 DATA STRUCTURES IN EXCEL AND THE IMPACT ON FUNCTIONALITY
20.3 AVERAGES AND SPREAD
20.4 THE AGGREGATE FUNCTION
20.5 CONDITIONAL AGGREGATIONS
20.6 DATABASE FUNCTIONS
20.7 CORRELATIONS, COVARIANCE, AND REGRESSION
20.8 EXCEL TABLES
20.9 PIVOT TABLES
20.10 FURTHER TOPICS: MORE ON AVERAGES, CORRELATIONS, AND CONFIDENCE
INTERVALS
21 Data Preparation: Sourcing, Manipulation, and Integration
 21.1 INTRODUCTION
21.2 MODELING CONSIDERATIONS
21.3 OVERVIEW OF DATA MANIPULATION PROCESS
21.4 CLEANING EXCEL DATA SETS
21.5 INTEGRATION OF EXCEL DATA SETS
21.6 FURTHER TOPICS I: INTRODUCTION TO PowerQuery – APPENDING TABLES
21.7 FURTHER TOPICS II: INTRODUCTION TO PowerQuery – DATA MANIPULATION
21.8 FURTHER TOPICS III: INTRODUCTION TO PowerPivot AND THE DATA MODEL
Index
End User License Agreement

List of Illustrations
Chapter 1
Figure 1.1 Influence Diagram of a Simple Revenue Model
Figure 1.2 Excel Model That Contains Formulas but No Values
Figure 1.3 Excel Model with Input Cells Populated with Values
Figure 1.4 Input Cells with Color‐Coding
Figure 1.5 Using a Model to Compare Sales Revenues for Business Design Optio...
Chapter 2
Figure 2.1 Basic “Go/No Go” Decision with Sub‐Options
Figure 2.2 Using the Decision to Design the Model That Supports the Decision
Figure 2.3 Using a Sensitivity‐Based Thought Process to Define Model Variabl...
Chapter 3
Figure 3.1 Core Menu Tabs
Figure 3.2 The Home Tab (left‐hand‐side only)
Figure 3.3 The Formulas Tab (left‐hand‐side only)
Figure 3.4 Example of the SUM Function
Figure 3.5 The Insert Function Menu
Figure 3.6 The IF Function and Its Arguments
Figure 3.7 Entering the UNIQUE Function in a Single Cell
Figure 3.8 The Dynamic Output Range of the UNIQUE Function
Figure 3.9 Using # To Refer to a Dynamic Output Range
Figure 3.10 The Calculation Options on the Formulas Tab
Figure 3.11 Effect of Changes to Input Values in Manual Setting
Figure 3.12 Accessing the Menu Using KeyTips
Figure 3.13 Selecting a Range to be Copied
Figure 3.14 Results After Pasting
Figure 3.15 The Adjusted and Completed Model
Figure 3.16 The Paste Special Menu
Figure 3.17 Central Costs Allocated According to Trips
Figure 3.18 Formulas Used to Allocate Central Cost
Figure 3.19 The Formulas/Formula Auditing Menu
Figure 3.20 The Formula View
 Figure 3.21 Using Trace Dependents and Trace Precedents
Figure 3.22 Inspecting a Formula Using the F2 Key
Figure 3.23 The Watch Window
Figure 3.24 Using the Name Manager
Figure 3.25 Simple Model with Named Inputs
Figure 3.26 The Name Box
Figure 3.27 Accessing the Go To (F5) Functionality
Figure 3.28 Diagonal Dependency Paths
Figure 3.29 Horizontal and Vertical Dependency Paths
Chapter 4
Figure 4.1 Accessing a DataTable Using Data/What‐If Analysis
Figure 4.2 Recap of Cab (Taxi) Business Profit Model
Figure 4.3 Three Raw DataTable Structures
Figure 4.4 Completing a Two‐Way DataTable
Figure 4.5 The Completed Two‐Way DataTable
Figure 4.6 The Raw DataTable Structures for DataTables with Multiple Outputs
Figure 4.7 Summary Area with Selection Menu
Figure 4.8 DataTable with Choice of Outputs to Analyze
Figure 4.9 Using Data Validation to Restrict a User's Choices to Valid Items...
Figure 4.10 Model Inputs Are Replaced by Cell References to the Scenario Cho...
Figure 4.11 Implementing the Scenario Results Using a DataTable
Figure 4.12 Simple Example of Variance Analysis
Figure 4.13 Example of Using GoalSeek
Chapter 5
Figure 5.1 Basic Growth Forecast
Figure 5.2 Historical Information and Growth Forecasting
Figure 5.3 Common Layout of Growth Forecasting
Figure 5.4 Multi‐period Forecast Using the Common Layout
Figure 5.5 Reducing the Number of Separate Input Assumptions
Figure 5.6 Full Separation of Inputs from Calculations
Figure 5.7 DataTable of Year 5 Revenues to Two Growth Assumptions
Figure 5.8 Using Inflation as a Separate Item
Figure 5.9 Comparison of Measurement and Forecasting Results
Figure 5.10 Raw Data on Growth Rates Measured by Each Method
Figure 5.11 Calculation of Total and Average Growth Using Each Method
Chapter 6
Figure 6.1 An Initial Five‐Year Model with Quarterly Periods
Figure 6.2 Summary of Five‐Year and Specified Year
Figure 6.3 Using Flag Fields to Find When a Target is Met
Figure 6.4 Using a DataTable for Items in the Summary Report
Figure 6.5 Setting a Conditional Format Rule
 Figure 6.6 Dependencies without Initialization Area
Figure 6.7 Use of an Initialization Area to Be Able to Have Consistent Formu...
Chapter 7
Figure 7.1 Historical Calibration and Ratio‐Based Forecast for a Flow Item...
Figure 7.2 Historical Calibration and Ratio‐Based Forecast for a Stock Item...
Figure 7.3 Using the Days, Equivalent Method
Figure 7.4 Price Forecast for the Example Model
Figure 7.5 Sales Revenue Calculation
Figure 7.6 Calculation of Fixed and Variable Costs
Figure 7.7 Calculation of EBITDA in the Simple Model
Figure 7.8 Calculation of CapEx Using a Volume‐Based Ratio and Inflation...
Chapter 8
Figure 8.1 Framework for a Corkscrew Structure
Figure 8.2 Linking of CapEx into the Corkscrew Structure
Figure 8.3 Linking of CapEx into the Corkscrew Structure
Figure 8.4 Completion of Structure for the First Period
Figure 8.5 Completed Structure with Dependency Paths Shown
Figure 8.6 Basic Ratio Analysis of Assets to Sales
Figure 8.7 Calculation of Net Flow Items
Figure 8.8 Core Structure of a Reverse Corkscrew
Figure 8.9 Inclusion of One Flow Item
Figure 8.10 Completion of Both Flow Items
Chapter 9
Figure 9.1 General Split Using the MIN Function
Figure 9.2 Two Category Waterfall Split – Vertical Layout
Figure 9.3 Two Category Waterfall Split – Horizontal Layout
Figure 9.4 Capacities of the Multiple Layers
Figure 9.5 Completed Calculations of Multiple Layer Example
Figure 9.6 Waterfall Structure for Tax Calculation
Figure 9.7 Vertical Waterfall Structured by Item
Figure 9.8 Time Axis on a Vertical Waterfall Structured by Item
Figure 9.9 Vertical Waterfall Structured by Band
Figure 9.10 Capital Return Waterfall with Single Threshold
Figure 9.11 Capital Return Waterfall with Alternative Value
Figure 9.12 Capital Return Waterfall with Alternative Value
Chapter 10
Figure 10.1 Overview of Model with Interpolated Growth Rates
Figure 10.2 The Formula Used in Cell H11
Figure 10.3 Proportional Smoothing with Flexible Period Start
Figure 10.4 Logic Flow for Each Forecast Formula
Figure 10.5 Formula Used in Cell H8
 Figure 10.6 Example of the Effect of a Combined Smoothing
Figure 10.7 Triangle Inputs: Time‐Specific Purchases and Generic Time Alloca...
Figure 10.8 Time‐Specific Allocations (Step 1)
Figure 10.9 Time‐Specific Allocations (Step 2)
Figure 10.10 Triangle Outputs Feeding a Corkscrew
Chapter 11
Figure 11.1 Model Used for Single‐Period Analysis
Figure 11.2 Cost Structure as Volume is Varied
Figure 11.3 Revenue, Cost, and Profit as Volume is Varied
Figure 11.4 Thresholds and Combinations to Achieve Breakeven
Figure 11.5 Time‐Based Forecast from Sales to EBITDA
Figure 11.6 Completed Model with Forecast to Cash Flows
Figure 11.7 Completed Set of Calculations
Figure 11.8 The Formula View of the Completed Calculations
Chapter 12
Figure 12.1 Example of Compounded Interest Calculations
Figure 12.2 Example of the EFFECT Function
Figure 12.3 Effective Periodic Rates for Different Compounding Frequencies
Figure 12.4 Use of FVSCHEDULE Function
Figure 12.5 Yield Curve Bootstrapping Assumptions and Context
Figure 12.6 Yield Curve Bootstrapping Results
Chapter 13
Figure 13.1 Use of the Derived Formula to Calculate an Effective Rate Given ...
Figure 13.2 Explicit Calculation of the Effective Rate Given Repayments
Figure 13.3 Example of the PMT Function
Figure 13.4 Function Arguments for the PMT Function
Figure 13.5 Explicit Calculation of Loan Repayment Using a Corkscrew Structu...
Figure 13.6 Payment Value with Start‐of‐Period Payments
Figure 13.7 Explicit Calculation When Payment Is at the Start of Each Period
Figure 13.8 Reversal of Natural Values when Using PMT
Figure 13.9 Verification of Calculations Using Sign Reversal
Figure 13.10 Examples of the RATE, NPER, FV, and PV Functions
Figure 13.11 Rates When the Loan Period Is a Multiple of the Compounding Per...
Chapter 14
Figure 14.1 The Assumed Cash Flow Profile for a Discounting Example
Figure 14.2 The Assumed One‐Year Discount Rates
Figure 14.3 Possibilities to Calculate the Discount Factors
Figure 14.4 The Discounted Cash Flows and the Total
Figure 14.5 Constant Discount Rate with Explicit Profile
Figure 14.6 Use of the NPV Function
Figure 14.7 Valuing an Annuity by Explicit Calculation of the Cash Flows
 Figure 14.8 Application of the Annuity Formulas
Figure 14.9 Input Assumptions for Two‐Stage Terminal Value Calculation
Figure 14.10 Implementation of Two‐Stage Terminal Value Calculation
Chapter 15
Figure 15.1 Percentage Returns Calculated Explicitly in a Simple Case
Figure 15.2 Returns Expressed on a Per‐Period Basis
Figure 15.3 Example with Payback Occurring in Two Periods
Figure 15.4 Inflating or Discounting Cash Flows to Achieve a Total Value of ...
Figure 15.5 Using the IRR Function
Figure 15.6 IRR with Several Periods of Investment and Payback
Chapter 16
Figure 16.1 Threshold Level for Debt‐Equity Substitution and without Taxes...
Figure 16.2 Threshold Level for Debt‐Equity Substitution and without Taxes...
Figure 16.3 The Leverage Effect of Debt on Returns to Equity (at Book Value)
Figure 16.4 Effect of Debt with Taxes
Figure 16.5 Effect of Debt If Charges Were Not Offset Against Taxes
Figure 16.6 Generic Effect of Leverage on Cost of Capital: Equity, Debt, and...
Figure 16.7 A Simple Example of the Calculation of the Expected Return
Chapter 17
Figure 17.1 Income Statement for Simple Model
Figure 17.2 Cash and Equity Corkscrews
Figure 17.3 The Balance Sheet for the Base Case
Figure 17.4 The Balance Sheet with a Lower Initial Capital Injection
Figure 17.5 Implementation of the Adjustment Mechanism
Figure 17.6 Completion of Statements to Reflect the Equity Injection
Figure 17.7 Example of Adding an Accounts Receivable Functionality
Chapter 18
Figure 18.1 Forecast to the NOPAT line
Figure 18.2 Calculation of the Value in the Explicit Forecast Period
Figure 18.3 Terminal Value Calculation
Figure 18.4 Total Enterprise and Equity Value
Chapter 19
Figure 19.1 Generic Example of DuPont Analysis Using Linear Scales
Figure 19.2 Variations Analysis Using Component Parts
Chapter 20
Figure 20.1 Raw Data for Input to the Statistical Functions
Figure 20.2 Examples of the Use of AGGREGATE
Figure 20.3 Using AGGREGATE with its Fourth Argument
Figure 20.4 Augmented Data Set with Month and Year Information
Figure 20.5 Use of the AVERAGEIFS Function
Figure 20.6 Data Set with Field Headers
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 Figure 20.7 Example of a Criteria Range for a Database Function
Figure 20.8 Function Arguments for the Database Functions
Figure 20.9 Results of Applying the Database Functions
Figure 20.10 Data Set for Correlation and Regression Analysis
Figure 20.11 X‐Y Scatter Plot with Trendline Displayed
Figure 20.12 Calculation of Slope, Correlations, and Standard Deviations
Figure 20.13 Creating a Table
Figure 20.14 The Table Design Tab
Figure 20.15 Entering a Formula That Will Refer to a Table
Figure 20.16 Completed PivotTable with a Row Structure
Figure 20.17 First Step to Insert a PivotTable
Figure 20.18 Completion of Step‐by‐Step Creation of a PivotTable
Figure 20.19 Population of the PivotTable Structure
Figure 20.20 Results of the LINEST Function
Chapter 21
Figure 21.1 Raw Data and Desired Transformation
Figure 21.2 Calculation Steps for One Item, Shown in a Column
Figure 21.3 Row Form of the Calculations and Results
Figure 21.4 Data Including Transaction Values in Local Currency
Figure 21.5 Tables with Additional Information That Need to Be Referenced
Figure 21.6 Augmented Main Table Showing Country Names
Figure 21.7 Main Table with Further Augmentation
Figure 21.8 The Completed Flat Table
Figure 21.9 Results of Appending Two Tables to Create a Third
Figure 21.10 The PowerQuery Editor
Figure 21.11 Selecting to Create a Connection Only
Figure 21.12 Queries & Connections Before Appending
Figure 21.13 Using the Table.Combine Operation
Figure 21.14 Using PowerQuery for the Full Process
Figure 21.15 Tables and Their Relationships within the Data Model
Figure 21.16 Creation of a Measure
Figure 21.17 PivotTable that Displays the Value of a PowerPivot Measure
THE ESSENTIALS OF FINANCIAL MODELING IN EXCEL
A CONCISE GUIDE TO CONCEPTS AND METHODS

Michael Rees
This edition first published 2023
© 2023 Michael Rees
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Library of Congress Cataloging‐in‐Publication Data
Names: Rees, Michael, 1964‐ author.
Title: The essentials of financial modeling in Excel: a concise guide to concepts and methods / Michael Rees.
Description: Hoboken, NJ: John Wiley & Sons, Inc., 2023. | Includes index.
Identifiers: LCCN 2022043302 (print) | LCCN 2022043303 (ebook) | ISBN 9781394157785 (paperback) | ISBN
9781394157792 (adobe pdf) | ISBN 9781394157808 (epub)
Subjects: LCSH: Finance—Mathematical models. | Corporations—Finance—Mathematical models. | Microsoft
Excel (Computer file)
Classification: LCC HG106. R439 2023 (print) | LCC HG106 (ebook) | DDC 332.0285/554—dc23/eng/20220908
LC record available at https://lccn.loc.gov/2022043302
LC ebook record available at https://lccn.loc.gov/2022043303
Cover Design: Wiley
Cover Image: © Skylines/Shutterstock
This book is dedicated to Elsa and Raphael.
About This Book

This book provides a concise introduction to financial modeling in Excel. It aims to provide readers with a well‐
structured and practical tool kit to learn modeling “from the ground up.” It is unique in that it focuses on the
concepts and structures that are commonly required within Excel models, rather than on Excel per se.
The book is structured into six parts (containing twenty‐one chapters in total):
Part I introduces financial modeling and the general factors to consider when designing, building, and using
models.
Part II discusses the core features of Excel that are needed to build and use models. It covers operations and
functionality, calculations and functions, and sensitivity and scenario analysis.
Part III covers the fundamental structures and calculations that are very frequently used in modeling. This
includes growth‐based forecasting, ratio‐driven calculations, corkscrew structures, waterfalls, allocations,
triangles, and variations of these.
Part IV discusses economic modeling, measurement, and evaluation. It covers the analysis of investments,
interest calculations and compounding, loan calculations, returns analysis, discounting, and present values.
Part V treats the core applications of modeling within corporate finance. It covers the cost of capital, the
modeling of financial statements, cash flow valuation, and ratio analysis.
Part VI covers statistical analysis, as well as data preparation, manipulation, and integration.
Readers will generally obtain the maximum benefit by studying the text from the beginning and working through
it in order. It is intended that the reader builds from scratch the models that are shown, to reinforce the learning
experience and to enhance practical skills. Of course, there may be areas which are already familiar to some
readers, and which can be skim‐read. Nevertheless, the text is intended to be concise and practical, and to contain
information that is potentially useful even to readers who may have some familiarity with the subject.
Although the text is focused on the essentials, at various places it briefly highlights some aspects of more
advanced topics. These are described in Further Topics sections, which are situated at the end of some chapters.
These sections can be skipped at the reader's discretion without affecting the comprehension of the subsequent
text. Note that another of the author's works (Principles of Financial Modelling: Model Design and Best Practices
Using Excel and VBA, John Wiley & Sons, 2018) discusses in detail some topics that are only briefly (or not)
covered in this text (notably VBA macros, optimization, circularities, named ranges, and others). For convenience,
in the current text this other text is occasionally mentioned at specific places where it contains significant
additional materials related to the discussion, and is subsequently referred to as PFM.
The Author

Dr. Michael Rees is a leading expert in quantitative modeling and analysis for applications in business economics,
finance, valuation, and risk assessment. He is Professor of Finance at Audencia Business School in Nantes
(France), where he teaches subjects related to valuation, financial engineering, optimization, risk assessment,
modeling, and business strategy. His earlier academic credentials include a Doctorate in Mathematical Modelling
and Numerical Algorithms, and a BA with First Class Honours in Mathematics, both from Oxford University in
the UK. He has an MBA with Distinction from INSEAD in France. He also studied for the Certificate of
Quantitative Finance, graduating top of the class for course work, and receiving the Wilmott Award for the highest
final exam mark. Prior to his academic career, he gained over 30 years' practical experience, including in senior
roles at leading firms in finance and strategy consulting (JP Morgan, Mercer Management Consulting, and Braxton
Associates), as well as working as an independent consultant and trainer. His clients included companies and
entrepreneurs in private equity; auditing and consulting; finance; banking and insurance; pharmaceuticals and
biotechnology; oil, gas, and resources; construction; chemicals; engineering; telecommunications; transportation;
the public sector; software; and training providers. In addition to this text, he is the author of Principles of
Financial Modelling: Model Design and Best Practices Using Excel and VBA (2018); Business Risk and
Simulation Modelling in Practice: Using Excel, VBA and @RISK (2015); and Financial Modelling in Practice: A
Concise Guide for Intermediate and Advanced Level (2008).
Part One
Introduction to Modeling
1
Modeling and Its Uses

1.1 WHAT IS A MODEL?

A financial model is a representation of a real‐life situation in business, economics, or finance. That is, it identifies
the items that represent the core properties of the situation and expresses the relationships between these. For
example, there is a relationship between the price per unit, the volume sold, and the sales revenue of a business.
This can be captured visually in an influence diagram (Figure 1.1).
From a pure theoretical perspective, the relationship can be defined more precisely using a formula:

(Where V is the volume sold, P is the average price achieved per unit, and S is the sales revenue.)
It is worth noting that the arrows in Figure 1.1 indicate the directionality of the logic. (For convenience, such
diagrams would use the “natural” left‐to‐right flow wherever possible.) On the other hand, in the formula, the logic
is “right‐to‐left”: In the context of numerical computations (and modeling), the = sign is used to mean that the item
on the left (called the output) is calculated from those on the right (called the inputs). In other words, although
from a purely mathematical perspective the left‐ and right‐sides of the formula could be reversed, this would not
be possible from the perspective of modeling, where formulas act not only as a statement of mathematical equality,
but also of directionality.

Figure 1.1 Influence Diagram of a Simple Revenue Model

An Excel worksheet can be used to represent the situation in a very similar way (i.e. to capture only the
relationships). For example, Figure 1.2 shows the formula (in cell C4) that calculates Sales Revenue by
multiplying the value of the Price per Unit (cell C2) with that of the Volume in Units (cell C3), even as the input
cells (i.e. C2 and C3) are currently blank.
Figure 1.2 Excel Model That Contains Formulas but No Values
In Excel, the * symbol is used for multiplication, so that the formula can be thought of as:

The presentation of the value of cell C4 reinforces that C2 and C3 are the inputs (on the right), with C4 being the
output (on the left).
Of course, if one were interested in representing the relationships from a theoretical perspective only, then Excel
would be a relatively ineffective way to do so (i.e. one would be better using mathematical formulas directly in a
text document). In practical applications, a worksheet (model) will be populated with actual input values, which
are relevant for the specific situation under consideration. For example, Figure 1.3 shows the same model but
where the input cells (C2 and C3) contain specific values, so that cell C4 calculates the Sales Revenue that
corresponds to that situation.
The input values can be entered or altered by the modeler (or by another user of the model). For this reason, when
working in Excel, it is good practice to make a clear distinction between inputs and calculations (formulas), so that
a user knows which items can be changed (and which should not be). Figure 1.4 shows an example of using the
shading of a cell to make such a distinction (while perhaps less clear in the black and white image, in addition to
the background shading, the font of such a cell can be a different color to that of the font used of a calculated cell,
in order to increase the distinction further).

Figure 1.3 Excel Model with Input Cells Populated with Values
Figure 1.4 Input Cells with Color‐Coding
Note that in mathematical formulas, each item (such as P, V, or S) represents both the name and the value of that
variable. However, in Excel, by default a formula is “stand‐alone,” and is created directly with reference to the
values of the items. That is, a formula is given meaning (or context) by the labels that are used in other cells. For
example, in Figure 1.4, cell C2 contains a value (10), but we know that this represents the price because of the
label that is entered in cell B2. Similarly, we know that the value in C3 represents the volume by reference to the
label in B3. Similarly, the label in B4 for the sales revenue is an appropriate label for the value in C4 simply
because the value is calculated by multiplying price with volume (rather than, say, adding them). In fact, in Excel,
it is possible to combine these roles (i.e. of the label and the value) by naming the cells (such as naming cell C2
“Price,” cell C3 “Volume” and C4 “Sales Revenue”). This is discussed in Chapter 3 in more detail.
Of course, the input values should be appropriate for the situation that is being addressed. Further – as an entry
into a cell of Excel – each input value is a single number (in principle). The output is also a single number that is
calculated from the inputs. The terms “base case” or “central case” are often used to refer to this single core
“reference” case, which in principle should represent a realistic scenario for the values that may arise (other
scenarios can be defined and stored in the model, such as optimistic or pessimistic cases; see Chapter 4).
In fact, very often, the value used for an input is simply a best estimate or a judgment, or a figure that is derived
from a comparable situation, or from analyzing historical data. Therefore, there may be some uncertainty as to the
true value. Similarly, some inputs may represent items over which a decision‐maker has some control in real‐life
and therefore relate to a decision or choice (rather than being uncertain). These situations can be captured by using
various values for the input assumptions to create scenarios, meaning also that there will be a range in values for
the output. In fact, the creation and analysis of the possible range of outcomes is an important part of using
modeling in decision support. The methods to do so range from the simplest (e.g. copying the model several times,
using different input values for each), to specific sensitivity‐analysis functionality within Excel (covered in
Chapter 4), as well as to more advanced approaches, including risk analysis, simulation, and optimization analysis
(which are mentioned in the Further Topics Sections in Chapter 4 and Chapter 20).

1.2 WHAT ARE MODELS USED FOR?

Models can be used to try to gain a better understanding of (or insight about) a real‐life situation, with the aim of
making a more informed decision in relation to it. For example, one may be deciding whether to launch a business
or not. Within the overall decision, there may be several sub‐options:
A mid‐market “base” business design (reasonable prices and volumes)
A “premium” focus (higher prices but achieving lower volumes)
A “mass‐market” approach (lower prices and achieving higher volumes)
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Exploring the Variety of Random
Documents with Different Content
PICTURE CREDITS:
76
Addison Gallery of American Art (from the painting by E. L.
Henry): pp. 54-55
Battles and Leaders of the Civil War: pp. 25, 31
Library of Congress: pp. 3, 13 (top & bottom), 18-19, 20-21, 22-23
(bottom, left), 32-33, 38-39, 45, 47, 49, 50-51, 56-57, 61, 62, 67
(bottom), 73-75
National Archives: pp. 1, 11, 13 (middle), 14-15, 22-23 (top), 34-35,
37, 40-41, 63, 67 (top), 71
National Park Service: p. 23
Washington and Lee University: p. 59.

FOR FURTHER READING:

Bruce Catton, Grant Takes Command, Boston, 1969

Bruce Catton, A Stillness at Appomattox, New York, 1953
Douglas Southall Freeman, Lee’s Lieutenants: A Study in Command, 3
vols., New York, 1942-46, vol. III
Douglas Southall Freeman, R. E. Lee, A Biography, 4 vols., New York,
1934-35, vols. III and IV
Ulysses S. Grant, Personal Memoirs, 2 vols., New York, 1885-86, vol.
II
Andrew A. Humphreys, The Virginia Campaign of 1864 and 1865,
New York, 1883
Robert U. Johnson and Clarence C. Buel, eds., Battles and Leaders of
the Civil War, 4 vols., New York, 1887 (reissued, 1956), vol. IV
Theodore Lyman, Meade’s Headquarters, 1863-1865: Letters of
Colonel Theodore Lyman from the Wilderness to Appomattox,
edited by George R. Agassiz, Boston, 1922
Francis Trevelyan Miller, ed., The Photographic History of the Civil
War, 10 vols., New York, 1911 (reissued, 1957)
Henry Pleasants, Jr., The Tragedy of the Crater, Boston, 1936
Horace Porter, Campaigning With Grant, New York, 1897 (reissued,
1961)
Benjamin Quarles, The Negro in the Civil War, Boston, 1953
Philip Van Doren Stern, An End to Valor: The Last Days of the Civil
War, Boston, 1958
William Swinton, Campaigns of the Army of the Potomac, New York,
1882
U.S. War Department, War of the Rebellion: A Compilation of the
Official Records of the Union and Confederate Armies, 128 vols.,
Washington, 1880-1901, Series I, vols. 36, 38, 40, 46, 51; Series
III, vol. 5.

NATIONAL PARK SERVICE HISTORY SERIES:

Antietam
Aztec Ruins
Bandelier
Campaign for Petersburg
Chalmette
Chickamauga and Chattanooga Battlefields
Custer Battlefield
Custis-Lee Mansion, the Robert E. Lee Memorial
Ford’s Theatre and the House Where Lincoln Died
Fort Davis
Fort Laramie
Fort McHenry
Fort Necessity
Fort Pulaski
Fort Raleigh
Fort Sumter
Fort Union
Fredericksburg Battlefields
George Washington Birthplace
Gettysburg
Golden Spike
Guilford Courthouse
Hopewell Village
Independence
Jamestown, Virginia
Kings Mountain
Manassas (Bull Run)
Montezuma Castle
Morristown, A Military Capital of the Revolution
Ocmulgee
Richmond Battlefields
Saratoga
Scotts Bluff
Shiloh
Statue of Liberty
Vanderbilt Mansion
Vicksburg
Whitman Mission
Wright Brothers
Yorktown

Pricelists of Park Service publications sold by the Government Printing

Office may be obtained from the Superintendent of Documents,
Washington, DC 20402.

ADMINISTRATION:

Petersburg National Battlefield is administered by the National Park

Service, U.S. Department of the Interior. A superintendent, whose
address is Box 549, Petersburg, VA 23803, is in immediate charge.

As the Nation’s principal conservation agency, the Department of the

Interior has basic responsibilities for water, fish, wildlife, mineral,
land, park, and recreational resources. Indian and Territorial affairs
are other major concerns of America’s “Department of Natural
Resources.” The Department works to assure the wisest choice in
managing all our resources so each will make its full contribution to a
better United States—now and in the future.

U.S. DEPARTMENT OF THE INTERIOR NATIONAL PARK SERVICE

★ U. S. GOVERNMENT PRINTING OFFICE: 1970 O - 389-735

77
Transcriber’s Note

A few typographical errors were corrected without comment.

Retained publication information from the printed edition.
Moved some captions nearer to the corresponding pictures, and
removed (or adjusted) references to picture location in the
printed book.
 *** END OF THE PROJECT GUTENBERG EBOOK CAMPAIGN FOR
PETERSBURG ***

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