Financial model and financial plan – what’s the difference?
Brace yourselves! It’s a series of articles about financial modelling… beginning with a really important question. “Why model?” is the question we pose ourselves before embarking on every new project. It’s a question that you might find yourself asking too if you’ve come across the term “financial model”.
The myth of complex modelling
Modelling is a specific kind of financial planning. There are plenty of financial planning apps and services out there, and many of them are really great. But very few true financial modelling tools are available, especially on a scale suitable for startups and small businesses. Maybe there’s an assumption out there that modelling is just too complicated? Maybe when people think of modelling they think of some accounting wizard, with a 3D Minority Report-style interface, surrounded by calculations and formulae! The truth is far from this – but the image isn’t all that surprising because of the tactile implications of “model”.
What does it mean to ‘model’ something?
The word “model” brings to mind a very visual, three-dimensional thing. You’d expect to be able to reach out and touch a model, to be able to interact with it and look at it from different angles. A model is also, necessarily, a model of a thing. And it doesn’t just look at one aspect of the thing it models. A model shows the complete thing.
What a financial model does
Modelling is like traditional planning in a lot of ways. But the way a model approaches its subject matter is very different. Instead of building up reports to represent the business, a financial model begins by building up a picture of the business itself. With a living, breathing model of a business, you can extract whatever information you want and easily change your model to test different scenarios without disrupting the integrity of the model’s outputs.
So what is the distinction between a financial model and a financial plan in practice? And why do we think a model is what you need? We’ll be back in our next article to look at the differences.