Financial Modeling in Excel  ® Financial Modeling in Excel  ® by Danielle Stein Fairhurst Financial Modeling in Excel® For Dummies® Published by: John Wiley & Sons, Inc., 111 River Street, Hoboken, NJ 07030-5774, www.wiley.com Copyright © 2017 by John Wiley & Sons, Inc., Hoboken, New Jersey Published simultaneously in Canada No part of this publication may be reproduced, stored in a retrieval system or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, scanning or otherwise, except as permitted under Sections 107 or 108 of the 1976 United States Copyright Act, without the prior written permission of the Publisher Requests to the Publisher for permission should be addressed to the Permissions Department, John Wiley & Sons, Inc., 111 River Street, Hoboken, NJ 07030, (201) 748-6011, fax (201) 748-6008, or online at http://www.wiley.com/go/ permissions Trademarks: Wiley, For Dummies, the Dummies Man logo, Dummies.com, Making Everything Easier, and related trade dress are trademarks or registered trademarks of John Wiley & Sons, Inc and may not be used without written permission Excel is a registered trademark of Microsoft Corporation All other trademarks are the property of their respective owners John Wiley & Sons, Inc is not associated with any product or vendor mentioned in this book LIMIT OF LIABILITY/DISCLAIMER OF WARRANTY: THE PUBLISHER AND THE AUTHOR MAKE NO REPRESENTATIONS OR WARRANTIES WITH RESPECT TO THE ACCURACY OR COMPLETENESS OF THE CONTENTS OF THIS WORK AND SPECIFICALLY DISCLAIM ALL WARRANTIES, INCLUDING WITHOUT LIMITATION WARRANTIES OF FITNESS FOR A PARTICULAR PURPOSE.  NO WARRANTY MAY BE CREATED OR EXTENDED BY SALES OR PROMOTIONAL MATERIALS. THE ADVICE AND STRATEGIES CONTAINED HEREIN MAY NOT BE SUITABLE FOR EVERY SITUATION. THIS WORK IS SOLD WITH THE UNDERSTANDING THAT THE PUBLISHER IS NOT ENGAGED IN RENDERING LEGAL, ACCOUNTING, OR OTHER PROFESSIONAL SERVICES. IF PROFESSIONAL ASSISTANCE IS REQUIRED, THE SERVICES 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may not be included in e-books or in print-on-demand If this book refers to media such as a CD or DVD that is not included in the version you purchased, you may download this material at http://booksupport.wiley.com For more information about Wiley products, visit www.wiley.com Library of Congress Control Number: 2017936812 ISBN: 978-1-119-35754-4; ISBN 978-1-119-35755-1 (ebk); ISBN 978-1-119-35756-8 (ebk) Manufactured in the United States of America 10 Contents at a Glance Introduction Part 1: Getting Started with Financial Modeling CHAPTER 1: Introducing Financial Modeling Getting Acquainted with Excel 15 CHAPTER 3: Planning and Designing Your Financial Model 31 CHAPTER 4: Building a Financial Model by the Rulebook 49 CHAPTER 5: Using Someone Else’s Financial Model 65 CHAPTER 2: Part 2: Diving Deep into Excel 89 CHAPTER 6: Excel Tools and Techniques for Financial Modeling 91 CHAPTER 7: Using Functions in Excel 121 CHAPTER 8: Applying Scenarios to Your Financial Model 159 CHAPTER 9: Charting and Presenting Model Output 181 Part 3: Building Your Financial Model 211 CHAPTER 10: Building an Integrated Financial Statements Model 213 a Discounted Cash Flow Valuation 247 CHAPTER 12: Budgeting for Capital Expenditure and Depreciation 257 CHAPTER 11: Building Part 4: The Part of Tens 275 CHAPTER 13: Ten Strategies for Reducing Error 277 CHAPTER 14: Ten Common Pitfalls to Avoid 287 Index 299 Table of Contents INTRODUCTION About This Book Foolish Assumptions Icons Used in This Book Beyond the Book Where to Go from Here 2 3 PART 1: GETTING STARTED WITH FINANCIAL MODELING CHAPTER 1: Introducing Financial Modeling Defining Financial Modeling What it is Who uses it Why it matters Looking at Examples of Financial Models 10 Project finance models 11 Pricing models 11 Integrated financial statement models 12 Valuation models 12 Reporting models 13 CHAPTER 2: Getting Acquainted with Excel 15 Making Sense of the Different Versions of Excel A rundown of recent Excel versions Focusing on file formats Defining Modern Excel Recognizing the Dangers of Using Excel Capacity Lack of discipline Errors Looking at Alternatives and Supplements to Excel CHAPTER 3: 15 16 20 21 23 24 25 25 28 Planning and Designing Your Financial Model 31 Identifying the Problem That Your Financial Model Needs to Solve 31 Designing How the Problem’s Answer Will Look .34 Gathering Data to Put in Your Model 39 Documenting the Limitations of Your Model 41 Table of Contents vii Considering the Layout and Design of Your Model Structuring your model: What goes where Defining inputs, calculations, and output blocks Determining your audience CHAPTER 4: Building a Financial Model by the Rulebook 49 Document Your Assumptions Create Dynamic Formulas Using Links Only Enter Data Once Model with Consistent Formulas Build in Error Checks Allowing tolerance for error Applying conditional formatting to an error check Format and Label for Clarity CHAPTER 5: 42 44 45 46 49 54 56 57 59 61 61 63 Using Someone Else’s Financial Model 65 Considering Templates for Building a Financial Model Why templates can be appealing What’s wrong with using templates Why you should build your own model Inheriting a File: What to Check For Meeting a model for the first time Inspecting the workbook Using Audit Tools to Find and Correct Errors Checking a model for accuracy Making sense of the formulas 66 66 66 68 69 69 71 77 78 82 PART 2: DIVING DEEP INTO EXCEL 89 CHAPTER 6: Excel Tools and Techniques for Financial Modeling 91 Referencing Cells 91 Relative cell referencing 93 Absolute cell referencing 95 Mixed cell referencing 97 Naming Ranges 100 Understanding why you may want to use a named range 100 Creating a named range 101 Finding and using named ranges 102 Editing or deleting a named range 104 Linking in Excel 104 Internal links 104 External links 107 Using Shortcuts 109 viii Financial Modeling in Excel For Dummies red triangle comments, 50–51 ROW function, 292 redundancies, checking for, 292 RTD (Real Time Data) functions (Inspect Document), 75 redundant assumptions, 81 redundant cells, removing, 81 #REF! error, 107, 210, 285, 288 referencing cells, 91–100 relative cell reference, 91, 93–95 Remember icon, Remove Duplicates dialog box, 145 removing external links, 292 S sales volume, projecting, 219–221 SAS, 29 scalability, when building models, 67 scenario analysis, 160, 283–284 scenario comparison, 32 formatting, 291–292 Scenario Manager, modeling loan calculations using, 175–179 images, 292 scenario sheet, 46 information, 73 scenarios logos, 292 about, 159–160 named ranges, 104 adding to models, 44 redundant cells, 81 applying, 159–179 reporting models, 11, 13 applying formats to, 164–166 reports, designing, 43 applying sensitivity analysis with data tables, 167–174 resources Cheat Sheet, data validations, 40 Dummies, assumptions about, 242 base case, 283 best case, 283 errors in spreadsheets, 23–24, 26 building, 241–245 Microsoft Excel 2016 All-in-One For Dummies (Harvey), 158 building drop-down, 161–166 charting, 184–186 Microsoft Excel Power Pivot & Power Query For Dummies (Alexander), 23 comparing types of analysis, 160 Using Excel for Business Analysis: A Guide to Financial Modeling Fundamentals (Fairhurst), 158, 225 “Do something,” 32 restricting user data entry, 113–115 results, separating from inputs and calculations, 44 revenue, calculating, 219–222 revenue assumptions, 216–217 RGB color code about, 37 finding, 38–39 ROUND function, 135–141 ROUNDDOWN function, 135–141 rounding numbers, 63 ROUNDUP function, 135–141 “Do nothing,” 32 drop-down, building, 161–166 in financial models, modeling loan calculations using Scenario Manager, 175–179 worst case, 283 selecting charts, 186–204 sensitivity analysis about, 160 applying with data tables, 167–174 stress-testing with, 281–283 series names, adding to line charts, 189–190 setup, of models, 175–176 shareholders’ equity, on balance sheet, 237 Index 311 sharing models, 87, 296–297 SWITCH function, 17 shortcuts symbols, for currency, 63 Alt+=, 124 for editing, 111 F1, 110 F2, 110 F4, 98, 110 finding, 112 for formulas, 112 for navigating, 111–112 for precedent cells, 81 using, 109–113 Show Formulas tool, 87 showing data, 182–184 formulas, 57, 70 64-bit Excel, 25 size, file, 291–293 Slicers (Microsoft Excel 2010), 19–20 slicers feature (Inspect Document), 74 source data, as a key element of a financial model, 42 sources of funds, 215 spaghetti links, 293–294 T Tableau, 29 tables, data adding to bar charts, 193 adding to models, 184 applying sensitivity analysis with, 167–174 Tagetik, 29 Task pane add-ins feature (Inspect Document), 74 tax, 228 Technical Stuff icon, techniques and tools about, 91 audit, 77–87 Error Checking, 83–84, 85 Evaluate Formula, 82–83 goal seeking, 117–119 Inspect Workbook, 71–77 links, 104–109 naming ranges, 100–104 Power BI, 21–23 Sparklines (Microsoft Excel 2010), 19–20, 186 Power Map, 21–23 specialized functionality, when building models, 67–68 Power Pivot, 21–23 Power Query, 21–23 Spreadsheet Advantage, 29 Power View, 21–23 Spreadsheet Detective, 29 referencing cells, 91–100 Spreadsheet Professional, 29 restricting and validating data, 113–116 stacked area chart, changing line charts to, 191 shortcuts, 109–113 stacked bar chart, 192 staff costs, 222–223 straight-line method, of depreciation, 225 stress-testing, with sensitivity analysis, 281–283 structure, of financial models, 8, 44–45 SUM function, 123–125 SUMIF function, 145–148, 244–245 SUMIF Function Arguments dialog box, 147–148 SUMIFS function, 157 summaries, designing, 43 summary sheet, 46 Sunburst charts, 202–203 312 Financial Modeling in Excel For Dummies Show Formulas, 87 Tell Me What You Want to Do box (Microsoft Excel 2016), 16 templates budget model, 258–260 for building models, 66–69 terminal value, 249, 253–254 text dynamic, 205–209 hard-coded, 53 linked dynamic, 53–54 TEXT function, 207 TEXTJOIN function, 17 Trace Precedents, 79–81 32-bit Excel, 25 tracer lines, 80–81 three-way financial models TRANSPOSE function, 158 about, 11, 12, 213–214 Treemap charts, 203–204 building, 213–245 troubleshooting models, 297–298 building balance sheet, 236–241 building cash flow statement, 232–236 building income statement, 227–232 building scenarios, 241–245 calculating expenses, 222–227 calculating revenue, 219–222 case study overview, 214–215 entering assumptions, 215–219 time series determining, 40 setting up for budget template, 259 time value of money, 248 timelines feature (Inspect Document), 74 Tip icon, titles, chart, 205 TM1, 29 TODAY function, 207, 292 tolerance, allowing for errors, 61 tools and techniques about, 91 audit, 77–87 Error Checking, 83–84, 85 Evaluate Formula, 82–83 goal seeking, 117–119 Inspect Workbook, 71–77 links, 104–109 naming ranges, 100–104 Power BI, 21–23 Power Map, 21–23 Power Pivot, 21–23 Power Query, 21–23 Power View, 21–23 referencing cells, 91–100 restricting and validating data, 113–116 shortcuts, 109–113 Show Formulas, 87 Trace Dependents, 79–81 U URL hyperlinks, 52–53 useful life, of assets, 267–268 user input, 27 Using Excel for Business Analysis: A Guide to Financial Modeling Fundamentals (Fairhurst), 158, 225 V valuation, 254–255 valuation models, 11, 12–13 #VALUE! error, 285 values, error, 284–285 variables, in financial models, verifying accessibility, 76 compatibility, 77 formulas, 292 models for accuracy, 78–81 your work, 278–279 versions, of Excel, 15–21 vertical lookup, 149 VLOOKUP function, 148–153, 267–268, 295 W WACC (weighted average cost of capital), calculating, 252–253 Warning icon, Watch window, 85–86 Watch Window dialog box, 85–86 Waterfall charts, 200–202 websites Cheat Sheet, data validations, 40 Dummies, errors in spreadsheets, 23–24, 26 Index 313 weighted average cost of capital (WACC), calculating, 252–253 what-if analysis, 160 written-down date, for assets, 268 written-down value, calculating of assets for balance sheet, 273–274 white space, 210 work asking someone to check your, 280 checking your, 278–279 rechecking your, 279–280 workbooks checking calculations in existing models, 70 inspecting, 71–77 workings sheet, 46 X XLSB file format, 21 XLSM file format, 21 XLS/XLSX file format, 20, 292 Y YEAR() formula, 261 worksheets Assumptions, 215 using multiple, 45 worst case scenario, 283 314 Financial Modeling in Excel For Dummies Z zooming, 210 Notes Notes About the Author Danielle Stein Fairhurst is a professional financial modeler with many years’ experience as a financial modeling analyst She helps her clients create meaningful financial models in the form of business cases, pricing models, and management reports She has hands-on experience in a number of industry sectors, including telecoms, information systems, manufacturing, and financial services She is also the author of Using Excel for Business Analysis: A Guide to Financial Modelling Fundamentals (Wiley Finance) Danielle has regular engagements in Australia and around the world as a speaker, course facilitator, financial modeling consultant, and analyst Her custom-built training courses have been described by attendees as well presented, neatly structured, informative, practical, and extremely relevant to their everyday needs She holds a Master of Business Administration (MBA) from Macquarie Graduate School of Management (MGSM), and has taught management accounting subjects at Sydney University Danielle is the founder of the Financial Modelling in Excel LinkedIn forum, which has more than 40,000 members worldwide She also founded Modelers’ Meetup groups with over 5,000 members in seven countries She was a recent guest on Excel TV and has been interviewed for several industry podcasts Dedication For Mike, as always Author’s Acknowledgments First, I must thank the many thousands of student modelers I’ve trained over the years both in face-to-face training courses and online I’ve used their feedback and experiences to build, design, and improve the examples used in this book A number of people, including colleagues and industry experts, have assisted me with this book Many of these people have taken the time to give me feedback and share their opinions on the subject For their input and support, I am very grateful: Susan Wilkin, Gail Davies, Matt Allington, John Michaloudis, Ian Bennett, Lance Rubin, Michael Hutchens, Justin Oh, Michael Alexander, Peter Bartholomew, and Johann Odou I’d also like to thank Tate, for his good cheer and help with graphics, and Mieke, for her constant supply of iced coffee as I wrote throughout our sweltering Sydney summer, as well as Enid for keeping me warm as I wrote during a winter visit to the UK Publisher’s Acknowledgments Acquisitions Editor: Katie Mohr Production Editor: Tamilmani Varadharaj Project Editor: Elizabeth Kuball Cover Image: © Alexey Rozhanovsky/ Shutterstock Copy Editor: Elizabeth Kuball Technical Editor: Mike Talley Editorial Assistant: Serena Novosel Sr Editorial Assistant: Cherie Case WILEY END USER 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CHAPTER Introducing Financial Modeling 13 PUTTING FINANCIAL MODELING ON YOUR RÉSUMÉ When you know exactly what’s involved in the modeling process and you have knowledge of financial modeling skills