Judging by the feedback on our recent Agile Financial Modelling ebook, it seems lots of you have had similar experiences, and developed similar approaches.
One email in particular made me laugh and so I asked permission to share it:
"Dear Kenny,
I took a look at your financial modelling booklet.
Your comment relating to the ‘traditional life-cycle’ of building financial models made me smile. That is true as true can be.
It reminded me of my time at [INSERT NAME OF LARGE ACCOUNTING FIRM] and one particularly case where an Associate Director chap managed to burn a good part of the client's modelling budget (and time) in drafting a pretty comprehensive scoping document.
It was welcomed by client FD with: 'Where the @%*$ is the model or any draft of it? You can stick that damn document in your @%£$'.
That’s the spirit."
April was a busy month for our training support team, with a 45% increase in the number of questions from our online financial modelling training customers.
We were pleased that our average response time fell to 12.3 hours, down from 15.2 hours in March. More than 1 in 10 questions were responded to in under an hour, with more than half responded to in under 8 hours. Our target is to respond to all questions within one business day.
Overall we achieved a 94% satisfaction rating in April across all our online training support. This was down from March's 100% score due to some responses taking longer than clients expected due to time zone issues. Over the coming months we'll be setting up training support in other time zones which should help to address this.
Thanks to all our training clients for asking great questions - keep them coming!
Building financial models in an inherently difficult and complex task.
Although there is plenty of guidance about how to build financial models, including our own free introdutory financial modelling course, there has been lack of useful advice about how to function effectively as a team of modellers.
In financial modelling books and in-house "best practice financial modelling guides", the recommendation is generally to adopt a "lifecycle approach" to the management of model build: Specify, Design, Develop, Test, Deploy.
We found that applied to most financial modelling assignments this approach doesn't work.
Over time therefore, as a 40 person strong modelling team that has been in operation for more than 8 years, we developed our own methodology. We originally thought this was unique to us.
We recently found out that the software industry has faced similar problems. The traditional "lifecycle" or "waterfall" approach generally wasn't working for them either. In response, a new approach known as "Agile" has emerged. This is now being applied outside software developments, including manufacturing highly fuel efficient sports cars.
The principles of Agile do a very good job of describing the financial model build methodology we have developed at F1F9 and have come to rely on because, in short, it works.
We're delighted therefore to have published a short e-book setting out the 10 Principles of Agile Financial Modelling.
In this ebook, you'll learn:
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why the traditional "lifecycle" or "waterfall" approach to project management doesn't work for financial modelling
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how software developers have solved this problem using an approach called Agile
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how an Agile development approach can work for financial modelling
Download the ebook using the link below and please share your experiences of what works, and what doesn't in the comments area.
Financial modelling is, or at least should be considered in terms of, a team sport - the talents of an individual modeller, no matter how fantastic, are nothing if they cannot work together within a collaborative team to achieve their goals.
Michael Jordan, legendary NBA basketball player said this about teamwork:
There are plenty of teams in every sport that have great players and win titles. Most of the time, those players aren't willing to sacrifice for the greater good of the team. The funny thing is, in the end, their unwillingness to sacrifice only makes individual goals more difficult to achieve. One thing I believe to the fullest is that if you think and achieve as a team, the individual accolades will take care of themselves. Talent wins games, but teamwork and intelligence win championships.
Take cricket players Shane Warne and Sachin Tendulkar. In their finest hour, the performances of their careers meant nothing because their team, as a whole, did not perform well.
In the past, financial modelling was a one-man show with everything depending on the "modelling guru" and it didn't seem to matter that no one else - least of all the client - could understand the model. With the evolution the FAST standard, a common language for collaborative modelling, this is no longer the case.
Model building can now be shared among the team, leading to parallel working and great efficiency.
Absence of team work can lead to problems, among them:
- Work is duplicated causing inefficiency
- Deadlines are missed
- Models are more error prone
Consider the equestrian. Although in the ring there is just one person competing for the ribbon, behind that person there is the horse, the horse’s handler, the trainer, even the saddle - there are many facets involved in making the equestrian a champion.
Similarly, in financial modelling, the collaboration of a cohesive team is essential to the completion of a successful model build.
On January 23rd Morten and I joined other members of the FAST Moderation Board from Deloitte, Mazars, and Rebel Group at FAST Standard Organisation events in Rotterdam and Brussels.
From our perspective it's interesting to see how the governance framework that has been put in place since the launch of the FAST Standard Organisation is enabling more and more companies to adopt the standard, knowing that they are not going to be "locked in" to one supplier for modelling and training services.
Together with a host of company executives, advisers, practitioners, academics and financiers from a wide variety of companies and organisations we had some great discussions about FAST.
Robert-Jan Bakker, Portfolio Manager from Pension Fund APG, discussed the benefits he's seen as a result of using FAST. He noted that as modelling is never a solitary activity and that because we work together, as teams, as partners, as companies, then standardisation has clear benefits.
Kees Horcher, co-founder of Rebel, commented that while Rebel are known for normally eschewing standards, in the case of modelling they have found that adopting FAST has allowed them to focus on driving innovation in the area of analysis. He described how the standard allows Rebel to "create modules which make it very simple to build a new model. We can build a new project finance model in a less than week, for example." He continued that "modelling speed is tremendously increased by using the standard".
This short video gives an overview of the event.
In an exciting development for the spread of FAST awareness and methodology, we have formed a partnership with Vair Training, LLC to run a range of financial modelling training courses globally. The alliance combines our modelling courses based on the industry-proven FAST Standard and Vair’s commercially-based training programmes to create a targeted and comprehensive approach to modelling.
While we teach people how to build better financial models that can be used and understood by anyone, Vair deliver advanced financial modelling workshops with a focus on quantitative-based training within the global infrastructure community. Their course topics include financial statement modelling and analysis, project finance and public-private partnerships.
“F1F9 is a financial-training innovator. The FAST modelling methodology that they have been a driving force in developing is one that we have always admired and consistently recommend to our learners” said Stephen Janes, Managing Director at Vair. “By adopting the standard in our own course materials, we are ensuring that our students are part of the largest international community of modellers”.
Added Charles “Chip” Haskell, Managing Director and Head Trainer at Vair, “Offering F1F9 courses to all our students will allow them the opportunity to master the fundamental modelling skills necessary to fully benefit from Vair’s advanced training programmes. We both use a strict ‘hands-on’ approach in our classes, and this collaboration perfectly complements our respective technical and commercial training skills as they pertain to the model".
Kenny Whitelaw-Jones, Managing Director at F1F9, said “Financial modelling is always a means to an end. Vair courses focus on how to use financial models to support commercial negotiations. To that end, they are an excellent supplement to our model-build courses and we think they will be of real value to our client base”.
Many decision-makers wish they had better forecasts. It is frustrating when you know that you would have made a better decision with better information.
Why are business forecasts so often unreliable?
1. Forecasting methods are poorly documented;
2. The performance of the forecasting method used is rarely evaluated;
3. Those doing the forecasting seldom understand the importance of the forecast for resource planning, decision making and the performance of the business as a whole;
4. Probability-driven forecasting based on a pipeline is usually wrong;
5. Sales teams tend to overstate the quality of their prospects;
6. Useful information from outside the sales team is rarely called upon;
7. Different business environments need different forecasting techniques and processes;
8. To many people it all seems too complicated and, given other priorities, forecasting is simply not given the time and energy it deserves.
These reasons don't mean that you shouldn't forecast. In fact, they underline the need to improve.
If you can forecast effectively you will:
Make better decisions;
Plan your business resources and purchasing more effectively;
Improve your control of cash-flow;
Look better in the eyes of external funders, potential investors and other stake-holders;
Keep your job!
How you can improve your forecasting?
1. Don't use one forecasting methodology. At F1F9 we use multiple methods in parallel and, over time, select the methodology that works best for the particular dynamics of each client’s business;
2. Update forecasts regularly. We usually support our clients with monthly updates to their business forecasts. Some clients require more frequent updates, some less frequent;
3. Measure the performance of the forecasting methodology itself against the actuals;
4. Talk to all the people involved in the process to understand why the reality was different to the plan – and refine the methodology accordingly;
5. Don’t just include the sales team; Also involve key operational and finance staff and maybe even customers;
6. Make sure the forecasting model is transparent and usable. Use a recognised modelling standard
Finance personnel spend enormous amounts of time on the regular departmental routines of year end, budgeting, forecasting and producing month end board reports and updates.
When we provide corporate modelling support we typically reduce this time by over 50%.
Better quality, timely forecasting means better decision making.
This question was one of several that were discussed at the FAST Standard Organisation Launch event in London this month.
Experience from other areas of human endeavour tells us that standards are more likely to promote innovation than inhibit it.
In his book, "The World is Flat", Thomas Friedman quotes Joel Cawley, Head of IBM''s strategic planning unit who said:
"Standards don't eliminate innovation, they just allow you to focus it. They allow you to focus on where the real value lies, which is usually everything you can add above and around the standard"
In software development the code is never the end in itself. The value is application created by the code and the problem it solves. Standardisation in coding facilitates innovation in application development; better software solving more problems.
Similarly spreadsheet models are never an end in themselves. They are only ever created to answer a business question. Knowing what question to ask, and knowing what to do with the answer, is where the real value lies. This is what our clients add above and around the standard.
As one of our Private Equity clients put it:
"Every investment we make starts with a hypothesis. The financial model is the environment in which we conduct experiments to test that hypothesis. Our focus is on formulating the right hypothesis, and then understanding what the experiment tells us. FAST helps us by reducing the time it takes us to understand the spreadsheet itself, so that we have more time to think about and act on what it is telling us"
Arguably, the greater the level of financial innovation, the more of a requirement there is for clarity and transparency in the modelling. There has been quite a lot of interest recently in social impact bonds where financial innovation is being applied to achieve social objectives. One example of this is Bond for Hope which is taking an innovative approach to tackling unemployment in the UK. They are using the FAST standard in their modelling because they know that they will have to share their analysis with multiple stakeholders to get the project to completion.
Another client put it like this:
"The application of standards allows a team based approach to modelling and reduces our risk. This gives people the confidence to try out new and innovative solutions to client problems, knowing that their analysis will be understood by their colleagues and by the client."
Software standards represent the distilled wisdom of thousands of developers who through decades of trial and error have come to understand what works, and what doesn't.
As an independent standards body the FAST Standard Organisation can now do the same for financial modelling.
I’ve just finished writing some teaching material that focuses on foreign exchange, for our
online FAST Financial modelling course. It reminded me of how little I understood when I became an accountant.
Take inventory for example. In the first two weeks of accountancy training, we did bookkeeping. We learned about inventory. We learned that inventory was valued at the lower of cost and net realisable value. We were tested on inventory. Could we do the double entry bookkeeping? Could we prove that we should retain our training contracts with our big important firms by showing we knew what to do with inventory? In those early days, I knew what to do with inventory. But I did not understand it. It was only when I came to model inventory that I got it.
What modelling gets you to realise is a simple fact that most accountants just don’t think about: the whole point of inventory is that it excludes any profit margin. The lower of cost or net realisable value means no profit. Not a thing.
On countless occasions – and once at Wolverhampton Wanderers – I have stood in front of an audience of accountants and told them about cork screws in financial modelling. “What makes inventory go up?”, I ask. “Purchases”, they reply. “Quite right”, I say. “Now: what makes inventory go down?”. “Sales”, they reply. Every time. Without fail.
Of course it is not sales – it is cost of sales (since cost of sales excludes profit margin). And every accountant when they stop to think about it knows that it is cost of sales. Financial modelling forces you to think about it.
We recently posted Industry Insights interviews focusing on infrastructure financing with Toby Stokes of Aviva and Dominic Nathan of Assured Guaranty discussing the lending options provided by their firms.
We're continuing on the infrastructure financing theme with Tim Stone of KPMG taking a global perspective on how Europe could fund some of the anticipated infrastructure investment requirement.
In today's Industry Insights interviewTim shares his thoughts on:
1. how we could get institutional money into deals
2. which countries already have institutional investors active in infrastructure financing and
3. why institutional money is a natural fit with infrastructure lending.</li>
There's also an interesting article on the potential effects of regulation on both the banks and pension funds ability to lend to infrastructure projects on Infranews (How a Rise in Regulation is Set to Have a Dramatic Impact on Infrastructure Investing by Mike Dunning). This article explores the negative impact the increase in key capital ratios imposed by Basel III will have on the banks' ability to lend long term, which would open up the market for institutional investors. In theory this is great news for the institutional investors but unfortunately most don't have the in house teams in place to structure and manage these types of loans. In addition to their in house problems, the European Commission is considering applying the Solvency II regulations to pension funds which would limit their ability to lend to infrastructure projects.