A financial model forecasts future revenue and expenses by layering assumptions onto historical data. Unlike financial reporting, which looks backward, or KPIs like customer acquisition cost and churn, which show current snapshots, a model projects what happens next based on strategic decisions.
The first thing, before I even go into why you should have a financial model, I want to talk about what is a financial model. What are we talking about here today? Right? A lot of people get the nomenclature a little confused. So first of all, financial reporting is a view of the past. So somebody asks for, can I get your financials? Oftentimes, they are thinking about the past. They're thinking about your profit loss statement, your income or your income statement, right? Your balance sheet and your cash flow, right? Your income statement tells you how much money you made and how much money you've spent. Your balance sheet tells you how much money you have. And then the cash flow shows how money moves between those two. It's like It's a little bit more complicated than that, but that's a general view of what financial reporting is. That's a view of the past. Now, in the now, you often think about financial KPIs, right? These are the metrics that govern you right now. Things like if you've heard customer acquisition costs, your current MRR number, your lifetime value of customers, your churn, your margin, all of these things are snapshots in time. You can look at those snapshots in time in the past or forecast what those those snapshots in time are in the future, but oftentimes they're most important, most relevant in the now. And then your financial model is the future. You take your past history, you look at your KPIs, and then you layer on some assumptions to what the future is going to look like based on what you're going to do with your company. That's all it is. You take your past revenue, you take your past expenses, and you layer on some expenses of some assumptions to say, in the future, we're going to increase revenue by doing this. In the future, we're going to increase expenses or decrease expenses by doing y, right? Those are the things that you're going to do in your financial model.
