Assume you just received your MBA and now works as an assistant to the CFO of a
ID: 2485303 • Letter: A
Question
Assume you just received your MBA and now works as an assistant to the CFO of a large corporation. You have been asked by the CFO to prepare a financial forecast for the coming year, using an Excel model, and then to present your forecast to the executive officers. Describe how you will deal with 2 or 3 following issues:
In other words, explain the significance of 2 or 3 of th items below when doing a financial forecast.
a) Would you want to set up the model with a number of scenarios ? Explain why.
b) What are "financial feedbacks" and what are the pros and cons of incorporating such feedback into your model.
c) Would you assume that all necessary outside funds are obtained from a single sources, such as a bank loan? Or would you assume a mix of funds raised to keep a target level capital structure? State the pros and cons.
d) Would you want to incorporate into the model the capability to examine the results of changing dividend policy and capital structure policy? What other operating policy change may you ant to consider? e. What does the acronym GIGO stand for and how important is this for someone who is developing a financial model? How might post-audits and incentive compensation plans help reduce GIGO?
Explanation / Answer
Answer
Answer a)
Would you want to set up the model with a number of scenarios ? Explain why.
Answer : Yes We would want to set up model with number of scenarios because financial forecast is about future period which requires various assumptions to be made while preparing such forecast. Such assumptions are subject to future uncertainty which requires form various scenarios.
Answer b)
What are "financial feedbacks" and what are the pros and cons of incorporating such feedback into your model.
Answer : Financial feedbacks are dynamic, ensuing responses to excitations of a financial system. They are time-dependent, generally non-linear and multi-step processes defining the relative stability of the system. Financial feedbacks may originate from endogenous or exogenous incentives to monetary markets and institutions, and are propagated via interactions within the system. The cumulative causal outcomes of feedback effects may range from amplification and pro cyclicality in positive-simple loop feedbacks, to dampening and counter cyclicality in negative-simple loop feedbacks, to generally complex, asymmetric, time-dependent patterns in complex multi-loop feedback mechanisms.
Advantage of incorporating financial feedback in model is that it helps in preparing realistic forecasts. Disadvantage of incorporating Financial feedback in model is that financial feedbacks itself are subject to change which may misled financial forecast.
Answer c)
Would you assume that all necessary outside funds are obtained from a single sources, such as a bank loan? Or would you assume a mix of funds raised to keep a target level capital structure? State the pros and cons.
Answer: we will assume all possible and viable mix of funds raised to keep a target level capital structure. Advantage is that It helps in preparing realistic financial forecast. Disadvantage is that assumption of a mix of funds raised to keep a target level capital structure will make capital structure decision more complex and some of the funding source may not be viable in future on change of circumstances.
Answer d)
Would you want to incorporate into the model the capability to examine the results of changing dividend policy and capital structure policy? What other operating policy change may you ant to consider? e. What does the acronym GIGO stand for and how important is this for someone who is developing a financial model? How might post-audits and incentive compensation plans help reduce GIGO?
Answer : We would want to incorporate into the model the capability to examine the results of changing dividend policy and capital structure policy. We may also want to consider possible capital expansion, Change in solvency, liquidity and profitability positions in financial model.
The term "garbage in, garbage out" originated in the computer science and information technology fields to illustrate the fact that the quality of the output received from a computer program depends on the quality of the information that was input. The term has expanded in meaning to other fields, finance among them. For a small-business owner, the term serves as a warning that the value and accuracy of a financial model created during the annual planning process are only as good as the assumptions used to create the model.
A financial model is a numerical depiction of how your company operates. The revenue model projects sales for all of the revenue streams your company has products and services. The expense model predicts what expenditures must be made to generate the forecast revenue levels and to operate the company's administrative function. The forecast models are management decision-making tools. By changing assumptions, you can see the effects on your bottom line profit. Models are created using spreadsheet software.
Base your financial models on thorough research about the industry you're in, and about the economic and competitive environments your business is likely to face in the upcoming year. Flawed assumptions for your models, such as overestimating how many customers prospects will be converted to customers, will amount to "garbage in," and will lead to unrealistic models -- "garbage out." Consult trade associations' publications or websites to obtain average performance metrics for your industry -- sometimes called key performance indicators, or KPIs –- that can serve as a reality check for your assumptions.
Post-audits and incentive compensation plans will help in making realistic assumptions in financial forecast and will help in reducing GIGO.
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