The Basic Model for F552

1
The Basic Model for F552

• A set of questions to be answered involving
  expectations and plans for the future operations
  of the business, their financial implications,
  and the use of external financing sources.

2
Strategic Issues

• What is managements strategy or plan for the
  firm?
• What are the financial implications of that
  strategy?
• In particular, does implementation of the
  strategy require external financing or create
  problems given existing financial obligations?

3
External Financing Issues

1. What are the available sources of external
   financing?
2. What terms or conditions will be imposed on the
   firm by each source?
3. Will the firm be able to service its current and
   future debt? With what degree of confidence?
4. Is ownership (stockholder) composition a problem?
5. What are the relative costs?
6. Any other concerns or problems associated with a
   given source?

4
Conclusions

• Do the terms, conditions, requirements, or costs
  of the best available financing source pose
  significant risks or problems in the future?
• If the answer to the above is yes, should
  managements strategy be re-evaluated?

5
Comments

• The answers to the questions posed are not always
  clear and there can be legitimate differences of
  opinion about them.
• We shall also see that the basic model does not
  always applythat firms sometimes raise money for
  reasons other than implementing a business or
  corporate strategy.

6
Financial Forecasting and Planning

• A Three Step Process
• Decide on the macro modelWhat do you need to
  know?
• Specify the micro structureWhat methods will you
  use?
• Specify the assumptionsWhere will you get the
  data?

7
Choosing a Macro Model

• What forecast intervals are needed?
• Daily, Monthly, Quarterly, Annual
• What should be the model structure?
• Cash flow statements
• Income statements and balance sheets
• Free cash flow
• Other?

8
Choices for Micro Structures--Relationships

• Subjective (Guesstimates)
• Should be based on facts. You should be able to
  explain your reasoning to other people.
• Use Historical Relationships or Trends
• Various methods can be used.
• Use Management Plans and Expectations
• Same methods are available as in 2.

9
Financial Forecasting Methods

• No change from current value.
• Maintain current trends.
• Absolute (), Relative (), Other?
• Statistical modelinglinear or other.
• Relationship modeling
• Relative to another variable e.g. of sales.
• Accounting relationshipT-accounts.