Key Components of a Financial Model - Essential Elements Every Model Should Include

2 of 5: Key Components of a Financial Model - Essential Elements Every Model Should Include

(𝘙𝘦𝘮𝘪𝘯𝘥𝘦𝘳: 𝘞𝘦 𝘢𝘳𝘦 𝘨𝘰𝘪𝘯𝘨 𝘰𝘷𝘦𝘳 𝘧𝘪𝘯𝘢𝘯𝘤𝘪𝘢𝘭 𝘮𝘰𝘥𝘦𝘭𝘪𝘯𝘨 𝘦𝘷𝘦𝘳𝘺 𝘥𝘢𝘺 𝘵𝘩𝘪𝘴 𝘸𝘦𝘦𝘬.)

A financial model can be boiled down to two main components: assumptions and the math. When it all seems overwhelming, remember this: you're making (hopefully educated, well-researched) assumptions about what you think will happen and calculating the outcomes.

It's just:
1. Assumptions
2. Calculating outcomes of those assumptions
3. Including "the actuals" if showing traction

𝗘𝘅𝗮𝗺𝗽𝗹𝗲:
According to HubSpot, the average conversion rate for Instagram ads is 1.08%, but 1% is considered good. So, you'd put your ad spend into the model and do the math to determine expected sales revenue. The 1% is the assumption, and the math is the calculation. After a few months, you'll see "the actuals" and adjust accordingly.

That metric is part of your Customer Acquisition Cost (CAC) (and specifically Cost Per Acquisition, but that's for a different article).

𝗛𝗲𝗿𝗲 𝗮𝗿𝗲 𝗺𝗼𝗿𝗲 𝗲𝗹𝗲𝗺𝗲𝗻𝘁𝘀 𝘆𝗼𝘂𝗿 𝗺𝗼𝗱𝗲𝗹 𝘀𝗵𝗼𝘂𝗹𝗱 𝗶𝗻𝗰𝗹𝘂𝗱𝗲:
• Revenue: Total income generated by sales.
• Gross Margin: Percentage of revenue remaining after direct costs.
• Burn Rate: Rate at which a company spends its capital.
• Runway: How long a company can operate before running out of cash.
• Monthly Recurring Revenue (MRR): Predictable monthly revenue.
• Average Revenue Per Account (ARPA): Average monthly revenue per paid account.
• Customer Acquisition Cost (CAC): Total cost of acquiring a customer.
• Customer Lifetime Value (CLV): Average revenue expected from a customer over their relationship with your business.
• CAC Payback: Time to earn back the cost of acquiring a customer.
• Annual Recurring Revenue (ARR): Predictable yearly revenue.

𝗔𝗱𝗱𝗶𝘁𝗶𝗼𝗻𝗮𝗹 𝗠𝗲𝘁𝗿𝗶𝗰𝘀 𝘁𝗼 𝗧𝗿𝗮𝗰𝗸 𝘄𝗶𝘁𝗵 𝗬𝗼𝘂𝗿 𝗠𝗼𝗱𝗲𝗹:
• Customer Churn / Logo Churn: Percentage of customers lost during a period.
• MRR Churn: Monthly recurring revenue lost from existing customers.
• Contraction MRR: Reduction in MRR from downgrades or churns.
• Customer Growth Percentage: Rate of acquiring new customers.
• LTV:CAC Ratio: Relationship between customer lifetime value and acquisition cost.
• SaaS Quick Ratio: Ability to grow recurring revenue.
• SaaS Magic Number: Efficiency of sales and marketing spend.
• Rule of 40: Combined growth rate and profit margin should exceed 40%.
• Revenue Per Employee: Average revenue per employee.
• Gross Revenue Retention: Revenue retained from existing customers over a period.

Next: 𝗕𝘂𝗶𝗹𝗱𝗶𝗻𝗴 𝗮 𝗕𝗮𝘀𝗶𝗰 𝗙𝗶𝗻𝗮𝗻𝗰𝗶𝗮𝗹 𝗠𝗼𝗱𝗲𝗹 - 𝗦𝘁𝗲𝗽-𝗯𝘆-𝘀𝘁𝗲𝗽 𝗴𝘂𝗶𝗱𝗲 𝗳𝗼𝗿 𝗰𝗿𝗲𝗮𝘁𝗶𝗻𝗴 𝗮 𝘀𝗶𝗺𝗽𝗹𝗲 𝗳𝗶𝗻𝗮𝗻𝗰𝗶𝗮𝗹 𝗺𝗼𝗱𝗲𝗹.

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Building a Basic Financial Model - Step-by-Step Guide for Creating a Simple Financial Model (3 of 5)

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Introduction to Financial Modeling: What it is and Why it Matters for Startups and Established Businesses