In general, the purpose of financial modelling is to assist in the identification, design and selection of the best course of action to achieve some objective. More specifically, modelling can be used to:
- Assess the feasibility of a particular course of action, business or project.
- Ensure that the decision processes are as robust and transparent as possible.
- Make explicit the decision criteria that will be used (and calculate or forecast these).
- Focus the decision process on the key factors and relevant items that affect a situation.
- Improve one’s understanding (or beliefs or hypothesis) of the situation, including the degree of control or influence that one has over which items, and the residual areas of risk and uncertainty.
- Determine the ideal data requirements (and compare this with available data).
- Establish the impact of particular scenarios or uncertainties and risks to a forecasted value.
- Highlight the need for additional actions or changes to original plans, targets or beliefs.
- Set targets knowing the requirements and likelihood of reaching them.
In summary, by assessing the effect of actions that are under one’s control, one can create and test alternatives, choose the best, and appropriately manage the risks and uncertainties.