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The Brode Report  |  January 2011

David Brode profile   Hi, this is David Brode. The main article this month is about one part of the art of telling the revenue story for a company. This comes up constantly!

Also, if you haven't yet visited my new web site, feel free to stop by at www.brodegroup.com.

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  Struggling with spreadsheet data overload? Crazy-hard analysis?
Multiple entity forecasts? Complex cash flow structures?
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On Art and Craftsmanship in Financial Modeling

There is this tendency to think that financial forecasting and analysis is all hard-edged, that all about it is known, and it just takes a well-trained practitioner to kick out the results that are needed. My experience is very different from that. I find ample room for creativity that draws on both the art and the craft of creating forecasts, and I want to share one example from each of these areas with you.

Starting with the art of forecasting, one thing that I see consistently in early stage companies is that the operational team is convinced that they have a dozen different revenue streams. And hereís where art comes in. After sitting through dozens of investor meetings where weíre trying to explain the business, my experience is that investors just canít handle more than about four different line items. And the funny thing is that the number of revenue lines a company wants to present is often inversely proportional to the size of the company. Iíve seen companies with under a million in revenue with ten lines. By contrast, consider the revenues for two companies:

 $M Revenue% Rev
 
Energy Infrastructure37,134 24% 
Technology Infrastructure42,474 27% 
NBC Universal15,436 10% 
Capital Finance50,622 33% 
Consumer & Industrial9,703 6% 
 155,369 100% 
 
Company Sites15,723 67% 
Network Sites7,166 30% 
Total Advertising22,889 97% 
Licensing762 3% 
 23,651 100% 
 
The first is GE, and the second is Google. If GE can summarize its $150B+ business into five line items, so can you.

The art, of course, is how to summarize. Iím constantly searching for the right way to break the business down into recognizable chunks. For example, if you sell five of the line items to the same customer, it may make sense to talk about average revenue per customer and customers instead of displaying volume numbers for five different products. Another way is to show penetration of different regions where their populations start to use the service over time.

No matter how the business is sliced, the most important part of the storytelling side is that the story needs to be simple enough that the audience can get it.

VLOOKUP

Another reality of financial forecasting is that we all use Excel, which gives you more than enough rope with which to hang yourself. So now I want to delve into one quick bit of technical craftsmanship.

I saw a model recently where data was being pulled via a VLOOKUP formula. What caught my eye on this was that the lookup column was 20 cols over from the index column, and it wasnít a whole bunch of data in a solid table between the two columns. It was a decent sized worksheet where the result column just happened to be that far away. The 20 in the formula was, of course, hardcoded. I was struck by the fragility of this setup. If someone inserted or removed a column in that range, or if they moved either of the index or result columns, then the formula would be delivering incorrect results.

My takeaway: long VLOOKUPs are prone to error. Better to use OFFSET from the result column. If you donít know how far down to go on the result column, then use MATCH on the index column to get the right parameter for OFFSET. In general, I find OFFSET to be one of the most powerful functions around and would strongly suggest that you add it to your toolbox. An example of this is provided here in this file.

Until we speak again, wishing you all the best for 2011.

David Brode

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