Financial model: what it is, what it consists of and how to build one

A project financial model is a spreadsheet, usually in Excel, that translates every business plan into money and links them with formulas.

Sales, hiring, purchasing, investment and taxes become a forecast of profit, cash flow and the balance sheet.

The model shows when the project will break even, how much money it needs until then, and what happens if something does not go to plan.

This guide is built on our practice: we have been building financial models for startups, investment projects and established businesses for years.

There are standard approaches — the FAST methodology, PwC, Deloitte and McKinsey practices, CFA and FMVA programmes, the venture approach of accelerators.

Each has its strengths, but in real work standard templates do not always fit a living business.

So this guide covers not only calculations but also management psychology, flexibility, scenario modelling and real business constraints. The whole path is split into 20 steps.

This article covers what a model is, what it consists of, the main mistakes and the first four steps; the remaining steps are in the next three articles of the series.

What a financial model is

Many people treat a financial model as something static — a spreadsheet of calculations “just in case”. In reality it is a dynamic management tool.

It helps forecast financial results and see which management decisions will lead to them.

A good financial model answers the key questions of a business:

• When will the business become profitable?
• What happens if sales come in below expectations?
• How will rising raw material or rent costs affect profitability?
• Which costs are critical, and where can you save without hurting the business?

In essence, a financial model is the financial expression of all key business plans:

• staffing — whom to hire, when, and at what cost;
• production — what capacity is needed and when;
• marketing — how much to spend on advertising to reach target sales;
• the project roadmap — when major costs arise and when payback begins.

If these links are not built in, the model is worthless: it is “about numbers”, not about the business.

Interactivity is a must. When any input changes, the whole model recalculates automatically — every table, metric and chart.

Change the price, the sales plan or payment terms, and you immediately see what happens to profit, cash and payback.

A model you have to “finish by hand” after every change is not a model but a report.

Why you need a financial model

Almost every founder knows that without a financial model you can neither assess a startup’s potential nor attract an investor.

Few understand what it should look like and what it does in practice — and the myth that a spreadsheet put together in an evening can replace it is still alive. A professional interactive model does five jobs:

• Assessing financial viability. Forecasting revenue, costs, profit and loss under different scenarios shows whether the business is viable at all.
• Raising investment. The model presents the project’s expected returns and financial risks to investors in a professional, well-reasoned way.
• Strategic decisions. It is the basis for allocating resources, planning investment in different areas and deciding on expansion or restructuring.
• Performance analysis. It reveals the key financial indicators and the factors that drive them, helping you run the business more effectively.
• Flexible planning. When prices, the sales plan or payment terms change, results recalculate automatically and the implementation plan can be adjusted quickly.

A professional interactive financial model is part of successful business management and fundraising: a tool for analysis, planning and well-founded decisions.

What a financial model consists of

A professional model in Microsoft Excel usually consists of separate sheets. Each sheet is a separate section of the model, which keeps calculations systematic:

The core is three statements: profit and loss (P&L), cash flow and the balance sheet.

They must tie together: profit from the P&L, the change in cash from the cash flow and the change in equity on the balance sheet are linked. If the balance sheet does not balance, the model has an error.

Key metrics: what investors and banks look at

A model for internal management is read month by month: cash in the bank, margin, break-even. A model for an investor or a bank is judged on performance metrics.

Here they are on an illustrative example.

A project needs €120,000 of investment and generates net cash flow of €20,000 in year one, €45,000 in year two and €60,000 in each of years three and four.

The figures are illustrative: they show the logic of the calculation, not typical values for any industry.

More importantly, without a model none of these metrics can be calculated honestly, and an investor will always check where they come from.

The main mistakes when building a financial model

In our financial modelling webinars we have looked at the mistakes that stop a model from working. The most common:

• Optimism not backed by reality. Sales and profit grow in the spreadsheet, but the real market corrects them.
• Underestimating operating costs. Everything adds up on paper, and then it turns out taxes, exchange differences, inflation and dozens of small but critical expenses were forgotten.
• Ignoring relationships. Sales growth is planned, but the marketing budget and staff costs stay flat — that never works in real life.
• No scenario analysis. The business rests on a single “ideal” scenario, and the slightest disruption leads to cash gaps and failure.

These mistakes are very common. You can avoid them by following a clear algorithm — here it is.

20 steps to build a financial model

1. Foundations, steps 1–4 — in this article.
2. Planning, steps 5–9 — roadmap, success markers, sales plan, resources, business units: Sales forecast and resource planning in a financial model.
3. Calculations and scenarios, steps 10–14 — relationships, detail, scenarios, format, assumptions: Financial model calculations: formulas, scenarios and assumptions.
4. Validation and use, steps 15–20 — agreement, testing, refinement, updating: How to check a financial model.

Step 1. Define the user and the purpose

The first and most important question: who needs the financial model and why? Everything depends on the answer — depth, structure and level of detail.

• For internal use — by the business owner, senior management or the finance team. The model should be as detailed as possible and reflect operating processes: headcount plan, cost structure, investment schedule, production capacity.
• To raise investment or debt. Clarity, readability and transparency come first. Payback, cash flow, IRR, NPV and the other metrics banks, investors and lenders rely on play the key role.

A financial model is not a box-ticking document but a plan you will have to deliver. If a founder or project lead treats the model as a formality they need not follow, there is no point in building it.

A model works only when it is used as a management tool, not as a way to “sell the idea” to an investor.

Another critical point: the model’s complexity must match the skills of whoever will use it.

If the manager does not understand how the model works and cannot find their way around it, they will not be able to use it.

A good model is a decision tool: clear, logical and proportionate to the user’s competence.

Step 2. Define the constraints

The model must reflect the real limits you will work within.

Every project has constraints, and ignoring or understating them is dangerous: they largely determine whether the model is viable.

At this step the key constraints are stated explicitly, so you do not have to “invent” them during the calculations:

• Budget — the maximum investment available for launch and growth.
• Time — deadlines for each stage: launch, first sales, break-even.
• Production limits — output, inventory, logistics.
• Technology — equipment, resources, available technologies.
• Regulation — licences, quotas, product certification, tax incentives or subsidies.
• Specific requirements. If the project targets public support, grants or a startup visa, the programme conditions set constraints. Many countries require a minimum investment, job creation or proven innovation.

Why fix constraints early. A model is not built in a vacuum: constraints exist from the start even if nobody has stated them.

Miss them, and you will have to change the model late — losing time, redoing calculations and sometimes rebuilding the model from scratch.

Constraints worked out in advance are a framework in which to look for the best solutions, not a surprise when the model is already finished.

Step 3. Review the starting conditions

Before calculating, take an “inventory” of available resources and existing commitments. If the model is built on wrong inputs, every forecast will be far from reality. Record:

• The team — who is already hired, on what terms, rates and schedules. If the project is just starting — whom you will need to bring in and at what cost.
• Equipment and assets — what you have, its condition and wear, whether it needs upgrading or replacing. If equipment is leased — the lease terms and possible price changes.
• Location, jurisdiction and tax regime. The region affects rent, taxes, logistics, access to support programmes and even how easy it is to settle with counterparties. Tax regimes differ widely between countries and regions, and a tax error can undermine the project’s financial stability.
• Agreements with suppliers, counterparties and customers — fixed prices, advances, favourable terms, currency-linked contracts (important when exchange rates move).

A common mistake is to build the model from the future you want rather than the situation you have.

If the team is not complete at launch, you cannot simply “assume” it into the model — you need to know when and on what terms those people will be hired.

The review protects you from unrealistic assumptions and saves time: you will not discover halfway through that the inputs do not match reality.

Step 4. Choose the modelling method

The method depends on the model’s purpose and its user.

• For internal management — such as operational planning — the bottom-up method makes more sense. It captures costs, resources and operating processes more accurately.
• For investors or financing the top-down method is used more often: investors care about the headline metrics — payback, cash flow, path to profitability.

Bottom-up

A detailed forecast of processes: monthly sales and cost forecasts first, then the annual summary, then the whole planning period.

• Advantages: high detail and accuracy for every revenue and cost segment; captures operating processes, production cycles and seasonality; lets you model individual parts of the business flexibly.
• Disadvantages: needs more data and complex calculations; too much detail can overload investors.

It is used more often for an operating business with history to forecast from.

Top-down

The starting point is the end goal — target profit, market share or revenue level. Volumes, prices, costs and other parameters are then forecast to reach it.

• Advantages: a simple start — set the main target, then derive the numbers; convenient for showing investors what can be achieved.
• Disadvantages: the risk of “fitting” the numbers to the desired result; operating realities can be left out.

It is used more often when entering a new market, raising investment or testing a new business model.

Which method to choose

In practice the methods are usually combined. The production block is built bottom-up, because real capacity, raw material purchasing and hiring schedules matter.

The marketing and strategic part can be top-down, because investors want to see market entry, audience share and profitability.

The key question: is the model for real management or for an investor? For management, stay connected to reality and capture operating processes.

For an investor, forecasts must be convincing yet realistic. The best model for an investor is the one you will actually run the business by.

A financial model for a project in Spain: what to include

If the project is launching in Spain, build local rules into the model from day one — otherwise the numbers diverge from reality within the first quarter.

• VAT (IVA). The general rate is 21% (art. 90 of the VAT Act), with reduced rates for some goods and services. VAT collected on sales is not your revenue: you collect it from customers and pay it to the tax office, usually quarterly. In the cash flow it is a separate line, otherwise the model shows money you do not have.
• Corporate income tax (Impuesto sobre Sociedades). The general rate is 25% (art. 29 of the Corporate Income Tax Act). Reduced rates apply to companies with turnover under €1m and to newly created companies, and in 2025–2028 they are being phased down year by year. Confirm the exact rate for each model year with a tax adviser (asesor fiscal) and keep it on the constants sheet.
• Payroll costs. Employer social security contributions (Seguridad Social) come on top of salaries, and a founder registered as autónomo pays their own monthly contribution. A model where payroll equals the sum of salaries understates costs.
• Support programme conditions. ENISA, grants and the startup visa set the step-2 constraints: timelines, co-funding, jobs. More in Support programs for startups and small businesses in Spain and, on set-up costs, How much does it cost to set up an SL in Spain.

What else a model can include

Beyond the core sheets, models often include extra features:

• Three scenarios — pessimistic, realistic and optimistic. The scenario is selected in one cell, and every metric and chart recalculates automatically. More on scenarios in the third article of the series.
• Multiple languages — the model’s language switches in one cell; a model can be in one, two or more languages.
• Link to the project schedule — when the schedule changes, the model recalculates every metric and chart.
• Several legal entities — for businesses in several jurisdictions or with different tax regimes.
• A manual — a written description of the model, how to read the metrics and the methodology.
• Revisions — recalculating the model after fundamental changes to the operating plan, product range or volume- and season-dependent pricing, i.e. when new variables appear that the inputs sheet did not originally include.
• Reverse calculation — prices, sales plan and schedule are solved for so that the model reaches pre-set financial targets.

From practice: what a model can look like

• Nauticat, reviving a yacht brand. More than 300 parameters and 18 development scenarios in one model. The scenarios were used to choose the brand’s development path, not only to show investors an “optimistic” case.
• Pandora, a chain of 4* eco-hotels in Spain with a budget of over €25m. The model’s horizon was 6 years. It was one of the conditions of an investor ready to put in around €12m at seed stage.
• ImSkipper, a cabin-charter marketplace. The model and business plan were built for scaling and investor conversations.

A model is always built for its job: one company needs dozens of scenarios, another needs a clear two-year cash flow for the bank.

Three rules before you start

1. The model must be realistic. Its inputs must be justified, which is only possible if the model rests on the project concept and schedule — without them you cannot justify timings, prices, the investment amount or the sales plan. That is why a startup begins not with a financial model but with a concept.
2. A model alone is not enough for an investor. You will also need the project concept, a roadmap, a commercial offer and a presentation. How to structure the investor relationship itself: How to structure startup investment in Spain.
3. No document guarantees success. The plan has to be executed. The project documents must be fully understood by the founder and become the handbook they use to make the project real.

Download the guide “Financial Model: 20 Practical Steps”

The whole method — 20 steps with examples — is in one 27-page PDF: download the guide. It is handy to keep open while you build your model. More materials in Resources.

Frequently asked questions

What is a financial model in simple terms?

A spreadsheet where all business plans — sales, hiring, purchasing, investment, taxes — are translated into money and linked by formulas. Change any assumption, and the model recalculates profit, cash flow and payback by itself.

How is a financial model different from a business plan?

A business plan describes the project in words: market, product, team, strategy. A financial model turns those decisions into numbers and shows their consequences. A business plan cannot be tested without a model, and a model cannot be justified without a business plan.

What software should I build a financial model in?

Usually Excel or Google Sheets. That is enough for a startup or an operating business if the model is properly structured: inputs separate, calculations separate, outputs separate. Specialised software is needed when the model becomes part of day-to-day accounting.

What period should a financial model cover?

Usually 3–5 years: the first year by month, then by quarter or year. Projects with long payback, such as real estate and hotels, need a longer horizon — in the Pandora project it was 6 years.

Which financial model metrics matter to investors?

Cash flow and funding needs, payback, NPV and IRR, break-even, and for a startup unit economics and growth rates. Investors look not only at the numbers but at whether the assumptions behind them are justified.

How many inputs should a model have?

It depends on the project: from 20 in a simple model to 300–400 in a complex one. More important than the number is that each parameter is entered in one place and justified.

Key points about financial models

• A financial model is not a spreadsheet “for the investor” but a plan in money that you run the business by.
• The model is interactive: inputs in one place, everything else recalculates.
• Start with purpose and user, constraints, a review of starting conditions and the choice of method — steps 1–4.
• For a project in Spain, include VAT, corporate income tax and social security from day one.
• Next come planning, calculations and scenarios, validation — steps 5–20 in the following articles.

Sources

• Ley 27/2014 del Impuesto sobre Sociedades — art. 29, tax rates.
• Ley 37/1992 del IVA — art. 90, general rate.

The metrics example is illustrative and shows the logic of the calculation. Tax rates checked against the legal texts as of 3 October 2026.