How Financial Modeling and Financial Projections in a Business Plan are Different

 

People sometimes use the terms Financial Projections and financial modeling interchangeably. This is especially true when it comes to the business plan. However, there is actually a very distinct difference between financial modeling and financial projections in a business plan and in general.

Understanding the difference between financial projections and financial modeling begins by defining the two.

Financial projections – According to Entrepreneur the definition is “estimates of the future financial performance of a business.

Financial modeling – Investopedia defines Financial Modeling as “the process of creating a summary…in the form of a spreadsheet that can be used to calculate the impact of a future event or decision.”

Although the Investopedia definition doesn’t specifically apply to the business plan, the same principle applies.

The definition may not provide enough context to fully understand the difference. Here’s a basic example to illustrate:

You need to figure out your salary expenses for Year 1.

You know what positions you plan to have, you want them all to start on day 1, and you have an idea of what you’d like to pay each person.

You will lay all this information out into a spreadsheet, like Excel or Google Sheets. A common setup would list the names of the positions in column A and the salaries in column B. In the first empty row after the salaries, you will add a total. This total will become part of the projections in the business plan.

This is a very simplistic example, as financial modeling can be quite intricate, detailed, and complex. But, it helps to illustrate the difference so you begin to understand how financial modeling and Financial Projections Business Plan tie together but are distinct parts of the same equation.

In other words, your Financial Model, populated based on research or assumptions, produces an output. This output becomes (part of) your financial projections.

Financial modeling is not left out from the business plan, despite financial projections taking center stage. You may include a static view of a financial model in the appendix. Alternatively, you will give a brief overview about your research and assumptions the financial projection in your business plan but, you will not include views of the financial model.

Part of the reason people so often confuse financial modeling and financial projections, especially when it comes to business plans, is because they are so intimately connected. They both play an important role in creating and presenting your business in numerical terms and the numbers create the foundation of your business.

Creating financial models is not a skill in everyone’s wheelhouse. If this is the case for you, consider hiring a professional. You may be able to use financial modeling on your own or figure it out if you put in a great deal of time but, this may just be one of the tasks to outsource to an expert. Inaccurate financial modeling leads to bad financial projections for your Business Plan. If you get the model wrong, everything could be wrong so, it’s important to treat your financial modeling with the care it warrants. If you do that, you will have a business plan that not only impresses potential investors or loan officers but, actually steers your business in the right direction.