What is an Integrated Financial Model?

Written by Neil Ackroyd

An integrated financial model is an essential element of any management buyout process. A fully integrated financial model will typically take a five year profit and loss forecast for the business, take the working capital cycle of the specific business to drive through a balance sheet and cashflow statement and then overlay a funding structure to demonstrate returns for all investors and the management team. That is clearly a very long sentence, but I didn’t want to break it down as it is all one thing. The model is also essential in writing a business plan that can be readily used by a venture capital, Private equity or Debt funder.  A five year financial model is the key to controlling the process and any subsequent negotiation. In my opinion, and contrary to some advice, it is the job of the lead advisory firm to structure and manage this.

A management Buyout (MBO) is a highly leveraged purchase of a business. What this means is that a management team is buying the business using borrowed money and as a result the new company (newco) has a great deal of debt. The result of this is that it is essential to manage cashflow very closely until that debt is repaid. At this stage we could talk about measuring and setting debt covenants as a reason for the model but it is much more simple and fundamental than that. The model helps you manage cash and therefore not do what businesses with no cash do. This gives us reason one for the financial model.


The investors lending the money are financial institutions who report to shareholders and investors. They have promised those shareholders and investors a certain return and they invest based on a business forecasting those returns. Depending upon the funder you are going to they will use different measures like Internal Rate of Return (IRR) or even a simple multiple of cash, in any event this gives us reason two.


The reason that the model is called a fully integrated financial model is that it should be complex enough for you to be able to sensitize it. What I mean by this is that whatever the risks or variables are in your business be it losing a specific contract or in an FMCG business maybe a downturn if 5% in turnover, the model should, at a stroke of a key, be able to recalculate this. This will mean that the operating aspect of the model (this part that relates to the business rather that the financing) should be bespoke for each business. I am only one man, however, my belief is that “standard” operating models, by this I mean ones where you essentially fill in field on your business and then it spits out a “standard” model are not as effective as a real bespoke model. In any event, if you have appointed a proper Lead advisory firm their fees will likely run into six figures and likely multiples of that. They should have the skills in-house to write a bespoke operating model.
Once you run these sensitivities the model should give new returns information. A good model should, as a minimum, give IRR for each equity funder as well as Mezzanine debt provider in a matrix format so that at one glance you can see the suit of potential returns based on exit multiple (the driver of price), exit year (when you sell the business), purchase price and management equity stake (HOW MUCH YOU GET). These will be used throughout the process and most essentially in two parts.

1.     When approaching funders and deciding who to work with (partly based on price and equity stake)
2.      When digesting the feedback from Due Diligence investigations (with an obvious effect on price and equity stake.)

So you can see that the model can be used to demonstrate arguments about why your equity stake should be higher or lower at key stages of the transaction. So let me ask you this question: Who do you think will have the best understanding of the financial model? The team who wrote it? So who do you want to write it and control it? Your advisor? Someone else?

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