Financial model timelines: how granular should your model be?

One of the first – and most consequential – decisions when preparing a financial model is to choose the granularity of your timeline. Should your calculations be annual, quarterly, monthly…or even daily? The right answer depends on the purpose of the model, the outputs it will generate, the type of decisions it needs to inform and, of course, who the users and stakeholders are. Rather than there being a simple right or wrong answer, it is often a trade-off between flexibility and useability. If you are performing an initial feasibility study at the stage when only high-level estimates are available, there is little point in creating a monthly model. At the other end of the spectrum, if you are building a 13-week cash flow or private credit model capable of generating client interest statements, weekly or daily calculations are usually necessary.

Remember that, while you can always aggregate information up and create annual outputs from a monthly or quarterly model, it is far more complicated to disaggregate to more granular outputs. And even if your model uses a monthly or quarterly granularity for calculations, many assumptions can still be input at a less granular level. (An example of this is inflation forecasts, which can be input as annual curves which are then decompounded to monthly or quarterly rates in your calculations.)

Below we share our thoughts on the key considerations when deciding the granularity for different types of models:

Initial Feasibility Assessment

Purpose: Initial view on whether an investment or project is worth pursuing
Recommended granularity: Annual / semi-annual

Early-stage assessments of the viability of an investment are unlikely to benefit from a granular timeline. Detailed quotes and contracts are usually not yet available at this stage. The model uses high-level assumptions on capital cost, revenue and cost drivers to help assess whether the project economics stack up. Annual or semi-annual granularity is usually sufficient here. Creating a more detailed model at this stage can create a false sense of precision and waste time that’s better spent running sensitivities and understanding qualitative factors.

Project Finance (typically a 25-35 year forecast)

Purpose: Projecting investor returns, Determining debt size, Sculpting debt repayments
Recommended granularity: Quarterly and / or monthly

Project finance models are normally very detailed. These transactions are often highly leveraged, with lenders relying on the model to size debt and sculpt repayments from projected cash flows. Cash flows are usually highly contracted, meaning that detailed inputs are available. A high degree of seasonality in renewable energy projects means that at the very least a quarterly timeline is needed.

We usually consider a quarterly timeline sufficient, although some sponsors prefer to use a monthly timeline during construction due to the higher near-term visibility over these cash flows.

Corporate Strategic Plan (typically a 5-10 year forecast)

Purpose: Corporate planning, debt origination and monitoring, M&A
Recommended granularity: Quarterly or monthly

For a long-term corporate forecast, the choice of model granularity is usually between monthly and quarterly. Here we would consider who the key stakeholders are and how frequently they will review forecasts. If the model will drive monthly management reporting, a monthly timeline is appropriate as it will allow the user to update the model with actuals on a monthly basis. If, on the other hand, the main purpose is to drive strategic board reporting or support a debt process, then quarterly will likely suffice. When the model will be used to support an M&A process, it’s important to speak to all stakeholders in advance. We have found in the past that, while quarterly detail may be sufficient for investors, other stakeholders in an M&A process (such as financial due diligence advisors looking to perform working capital analysis) may require a more granular model.

Corporate Budget (typically 12-months)

Purpose: Short-term planning, usually by business unit
Recommended granularity: Monthly

Most budgets are prepared on a monthly basis. Usually the important structural consideration here is rather around what level of detail to include by business unit, country or consolidated level and how that maps to the actuals. Additionally, thought should be given to whether a reforecast will be required part-way through the year and how actual vs. forecast comparisons will be facilitated in the model.

Liquidity Plan (typically 13-weeks)

Purpose: Detailed cash planning to ensure obligations can be met
Time granularity: Weekly or daily

Liquidity models are near-term, detailed tools to support cash management. The choice between daily or weekly depends on the degree of certainty on timing of cash flows and the liquidity headroom.

Final Thoughts

The most elegant models strike the right balance between flexibility and usability. While a monthly model might give the user maximum flexibility, this comes at the cost of increased complexity and model size. On the other hand, if you build a quarterly model only to realise half-way through that monthly outputs are required, this may require a complete overhaul of the model. When in doubt, err on the side of higher granularity, but equally do not be afraid to let experience guide you. There are many drawbacks to an overly granular model, including users getting distracted by unnecessary detail and the fact that a monthly model is three times the size of a quarterly model!