For our e-mail newsletter today, we’re going beyond the bottles. We’re taking a look at what drives financial models and how building your own can benefit your business. We invited Andrew Nguyen, Manager of Strategic Development at membership-by-invitation wine website Lot18 (founded by Snooth's Philip James), to share his experiences with financial models.
Prior to joining Lot18, Andrew was Portfolio Analyst at an emerging markets hedge fund based in New York. Andrew graduated from Columbia University with a degree in Operations Research and a minor in Economics.
"At my hedge fund, we focused on analyzing companies in Latin America. The region is an exciting one; last year, Brazil‘s economy grew 7.6% and Mexico’s grew 5.3% (by comparison, the U.S. grew 2.9% in 2010). Identifying opportunities for investment starts with analyzing companies and building financial models. You begin by reading research on an industry and learning what key factors affect a company’s performance in its particular industry.
For instance, two key factors for a construction company in Brazil would be the local price of concrete and the population growth rate in Brazil’s largest ten cities. Financial models are driven by these key factors. With the population growth rate, you can get a sense of how demand, and ultimately revenue, will grow. Revenue is matched with costs (the price of concrete), and we can begin to “model out” how profitable a company will be. By projecting how these factors evolve over time, you can determine whether companies are overvalued or undervalued at their current price, and invest accordingly.
Building financial models can be financially rewarding of course, when you make sound decisions on where to invest based on your analyses. There is a degree of personal satisfaction in that process, as well. That said, while you develop a thorough understanding of businesses during the model-building process, as a financial analyst, you have little impact on a company’s decision-making and strategy. There can be frustration, admittedly; you may feel that a company is best off emphasizing a certain business line or maybe making a key acquisition, but you have no control on what they ultimately decide to do.
I joined Lot18 because I wanted to pursue a more entrepreneurial path, where I would have the opportunity to help build a business directly. Not without a bit of irony, my first project upon joining Lot18 was to help construct the financial model.
A financial model constructed from a first-person perspective has a lot of value. In building one, we project how we believe the company will grow in the years going forward, and plan our long-term strategies and areas of growth accordingly. Models are an important guide for making personnel decisions -- for example, we’re able to make good judgments on when and how much we should grow the customer service team because we understand to what degree sales volume correlates with customer-service inquiries. Distinctly operational factors, like deciding when we need a larger office space (and how we pay for that larger space), are also planned with the help of a good model.
Modeling also helps checks your understanding of your own business. We all have gut assumptions, based on our experience, background, and what’s happened in the past. Modeling those assumptions out and seeing how your projections match what really transpires forces you to consider why your business is underperforming or outperforming your projections, and the key factors you need to be mindful of going forward."