Microsoft PowerPoint - [APN Day2-4] Working with numbers_Samil PwC [Compatibility Mode]Financial Modelling Working with numbers: meanings beyond the excel sheets
Strictly Private and Confidential
Yanggwi Michael Hwang Senior Manager at Samil PricewaterhouseCoopers
§ Expat to PricewaterhouseCoopers Sydney office, Australia (2006 ~ 2008)
§ Assurance staff at Ernst & Young Palo Alto office, US (2001 ~ 2002)
§ Oman IPP Project, Turkey OOO Expressway, Cambodia OOOO Express Highway, and Mongolia OOO Project.
§ Valuation of Commercial Port of Vladivostok in Russia
§ Buy-side financial due diligences on diverse Australia companies such as Alinta (Australia’s leading power supplier), City Pacific Limited (Property finance institute), Pacific National (Rail freight), Perfection Fresh Australia Pty Limited, Choice Harvest Pty Ltd, Arnott’s Snackfoods (Food), Powertel (Telecommunication), Dymocks (Retail) and others
§ Financial model review services for the acquisition of Senoko Power Limited, First Gas, Terra Renewal LLC and many other PPP projects
§ Financial due diligences and feasibility studies on diverse PPP companies in Korea such as Daewoo Logistics, Namkyung Power, Seoul-Chuncheon Expressway, Daegu Dongbu 4th Beltway and others
§ Advisory services on the preparation of PPP project plans such as Ulsan Garbage Incinerating Facilities, Busan New Port 2-3 Phase and 2nd Yong- Dong Expressway
§ Assist KDI’s study on Financial arrangements and practices in Australian and UK Public Private Investment
Financial Modelling • Working with numbers: meanings beyond the excel sheets
Name: Yanggwi Michael Hwang
Qualification: USCPA
E-mail: yghwang@samil.com
§ Expat to PricewaterhouseCoopers Sydney office, Australia (2006 ~ 2008)
§ Assurance staff at Ernst & Young Palo Alto office, US (2001 ~ 2002)
§ Oman IPP Project, Turkey OOO Expressway, Cambodia OOOO Express Highway, and Mongolia OOO Project.
§ Valuation of Commercial Port of Vladivostok in Russia
§ Buy-side financial due diligences on diverse Australia companies such as Alinta (Australia’s leading power supplier), City Pacific Limited (Property finance institute), Pacific National (Rail freight), Perfection Fresh Australia Pty Limited, Choice Harvest Pty Ltd, Arnott’s Snackfoods (Food), Powertel (Telecommunication), Dymocks (Retail) and others
§ Financial model review services for the acquisition of Senoko Power Limited, First Gas, Terra Renewal LLC and many other PPP projects
§ Financial due diligences and feasibility studies on diverse PPP companies in Korea such as Daewoo Logistics, Namkyung Power, Seoul-Chuncheon Expressway, Daegu Dongbu 4th Beltway and others
§ Advisory services on the preparation of PPP project plans such as Ulsan Garbage Incinerating Facilities, Busan New Port 2-3 Phase and 2nd Yong- Dong Expressway
§ Assist KDI’s study on Financial arrangements and practices in Australian and UK Public Private Investment
Table of Contents Page
Section 1 Financial Model Development
FM Development Flowchart
§Understand Project
§Understand cash flow pattern
§Understand key raw data (e.g. project cost, revenue, expense, and loan terms and conditions)
§Specify outputs (e.g. IRR, ROE, ROI, DSCR)
§ Identify sheets to be developed based on the Project
§Monthly/Quar terly/Yearly FM
§Develop FM in Excel format based on the Scope, Specify, and Design applied
§Change variables and check if the changes reflect results as expected
e.g. project cost, revenue, expense, interest rate, and others
Scope Specify Design Build Test
Section 1 - Financial Model Development
Financial Modelling • Working with numbers: meanings beyond the excel sheets 2
§Understand the purpose of FM
§Understand Project
§Understand cash flow pattern
§Understand key raw data (e.g. project cost, revenue, expense, and loan terms and conditions)
§Specify outputs (e.g. IRR, ROE, ROI, DSCR)
§ Identify sheets to be developed based on the Project
§Monthly/Quar terly/Yearly FM
§Develop FM in Excel format based on the Scope, Specify, and Design applied
§Change variables and check if the changes reflect results as expected
e.g. project cost, revenue, expense, interest rate, and others
1. Scope: User of Financial Model (“FM”)
Sponsor
Initial idea for the model. Ensures supporting resources are available. May not have further involvement.
Owner
Driving force behind model. Heavily involved in objectives setting stage of the project.
Project manager
Communication between all separate elements of project team and client maintained by this person. The problem solver.
Developer
User
At least one person - usually more. Heavily involved throughout whole process of model development.
Reviewer
Involved in checking that the model matches initial specification, and contains no significant errors.
Section 1 - Financial Model Development
Financial Modelling • Working with numbers: meanings beyond the excel sheets 3
Sponsor
Initial idea for the model. Ensures supporting resources are available. May not have further involvement.
Owner
Driving force behind model. Heavily involved in objectives setting stage of the project.
Project manager
Communication between all separate elements of project team and client maintained by this person. The problem solver.
Developer
User
At least one person - usually more. Heavily involved throughout whole process of model development.
Reviewer
Involved in checking that the model matches initial specification, and contains no significant errors.
1. Scope: Purpose of FM
• Different users have different emphasis in FM
– Developer: Total cash earning, IRR, ROE
– Lender: Debt service coverage ratio
– Construction Company: Return on construction cost
– Government: Value for Money
• FM shall explain Operating, Investing and Financing CF results.
– CF from operating activity: Forecast Project’s operating revenue and expense. Shall be easily adjustable for operating assumption changes (e.g. traffic demand, tariff, operating expense and others)
– CF from investing activity: Forecast Project’s investment cost. Shall be easily adjustable for investing assumption changes (e.g. construction cost)
– CF from financing activity: Forecast Project’s required funding amount, debt and equity amount, and drawdown and repayment schedules. Shall be easily adjustable for financing assumption changes (e.g. interest rate, debt vs. equity)
Section 1 - Financial Model Development
Financial Modelling • Working with numbers: meanings beyond the excel sheets 4
• Different users have different emphasis in FM
– Developer: Total cash earning, IRR, ROE
– Lender: Debt service coverage ratio
– Construction Company: Return on construction cost
– Government: Value for Money
• FM shall explain Operating, Investing and Financing CF results.
– CF from operating activity: Forecast Project’s operating revenue and expense. Shall be easily adjustable for operating assumption changes (e.g. traffic demand, tariff, operating expense and others)
– CF from investing activity: Forecast Project’s investment cost. Shall be easily adjustable for investing assumption changes (e.g. construction cost)
– CF from financing activity: Forecast Project’s required funding amount, debt and equity amount, and drawdown and repayment schedules. Shall be easily adjustable for financing assumption changes (e.g. interest rate, debt vs. equity)
1. Scope: Understand Cash Flow of Project
• Understanding cash flow during construction and operation period
Section 1 - Financial Model Development
Financial Modelling • Working with numbers: meanings beyond the excel sheets 5
2. Specify: FM Logic
Model logic
• The logic of the specification should be built from the outputs through calculations to the inputs
Section 1 - Financial Model Development
Financial Modelling • Working with numbers: meanings beyond the excel sheets 6
Inputs Calculations Outputs
Raw data
• S-Curve
• Equity: amount and input schedule
• Debt: amount, drawdown and payment schedule, interest rate, financing cost, and covenants
• Government subsidy: amount and input schedule
• Operating revenue and expense forecast
• Others
• Operating revenue and expense
Section 1 - Financial Model Development
Financial Modelling • Working with numbers: meanings beyond the excel sheets 7
Raw data
• S-Curve
• Equity: amount and input schedule
• Debt: amount, drawdown and payment schedule, interest rate, financing cost, and covenants
• Government subsidy: amount and input schedule
• Operating revenue and expense forecast
• Others
• Operating revenue and expense
– Develop FM based on CF analysis purpose
• Lender: If repayments are required on a quarterly basis, quarterly FM shall be developed to calculate DSCR, DSRA, repayment schedule, interest rate and others
• Developer: Annual CF is enough to calculate IRR
• Use different colours
– Numbers in Blue: Input data
– Numbers in Red: Key results
– Numbers in Black: Calculated data
Section 1 - Financial Model Development
Financial Modelling • Working with numbers: meanings beyond the excel sheets 8
• Design excel spread sheets to develop
• Model unit period : Monthly, quarterly, yearly ?
– Develop FM based on CF analysis purpose
• Lender: If repayments are required on a quarterly basis, quarterly FM shall be developed to calculate DSCR, DSRA, repayment schedule, interest rate and others
• Developer: Annual CF is enough to calculate IRR
• Use different colours
4. Build: FM Sheets Flowchart Section 1 - Financial Model Development
Financial Modelling • Working with numbers: meanings beyond the excel sheets 9
4. Test Section 1 - Financial Model Development
Financial Modelling • Working with numbers: meanings beyond the excel sheets 10
4. Test: Construction Period
-
K R
W M
Fudning input_cummulative
K R
W M
Section 1 - Financial Model Development
Financial Modelling • Working with numbers: meanings beyond the excel sheets 11
Total investment cost input schedule
-
K R
W M
Total investment cost input_Cumulative
K R
W M
Fudning input_cummulative
K R
W M
-
e
Labor expense General expense CAPEX O & M Cost Insurance expense Advertising expense Rent expense Other expense Revenue to expense ratio
Section 1 - Financial Model Development
Financial Modelling • Working with numbers: meanings beyond the excel sheets 12
Operating revenue analysis
-
e
Labor expense General expense CAPEX O & M Cost Insurance expense Advertising expense Rent expense Other expense Revenue to expense ratio
Cash balance at year-end by case
-
20,000
40,000
60,000
80,000
2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027
K R
W M
Section 2 Understanding Numbers
1. Net Present Value (NPV)?
• NPV is “the difference between the present value of cash inflows and the present value of cash outflows.
– To analyze the profitability of an investment or project.
– Applied discount rate is an expected rate of return from project
n = the time of the cash flow r = Discount rate
CashIni = Cash inflow at time i CashOuti = Cash outflow at time i
• NPV > 0: Positive net cash flow with r à Project investment accepted
• NPV < 0: Positive net cash flow with r à Project investment declined
åå == +
Section 2 - Understanding Numbers
Financial Modelling • Working with numbers: meanings beyond the excel sheets 14
• NPV is “the difference between the present value of cash inflows and the present value of cash outflows.
– To analyze the profitability of an investment or project.
– Applied discount rate is an expected rate of return from project
n = the time of the cash flow r = Discount rate
CashIni = Cash inflow at time i CashOuti = Cash outflow at time i
• NPV > 0: Positive net cash flow with r à Project investment accepted
• NPV < 0: Positive net cash flow with r à Project investment declined
åå == +
2. Internal Rate of Return (IRR)?
• IRR is “the discount rate that makes the net present value of all cash flows (both positive and negative) from a particular investment equal to zero.
• NPV vs. IRR
– IRR: Expressed in percentile
• IRR > Expected discount rate (r): Project return rate is greater than expected one à Project investment accepted
• IRR < Expected discount rate (r): Project return rate is less than expected one à Project investment declined
Section 2 - Understanding Numbers
Financial Modelling • Working with numbers: meanings beyond the excel sheets 15
• IRR is “the discount rate that makes the net present value of all cash flows (both positive and negative) from a particular investment equal to zero.
• NPV vs. IRR
– IRR: Expressed in percentile
• IRR > Expected discount rate (r): Project return rate is greater than expected one à Project investment accepted
• IRR < Expected discount rate (r): Project return rate is less than expected one à Project investment declined
3. NPV and IRR Example (1)
• IRR : 6.0%
Section 2 - Understanding Numbers
Financial Modelling • Working with numbers: meanings beyond the excel sheets 16
• IRR : 6.0%
3. NPV and IRR Example (2) Section 2 - Understanding Numbers
Financial Modelling • Working with numbers: meanings beyond the excel sheets 17
3. NPV and IRR Example (3)
• Real cash flow
• Fisher effect
– (1 + Real IRR) × (1 + CPI growth rate) = (1 + Nominal IRR)
Section 2 - Understanding Numbers
Financial Modelling • Working with numbers: meanings beyond the excel sheets 18
• Real cash flow
• Fisher effect
– (1 + Real IRR) × (1 + CPI growth rate) = (1 + Nominal IRR)
4. Feasibility Analysis Flowchart (Example) Raw data
-Project cost and input schedule, revenue, operating expense, tax and other data are prepared
Calculate total project cost during construction period
Debt vs. Equity amount Repayment schedule, interest rate, covenant and others
Period assumption applied
Section 2 - Understanding Numbers
Financial Modelling • Working with numbers: meanings beyond the excel sheets 19
No problem with Debt repayment ?
Plan for debt repayment
Sensitivity and Scenario Analysis
YES
NO
NO
YES
• Analysis on Project
– Any cash shortage ?
• Lender’s Analysis
– Short term debt
– Covenant for sub-debt and dividend payments
Section 2 - Understanding Numbers
Financial Modelling • Working with numbers: meanings beyond the excel sheets 20
• Analysis on Project
– Any cash shortage ?
• Lender’s Analysis
– Short term debt
– Covenant for sub-debt and dividend payments
6. SOC Project Sensitivity Analysis (1)
ååå =+== +
ORi : Operating revenue
n : Construction completion year
N : Operation end period
r : Project IRR
Section 2 - Understanding Numbers
Financial Modelling • Working with numbers: meanings beyond the excel sheets 21
CCi : Total Private Project Cost
ORi : Operating revenue
n : Construction completion year
N : Operation end period
r : Project IRR
Total Project Cost
Project IRR Government subsidy or Usage fee
• Key sensitivity factors affecting Project IRR/Usage fee/Government Subsidy
6. SOC Project Sensitivity Analysis(2)
• Increase in total project cost (survey, design, construction, compensation, incidental, operation equipment, taxes) à IRR ↑ à Government subsidy/Usage fee ↓
• Decrease in operating cost (labour, general, maintenance) à IRR ↑ à Government subsidy/Usage fee ↓
• Decrease in CPEX (# of units, unit per price) à Total project cost ↓ à Replacement cost during operation period ↓ à IRR ↑ à Government subsidy/Usage fee ↓
• Increase in revenue (traffic volume, tariff) à IRR ↑ à Government subsidy/Usage fee ↓
• Increase in concession period à IRR ↑ à Government subsidy/Usage fee ↓
è But, IRR might decrease when major replacement costs need to be incurred.
Section 2 - Understanding Numbers
Financial Modelling • Working with numbers: meanings beyond the excel sheets 22
• Increase in total project cost (survey, design, construction, compensation, incidental, operation equipment, taxes) à IRR ↑ à Government subsidy/Usage fee ↓
• Decrease in operating cost (labour, general, maintenance) à IRR ↑ à Government subsidy/Usage fee ↓
• Decrease in CPEX (# of units, unit per price) à Total project cost ↓ à Replacement cost during operation period ↓ à IRR ↑ à Government subsidy/Usage fee ↓
• Increase in revenue (traffic volume, tariff) à IRR ↑ à Government subsidy/Usage fee ↓
• Increase in concession period à IRR ↑ à Government subsidy/Usage fee ↓
è But, IRR might decrease when major replacement costs need to be incurred.
6. SOC Project Sensitivity Analysis (3)
• Increase in CPI rate à Tax ↑ à After-tax IRR ↓ à Government subsidy/Usage fee ↑
à If CPI growth rate is forecasted to increase from 4% to 5%, tax on cash flow is affected.
à The portion of amortization and interest expense from total tax base income is reduced and as such tax expense increases.
à After-tax project IRR is reduced and therefore government subsidy increases.
• Decrease in interest rate à Tax ↑ à After-tax IRR ↓ à Government subsidy/Usage fee ↑
à If Annual debt interest rate decrease from 10% to 9%, tax on cash flow is affected.
à After-tax project IRR is reduced and therefore government subsidy increases.
à Government subsidy decrease while interest rate increase.
Before-tax IRR is not changed substantially from the changes in CPI growth rate and interest rate
Section 2 - Understanding Numbers
Financial Modelling • Working with numbers: meanings beyond the excel sheets 23
• Increase in CPI rate à Tax ↑ à After-tax IRR ↓ à Government subsidy/Usage fee ↑
à If CPI growth rate is forecasted to increase from 4% to 5%, tax on cash flow is affected.
à The portion of amortization and interest expense from total tax base income is reduced and as such tax expense increases.
à After-tax project IRR is reduced and therefore government subsidy increases.
• Decrease in interest rate à Tax ↑ à After-tax IRR ↓ à Government subsidy/Usage fee ↑
à If Annual debt interest rate decrease from 10% to 9%, tax on cash flow is affected.
à After-tax project IRR is reduced and therefore government subsidy increases.
à Government subsidy decrease while interest rate increase.
Before-tax IRR is not changed substantially from the changes in CPI growth rate and interest rate
Appendix 1 Spreadsheet Design - Best Practice Top Tips
Spreadsheet Design - Best Practice Top Tips (1)
1. Keep it simple! l e.g. simple formula; refer input on same sheet, break formulae into multiple rows. l less risk of confusing yourself and others l easier to follow the audit trail l no prizes for complicated formulae
2. Separate Inputs/Calculations/Outputs using different sheets & colours l so you can easily identify the assumptions l understand the flow of the model
3. Keep the flow natural, top to bottom, left to right l e.g. display assumptions on calculation pages before referring to them in calculations l makes the spreadsheet easier to read and understand l however, key outputs should be on left of the model
Appendix 1 - Spreadsheet Design - Best Practice Top Tips
Financial Modelling • Working with numbers: meanings beyond the excel sheets 25
1. Keep it simple! l e.g. simple formula; refer input on same sheet, break formulae into multiple rows. l less risk of confusing yourself and others l easier to follow the audit trail l no prizes for complicated formulae
2. Separate Inputs/Calculations/Outputs using different sheets & colours l so you can easily identify the assumptions l understand the flow of the model
3. Keep the flow natural, top to bottom, left to right l e.g. display assumptions on calculation pages before referring to them in calculations l makes the spreadsheet easier to read and understand l however, key outputs should be on left of the model
Spreadsheet Design - Best Practice Top Tips (2)
4. Input data once - use it many times and link l reduces risk of not updating all occurrences of an input
l reduces the number of inputs
5. One formula per row or column, and write them to be “copyable” l prevents errors from copying over mid-row formulae changes
l logic is always in one place, and the same place, in each row
l makes reviewing/testing and future maintenance easier
6. Make column headings consistent, and use the same starting column for each time series (rule of F14) l allows for simpler formulas and avoids referencing errors
l multiple narrative columns (A-E) allows for clear labelling
Appendix 1 - Spreadsheet Design - Best Practice Top Tips
Financial Modelling • Working with numbers: meanings beyond the excel sheets 26
4. Input data once - use it many times and link l reduces risk of not updating all occurrences of an input
l reduces the number of inputs
5. One formula per row or column, and write them to be “copyable” l prevents errors from copying over mid-row formulae changes
l logic is always in one place, and the same place, in each row
l makes reviewing/testing and future maintenance easier
6. Make column headings consistent, and use the same starting column for each time series (rule of F14) l allows for simpler formulas and avoids referencing errors
l multiple narrative columns (A-E) allows for clear labelling
Spreadsheet Design - Best Practice Top Tips (3)
7. Use protection
l reduces the chance of accidental change
l not for prevention of malicious damage, so don’t use worksheet passwords
8. Range names
l makes formulae more readable, particularly when referring to another worksheet
l encourages good design and structure
l can enable a building block approach
l very useful if linking to another workbook
9. Make extensive use of error traps and cross checks, and summarise results on a single sheet l makes Excel work to help find mistakes
l quick view to see if errors have been introduced
Appendix 1 - Spreadsheet Design - Best Practice Top Tips
Financial Modelling • Working with numbers: meanings beyond the excel sheets 27
7. Use protection
l reduces the chance of accidental change
l not for prevention of malicious damage, so don’t use worksheet passwords
8. Range names
l makes formulae more readable, particularly when referring to another worksheet
l encourages good design and structure
l can enable a building block approach
l very useful if linking to another workbook
9. Make extensive use of error traps and cross checks, and summarise results on a single sheet l makes Excel work to help find mistakes
l quick view to see if errors have been introduced
Spreadsheet Design - Best Practice Top Tips (4)
10. Use colour coding and formatting in a clear and consistent manner l e.g. indicates cell types, worksheet categories and conditional formatting highlights exceptions
l provides visual clues to make meaning and intention clear
l reduces risk of inappropriate data being entered
l flags items of interest for investigation
11. Use repeating worksheets with identical structures or repeat calculation blocks l reduces the work involved in repetitive calculations
l enables “punch-through” consolidations
Appendix 1 - Spreadsheet Design - Best Practice Top Tips
Financial Modelling • Working with numbers: meanings beyond the excel sheets 28
10. Use colour coding and formatting in a clear and consistent manner l e.g. indicates cell types, worksheet categories and conditional formatting highlights exceptions
l provides visual clues to make meaning and intention clear
l reduces risk of inappropriate data being entered
l flags items of interest for investigation
11. Use repeating worksheets with identical structures or repeat calculation blocks l reduces the work involved in repetitive calculations
l enables “punch-through” consolidations
Spreadsheet Design - Best Practice Top Tips (5)
12. Use navigation tools such as hyperlinks l so you can move around easier and understand structure l include a single “Navigation” worksheet that all sheets link back to
13. Include documentation and instructions at the front of the model l enables other to understand and use the model
14. Identify and label real and nominal costs l avoids apples and pears errors
l avoids double inflation errors
15. Treat external links as inputs and do not include external links in formulae l avoids confusing references and overlong and unreadable formula
Appendix 1 - Spreadsheet Design - Best Practice Top Tips
Financial Modelling • Working with numbers: meanings beyond the excel sheets 29
12. Use navigation tools such as hyperlinks l so you can move around easier and understand structure l include a single “Navigation” worksheet that all sheets link back to
13. Include documentation and instructions at the front of the model l enables other to understand and use the model
14. Identify and label real and nominal costs l avoids apples and pears errors
l avoids double inflation errors