What does a financial analyst do?
Financial analysts analyze financial information, develop financial models, and make recommendations based on an empirical understanding of a business. Financial analysis is a broad field and financial analysts work in corporations, non-profits, investment funds, banks, and governments.
A business can be thought of as a complicated combination of inputs, processes, and outputs. No business is an island, so the effect of every decision made by its leaders depends on external realities such as the cost of goods, employment costs, market conditions, tax rates, and more.
Because even the newest business is complex, it is challenging for executives to monitor and understand every detail. But those details matter: it’s difficult to make good choices with incomplete or inaccurate information.
Financial analysts gather all the relevant financial information and use it to identify trends and build dynamic models and reports that help their clients make better decisions.
Financial analyst or accountant?
When a financial analyst tells someone what they do, the most common response is, “Oh, you’re an accountant.” Although accounting and financial analysis are related and use much of the same data, they perform different roles within organizations. You would find both accountants and financial analysts in the finance departments of large businesses.
Accountants focus on collecting and organizing historical financial information about a business. They collect the information necessary for a business to file its taxes, for example. Accounting is more complex than that description suggests, and includes bookkeeping, auditing, account planning, and more, but its focus is essentially historical.
Financial analysts are more future-focused. They use financial information to make predictions and recommendations about what the company should do in the future. They also keep an eye on market conditions, news, and the behavior of competitors, advising executives about how those factors might impact the business.
Financial analysts and startups
Financial analysts play a vital role in the startup ecosystem, working for both startups and VC investors. In fact, many investment funds won’t even consider a startup unless they have hired a financial analyst to build a financial model of the business.
As I said earlier, developing a comprehensive overview of a business is challenging for founders. To make evidence-based decisions, business leaders must understand any risk the business faces, its financial condition, and the trends that might impact it.
Financial analysts have a deep understanding of how businesses in their area of expertise operate and the data gathering and analytical strategies required to turn that information into actionable intelligence founders can use to make decisions.
What can a financial analyst do for your business?
For the remainder of this article, I’d like to focus on some of the concrete services a financial analyst offers to help business leaders make better decisions about the future of their business.
A financial model is a mathematical representation of a business that can be used to make predictions and decisions.
Typically a spreadsheet, a financial model incorporates data and assumptions about the company: revenue, budgets, costs, taxes, capital, unit economics, and the wider business context.
The information and the relationships that constitute the model can be used to make predictions and inform decisions. For example, given a business’s current revenue can it afford to increase marketing budgets or hire a new staff member?
Financial models are vital to grasping the complexity of a business and reducing it to a form that can be understood and manipulated to provide actionable insights. Without a comprehensive financial model, it’s difficult to assess the overall health of a business and the risks it faces.
If a startup doesn’t have a solid financial model, many venture capitalists won’t consider making an investment. A financial model demonstrates that the founders have a deep understanding of their business and the factors that may affect its future success.
Financial analysts are experts at identifying risk. We’ve already discussed how financial analysts can help businesses make the right decisions. Risk analysis is all about helping them not to make the wrong decision.
A risk is a negative event or circumstance that might adversely affect a business. Risk analysis focuses on identifying potential risks and the likelihood that they will cause a problem.
A simple example might be identifying where a business’s spending will exceed its revenue because of an upcoming change in component pricing.
Budget forecasts allow business owners to make informed decisions based on projections of future performance. They represent a view of the future extrapolated from past performance, anticipated trends, and the goals of the business.
Read more on budget forecasting here:
How To Improve Your Financial Planning: Budget Early & Budget Often
How Often Should I Review My Business Budget? A Mid-year Guide
Financial analysts are also able to provide guidance about budget variance, the difference between expected revenue / expense and the real-world situation.
Together budget forecasting and budget variance empower companies to react to changing circumstances to achieve their stated goals.
Pricing is one of the most difficult tasks facing any business. Which price points should you choose to maximize revenue? How would changing prices impact sales or subscriptions?
Knowing the right answer to these questions can increase margins, revenue, and growth. Getting it wrong can depress sales and give competitors an advantage.
Recruitment and labor cost management
Is your company in a position to take on new staff? How much would each additional employee cost the company? Would the expected productivity and revenue boost offset the cost of hiring?
A financial analyst can help businesses make hiring choices that support the its revenue and productivity goals.
The purpose of financial analysis is to marshal the multitude of factors that affect the financial health of a business, transforming them into valuable information that founders and executives can use to make informed decisions and predictions.
Paro’s network of experienced financial analysts can help you understand your business and provide the information you need to make the best decisions.