A step by step guide to construct a finacial model without plugs and circularity for valuation purposes

In this teaching note the reader finds a simplified financial model. In reality, financial models are huge and cumbersome. What we present is very simplified model in comparison to what is found in practice. We indicate the formulas that have to be utilized in the construction of the financial model. We have constructed the formulas in such a way that they can be used to construct part of or the complete model. In the first line and in the first column the reader finds the letters and numbers corresponding to the Excel® spreadsheet in order to make it easier the localization and the construction of the different formulas. In the last two columns we have written those formulas. Usually the formulas correspond to the year 0 and/or year 1. When necessary, we show the formulas for other years and we indicate it. Shaded cells are for the input data. The contribution of this work is double: one is to show that we can construct financial statements without the use of plugs and circularity and the second is that we can use a very simple approach to construct cash flows and to value them. The model shown has two parts. One is the proper financial statements forecast. The second one is a simple cash flow calculation and valuation exercise using the Capital Cash Flow and assuming the risk of the tax savings equal to Ku, the cost of unlevered equity.