Spreadsheet Engineering Principles of Development and Design

What is a good model? The model is objective-driven & realistic Meets the decision-support needs of the end-user Uses an appropriate set of inputs and outputs The model is easy to use and understand Clear logical flow: non-fragmented structure Well documented and strategic use of formatting Formulas are readable and easy to update

A model is good when… The model is free from quantitative errors No erroneous formula calculations or finance logic The model is flexible Robust formula and layout design generate correct outputs when assumptions are changed Easy to modify/extend layout to include more dimensions of the problem

Steps in Creating a Model Understand the decision. Define and structure the problem Objective of model What questions must be answered? What key outputs are needed? What is the time horizon of the problem? Target audience What type of decisions do they need to make? What level of detail is needed? What type of interaction and controls will they need?

Steps in Creating a Model Define modules and list of input and output variables for the model Input assumptions and sources Decision variables External data and data structures Key performance measures Charts, tables, visual aids Structural relationships/Intermediate calculations Documentation

Steps in Creating a Model Understand financial and mathematical aspects of the model Appropriate line items for free cash flows Matrix operations Assumptions of key performance measures, plugs

Net Present Value (NPV)   NPV Rule 1: A project is worthwhile if NPV>0 Excel function: =npv(rate,value1,value2,…) calculates

DuPont Ratio Analysis Framework

Design the Model Plan your layout! Consider how On paper, map out the different sections of your model and their planned locations within the workbook Consider how Readable the model layout will be for the user Easy it will be to modify the assumptions Easy it will be to extend the model Inserting/deleting new rows and/or columns Copying similar formulas Map out steps for more complex interactive logic

Data Input Layout Strategies Isolate constants into their own cells Do not use constants in formulas unless number has a mathematical foundation (e.g. p, 1 in percentage calculations) Don’t allow an input value to be entered in multiple places in the model Organize decision variables and model parameter/assumptions logically into separate physical areas or color schemes Consider pros and cons of creating separate worksheets for inputs

To Reduce Formula Errors Use relative and absolute cell addressing where appropriate Set up common structures in different parts of the model (e.g. same row labels, order and vertical positioning) Minimize linking formulas across worksheets Split complex formulas into multiple intermediary formulas

Steps in Creating a Model Create the model Write any necessary VBA code Test the model Compare to a second calculation method to verify accuracy Ask intuitive questions: Do numbers make sense? Test different input assumptions including extreme values Use Formula Auditing Toolbar Protect the model Excel’s Data Validation

Steps in Creating a Model Document the model Assumptions, inputs and outputs Conditional Formatting Cell comments Worksheet with model description and version updates Range names Update model as necessary