Balancing the Model
We are now at a very interesting stage in the model-building process, where we need to tie together all of our seemingly independent calculations and produce a truly dynamic model. So far, we have had a few linkages between the Income Statement, Balance Sheet, Capex, Intangibles, and Debt sheets, but nothing really unifying all of them. In this chapter we will revisit the Income Statement and Balance Sheet sheets to connect any incomplete items, calculate a few skipped-over concepts, and ultimately balance the balance sheet.
The concept of balancing the model reverts back to the accounting theory discussed in Chapter 4. The most relevant principle from that chapter is that assets must equal liabilities plus shareholders equity at all times
. In cases where our projections temporarily deviated from this principle, we identified surplus funds as the asset-side plug and short-term debt as the liability-side plug. Figure 7.1
reviews these concepts.
One challenge of implementing the plugs is that, aside from just being used to calculate the difference when our main accounting principle is unbalanced, the plugs contribute to the difference through interest expense and income. All forms of cash, including surplus funds, would most likely be kept in a highly liquid, safe investment such as guaranteed investment contracts or marketable securities. These investments will earn a small, but potentially useful amount of income. Similarly, short-term debt is not ...