The total cost of a financial model audit is a topic I discuss with clients on a daily basis. Based on those discussions and our work auditing financial models we have found some simple rules that outline the main drivers of model audit fees.
- Complexity of formulae
- Size of the model (i.e. the number of unique formulae)
- Model structure and adherence to best-practice guide-lines
- Time pressure to complete the project
- Number of iterations
Complexity of formulae
The complexity of a formula can be translated into ‘how long does it take the model auditor’ to understand and to validate the correctness of the formula. It is just common sense that this formula
=SUM(C34:C38)
is a lot faster to validate than
=IF(F$11<YEAR(FirstFY),EFFECT(Assumptions!$E$628,4),IF(F$11=YEAR(FirstFY), EFFECT(Assumptions!$E$629,4),IF(F$11<YEAR(Firstfyops), EFFECT(Assumptions!$E$630,4),IF(F$11=YEAR(Firstfyops),EFFECT(Assumptions!$E$632,4),EFFECT(Assumptions!$E$631,4)))))
Size of the model (i.e. the number of unique formulae)
It is very difficult to give an indication of the ‘typical’ size of a financial model as it varies significantly depending on the model’s purpose and the sector to which it belongs. However, we find that the largest financial models (in terms of the number unique of formulae) are typically PPP/PFI bid models which can contain between 5,000-20,000 unique formulae.
Actively working to reduce the number of unique formulae in a model can significantly reduce your financial model audit costs. If you are uncertain of how this can be achieved, ask your financial model audit team next time you ask for a quote. They should be able to suggest some simple and practical techniques by which this can be achieved.
Model structure and adherence to best-practice guidelines
Providing a quote on a financial model audit job without having seen the actual model itself creates the risk that the quoted amount is vastly different to the incurred audit costs. This difference will inevitably need to be borne either by the client or the auditor. Either way, this unexpected blowout has the potential to damage an otherwise healthy client relationship and needs to be managed in a proactive way.
Different model audit companies address this problem in different ways. We find that the best outcomes are achieved when we work closely with our clients to guide them to using a best-practice approach to financial modelling which tends to push down the total costs of the engagement by effectively de-risking the scope of works. It is not unusual to see that some quick changes to a model mean a significant reduction in overall fees based on a pricing grid using unique formulas and/or complexity.
Time pressure to complete the project
It is not uncommon practice for an audit team to be provided with a financial model to be audited only days before a bid deadline. This creates an enormous amount of pressure on not just the financial model audit team, but the modeler and also the transaction team as a whole. Even small errors found at this late stage can have a critical impact on the deal structure and optimised funding structures.
A much more efficient approach is to work side-by-side with the financial model audit team throughout the bid process and this co-operative approach will lead to improved models with less errors and may even lower overall model associated costs.
Number of iterations
A typical financial model audit engagement involves 3-4 iterations and in the case of a successful bidding outcome, some additional work leading up to the financial close. It is important to have well defined iteration stages and avoid continuously bombarding the financial model audit team with new versions.
If you are unsure of at what stage and at what frequency you should be providing the audit team with updated versions of the model, ask your model audit team on their approach to this issue. An uncontrolled submission of new model versions can result in excessive model audit fees - an outcome that no one wants.
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