 # How To Use Excel for Financial Calculations

Most people only scratch Excel’s surface. It’s more than just about cells and grids.

If you’re feeling lost amidst financial jargon and numbers. You’ve come to the right place.

In this article, I’ll go beyond the essential financial functions and explain how to apply them to common financial calculations in Excel. Investments, loans, and interests are all simplified.

Let’s get started!

## Financial Functions in Excel

When you understand Excel’s financial functions, working with budgets, financial modeling, and cash flow analysis becomes a breeze.

Before we get started, let’s do a quick recap of the financial functions.

Financial functions in Excel can be broadly divided into four main categories: interest rate, payment, investment, and risk functions.

These functions cater to multiple aspects of financial analysis, such as calculating present and future values, determining loan payments, and evaluating investments.

For instance, take a moment to imagine you’re working on a budget for the upcoming year. Excel’s financial functions can help you forecast future expenses or revenues using the FV (Future Value) function or even the PV (Present Value) function to determine the current worth of future cash flows.

This resource provides a great starting point to explore and master Excel’s top 11 financial functions.

## Common Financial Calculations In Excel

Now, let’s deal with specific finance queries that pop up.

### How to Calculate Interest Rates?

Understanding interest rates is crucial when it comes to financial decisions, as it impacts the value of money over time. This section will explore using the RATE function to calculate interest rates.

The RATE function is specifically designed to calculate the interest rate per period for a loan or an investment, given a series of payments. The syntax is:

``=RATE(nper, pmt, pv, [fv], [type], [guess])``

Let’s break down each argument:

• nper: total number of payment periods (e.g., years, months, quarters, etc.)
• pmt: fixed payment amount per period, including principal and interest (but not taxes!)
• pv: present value, or the initial lump sum you’re investing or borrowing
• fv (optional): future value or the resulting balance after the last payment (usually 0 for loans)
• type (optional): whether payment is made at the beginning (1) or end (0) of each period
• guess (optional): an initial estimate of the interest rate to speed up calculations

#### Interest Rates Worked Example

Let’s see an example of using the RATE function to compute the annual interest rate for a loan. Assume you have a loan of \$20,000 with a monthly payment of \$400 over a 5-year term.

When using the RATE function, keep the following tips and best practices in mind:

• The total number of payment periods aligns with the payment period figure
• Use negative values for payments when dealing with cash outflows (e.g., loan payments)
• Use positive values for payments when dealing with cash inflows (e.g., investment returns)
• Specify the [type] argument (0 or 1) to indicate payment timing
• Leverage the [guess] argument for faster calculations, especially for complex scenarios
• Finally, always double-check the results for accuracy and reasonableness

### How to Calculate Payments and Amortization

When dealing with loans and mortgages, you’ll need to understand the concepts of payments and amortization.

Payments refer to the regular installments made towards a loan. Amortization is splitting these payments between the principal and interest over time.

Lucky for you, Excel has financial functions to help you with these crucial calculations!

One such function is the PMT, which calculates the periodic payment for a loan with a constant interest rate. The syntax for the PMT function is:

``=PMT(rate, nper, pv, [fv], [type])``

Let’s break down each argument:

• rate: The interest rate for the loan per period
• nper: The total number of payments for the loan
• pv: The present value or the loan amount
• fv (optional): The future value you want the loan to converge to after the final payment
• type (optional): Specifies whether the payment is made at the beginning (1) or the end (0) of each period

#### PMT Worked Example

For example, suppose you need to calculate the monthly payment for a car loan with an annual interest rate of 5%, a loan term of 60 months, and a borrowed amount of \$25,000. The formula would look like this:

Here are some tips for using the PMT function:

• Calculate the principal portion of each payment using the PPMT function and the interest portion with the IPMT function
• You can create an amortization table by combining these functions. Check out this detailed guide on building a mortgage calculator in Excel for further details

### How to Analyze Investment Returns

Investment returns are crucial in determining the success of your financial ventures.

There are several metrics to help measure them, such as Net Present Value (NPV), Internal Rate of Return (IRR), Modified Internal Rate of Return (MIRR), and Profitability Index (PI).

Excel provides functions to calculate these metrics for your investments quickly.

#### NPV

To start, let’s discuss the NPV function.

NPV evaluates a project or investment by comparing its present cash inflow value with its present cash outflow value. The syntax for the NPV function is:

``=NPV(rate, value1, [value2], …)``

It’s important to use negative values for cash outflows and positive values for cash inflows and to apply a consistent discount rate in your calculations. You can also use the XNPV function if irregular cash flows occur on different dates.

#### IRR

Next, we have the IRR function, which calculates an investment’s annualized rate of return with a series of cash flows over time. The syntax for the IRR function is:

``=IRR(values, [guess])``

Again, use negative values for cash outflows and positive values for cash inflows, and provide a reasonable “guess” argument to speed up calculations and avoid errors. To account for irregular cash flows at varying dates, you can use the XIRR function.

#### MIRR

The MIRR function calculates the modified internal rate of return for an investment with a series of cash flows, considering different rates for borrowing and reinvesting. The syntax is:

``=MIRR(values, finance_rate, reinvest_rate)``

While using the MIRR function, use realistic and consistent rates for financing and reinvesting cash flows, and compare the MIRR with the IRR to evaluate the impact of different assumptions on your investment return.

#### Profitability Index

Lastly, the PI function calculates the profitability index of an investment by dividing its present value of cash inflows by its present value of cash outflows. The syntax for the PI function is:

``=PI(rate, values)``

Like the other functions, ensure you use negative values for cash outflows, positive values for cash inflows, and a consistent discount rate. Interpret the PI value by considering:

• If PI > 1, the investment is profitable and should be accepted
• If PI < 1, the investment is unprofitable and should be rejected
• If PI = 1, the investment is breakeven and should be evaluated based on other criteria

## Best Practices & Tips for Using Financial Functions Effectively

When working with Excel for financial calculations, you’ll want to make sure you’re using best practices to ensure accuracy and efficiency in your work. Here are some tips to help you use financial functions effectively:

1. Be Consistent with Units and Assumptions: Always use the same units and assumptions throughout your calculations. For example, if you’re working with cash flows, make sure you’re consistently using dollars and a specific time period (e.g., monthly or annually).
2. Use Absolute References for Fixed Values: Certain values, like interest or tax rates, may remain fixed throughout your calculations. Use Excel’s dollar signs to create absolute references for these fixed values to avoid errors. This ensures that they remain constant when copying formulas to different cells.
3. Organize Your Data and Formulas Clearly: Make sure your Excel sheet is well-organized, with distinct sections for input data, calculations, and outputs. This will make it easier for you or any colleague, to understand and edit the file if needed.
4. Optimize Your Spreadsheet with Goal Seek or Solver: If you need to find a specific target value (e.g., desired future value or optimal cash flow), consider using Excel’s Goal Seek or Solver features to adjust input values to achieve the desired result automatically.

Remember, practice makes perfect. By applying these best practices and tips consistently, you’ll be well-equipped to tackle a variety of financial calculations in Excel!