1.1 Financial Records BST

Financial records The financial records of a business are called its ACCOUNTS They should be kept up to date and with great accuracy. This is the responsibility of the ACCOUNTANT

Accounts vs an Accountant Definition: The financial records of a firm’s transactions Accountants Definition: Are professionally qualified people who have responsibility for keeping accurate accounts and producing the final accounts

Final Accounts/ Financial Statements Definition: Are produced at the end of the financial year (usually 31st March) and give details of the profit or loss made over the year and the worth of the business.

Documents During the year there are a large number of financial documents that are created as the business buys and sells goods and services. Receipts Invoices Credit notes Purchase orders Statement of Accounts

Documents continued… The documents will be used by Accountants to: keep records about suppliers keep records about customers provide the data for final accounts

Methods of making payments Payments for goods and services can be made in the following ways: - Cash - Cheque (will be extinct) - Credit card - Debit card - Direct debit (electronic transfer) Automatic Payments

Who is interested in the accounts? Business owner (to see if the business has made a profit or loss, what to spend the money on) Managers/ Employees of the business (to see if the business has made a profit so their jobs are safe) IRD (to see what tax must be paid if the firm makes a profit) Bank Managers (to see if the firm can pay back the loans) Creditors (suppliers that the business owes money to. To see if they can pay them back) Potential investors or buyers (wanting to see if the business is a good investment) Customers – to assess the strength of the business Competitors – to compare their performance They all want to check on the company accounts to see the financial performance.

Cash Flow Importance of good cash flow To ensure that a business is able to pay all their invoices (bills) on time To continue to receive supplies (the stock) required to run the business efficiently

Not having a good cash flow… Implications (negative impacts) of poor cash flow include: Not enough cash - to meet day-to-day expenses Employees- may not get paid on time Creditors - may not get paid on time. Some may then take legal action to recover the debt. Unable to repay - loans / mortgages back to bank

Methods to improve cash flow Give customers less generous credit terms or insist they pay by cash Sell unsold stock before ordering more Sell any unused assets eg: old computers to get cash

Why Stakeholders are interested in cash flow? Suppliers want to know if the business will be able to pay if offered credit. Suppliers require payment on time as they will have their own suppliers who will require payment by a certain date The owners and other investors want to evaluate future growth potential Employees are interested in the overall cashflow of the business so they continue to get paid Creditors (banks) to see if the business can pay back their loans

What do financial accounts contain? The Trading Account/ Statement Income Statement Balance Sheet Cash Flow Statement

Terms to know Trading Statement= shows how the gross profit of a business is calculated (before the expenses are listed) Cost of Goods Sold = is the cost of producing or buying in the goods actually sold by the business during a time period Sales Revenue = is the income to a business during a period of time from the sale of goods or services Gross Profit = is made when sales revenue is greater than the cost of goods sold (before expenses are calculated) Gross Profit = Sales less Cost of Goods Sold

Income Statement The Income Statement (sometimes referred to as “Profit and Loss Account”)… Shows how net profit is calculated for the year Net Profit = Is the profit made by a business AFTER all the costs (expenses) have been deducted. Net Profit = Gross Profit less Expenses Gross Profit = Sales less cost of goods sold

Retained Profits This is profit that is reinvested back into the business after tax has been paid. Used to expand the business, buy more machinery, upgrade computers etc

Balance Sheet So far we have only looked at when a business makes a profit or a loss. However, the Income Statement does not tell us how much the business is worth in total. Business owners are very interested in knowing how much their business is worth. This information, along with other details is shown on the “Balance Sheet”.

Balance Sheet Definitions: Balance Sheet = shows the value of a business’s assets and liabilities at a particular point in time. Assets = Items of value which are owned by the business eg: building, vehicles, machines. Liabilities = Items owed by the business eg: loan, mortgage, overdraft

Key Terms in the Balance Sheet Equity = the worth or value the business owner has in their business (what is left over after all the liabilities have been paid) Equity = Total Assets – Total Liabilities

Balance Sheet Issues Insufficient working capital / short-term cash problems This is a problem because it means the business has insufficient cash resources to meet its expenses or debt repayment in the short term. Solution To borrow on a long-term basis, so that the owner has the cash to pay for expenses now but repay the loan later, which means that the owners would end up paying more interest.

More Balance Sheet Issues Low equity This is a problem because it means that creditors have paid for more of the business assets than the owner. The business may not be able to repay its debts on time and have difficulty buying on credit or getting loans. Solutions The owner needs to invest more cash Take out less profits from the business so they have a bigger percentage of the business assets.

Ratio Analysis of Accounts There are many ratios which can be calculated from a set of accounts These ratios are used to measure and compare PERFORMANCE and LIQUIDITY of a business To improve ratios, owners need to put more cash into the business or decrease their expenses

Comparing ratios Ratios are very useful as a quick way of comparing a firm’s performance and liquidity. Results should be compared with: - Other years - Other businesses

Disadvantages of ratio analysis Ratios are based on past results & will not predict future performance Results over time are affected by inflation (rising prices) and comparisons between various years may be misleading Different companies use different accounting methods, eg: when valuing their fixed assets which could lead to different ratios and comparisons