SMALL BUSINESS MANAGEMENT Chapter 10 Financial Management Ocean Hotel What issues concerning financial management did ocean hotel encounter? Sugar High I & II Past Due Mohair Fashion Diva

Accounting Information Entrepreneurs To plan and control To motivate employees Investors To evaluate performance Lenders To evaluate creditworthiness Government To verify taxes owed To approve new stock issues

Recording Transactions Classifying Transaction Totals Summarizing Data Balance Sheet (Statement of Financial Position) Income Statement (Statement of Profit and Loss) Cash Flow Statement and/or Changes in Financial Position The Accounting Cycle

Financial Statements Balance Sheet (Statement of Financial Position)  Snapshot of what a business owns and what it owes Income Statement (Statement of Profit and Loss)  Results of operations over a given period of time Cash Flow Statement (Ch 7) Changes in Financial Position  Changes in balance sheet accounts of a set period of time

Accounting Systems for Small Business  Outsourcing Financial Activities  Manual Systems Copyright © 2014 McGraw-Hill Ryerson. All rights reserved.

Accounting Systems for Small Business  Small Business Computer Systems  Disadvantages Cost Obsolescence Employee Resistance Capabilities Setup Time Failure to Compensate for Poor Bookkeeping Copyright © 2014 McGraw-Hill Ryerson. All rights reserved.

Management of Financial Information for Planning Short Term Financial Planning  Preparing an estimated future financial result ( Pro forma income statement or budget )  Budget is valuable because Clarification of Objectives Coordination Evaluation and Control  Variance analysis

Management of Financial Information for Planning Long Term Financial Planning  The Capital Investment Decision Baron of Beer  The Capacity Decision Cottage Cheesecake  The expansion Decision  Suger high Sugar high I & II

Clodhoppers What are some of the problems of growth of Kraves Candy Company? What could Chris emery and Larry Finson do to solve these problems? What are the advantages and disadvantages of diversifying to other products besides clodhoppers?

The Capital Investment Decision rate of return method (PG 312 ) payback method (PG 313 ) present value method NPV or IRR ( Get a financial calculator )

 Question 3. Calculate the rate of return for the following investment. The total cost of the investment is $250,000, the depreciable life of the investment is 10 years and the annual profit (net of depreciation) is $30,000. What considerations other than financial ones exist?  Answer:  Rate of Return = Average profit / average investment Factors affecting the investment in this business are: 1.Prime rate of interest - usually an investor will want a return at least two to three times the prime rate. 2.There is also some tax, personality and personal considerations. Refer to chapter five for all the considerations on buying a business

 Assume the annual depreciation charge for the investment in problem 3 is $25,000. Determine the payback period of the investment.  Payback period = Total Investment / (Annual Depreciation + Annual Profit). ==

The Capacity Decision  break even point which tells you the sales volume you need to break even, under different price or cost scenarios

Determine the break-even point in dollars for an investment with fixed costs of $100,000 and an estimated contribution of 60 percent. How much revenue would it need to produce before your would invest? Answer: B.E.P. = Fixed Costs /Contribution per unit

Management of Financial Information for Planning The Expansion Decision Effect of fixed cost adjustments Effect of variable cost adjustments  Use BEP on incremental basis

Evaluation of Financial Performance Management of Current Financial Position Making profit but cash poor  length of time for payments three essential components  time taken to pay accounts payable  time taken to sell inventory  time taken to receive payment for inventory

Mohair Sock  Explain how this firm could have a strong net income as reflected on the income statement but be cash poor so as not to meet their short term obligations? Mohair Socks

Evaluation of Financial Performance Evaluation of Financial Statements Ratio Analysis Liquidity ratios  current ratio = current assets / current liabilities over 1:1, usually between 1:1 and 2:1  Acid test/ Quick ratio = current assets- inventories/ current liabilities 1:1 is considered healthy

Evaluation of Financial Statements Ratio Analysis Productivity ratios  Inventory turnover = COGS / Average inventory at average cost  Inventory turnover = Sales / Average inventory at retail price  Collection period = Accounts receivable / Daily credit sales

Evaluation of Financial Statements Ratio Analysis Profitability ratios  Gross margin = sales - COGS  Profit on sales = net profit before tax / sales  Expense ratio = Expense item / Sales  Return on Investment = Net profit before tax / owner ’ s equity

Evaluation of Financial Statements Ratio Analysis  Debt ratio Total debt to equity = Total debt / owner ’ s equity not greater than 4:1

Advantages of Credit Use will undoubtedly increase sales necessary to remain competitive credit customers exhibit more store loyalty credit customers are more concerned with quality of service vs. price credit records can be used for future planning

Disadvantages of Credit Use will be some bad debts - depends on credit policy and monitoring slow payers cause lost interest and capital increases bookkeeping, mailing and collection expenses Past Due

Management of a Credit Program Determine Administrative Policies Set Criteria for Granting Credit Set up a System to Monitor Accounts Establish a Procedure for Collection

Credit and the Small Business  Use of Bank Credit Cards Maybe cheaper and easier than running your own credit program Usually 2%-6% of transaction

Sam’s Paint and DrywallSam’s Paint and Drywall Pg 326 6a.From the above balance sheet and income statement of Sam's Paint and Drywall determine the following ratios: 1.Current 2.Inventory turnover 3.Profit to sales 4.Return on investment 5.Total debt to equity 6b.From Dunn & Bradstreet's Key Business Ratios on industry norms, evaluate each of the above ratios.

Appendices  A. Checklist for buying a small business computer  B. Use of Financial Ratios for a Small Business (Car Dealer)

Cash Flow Experience (pg 326)  Dick's Draperies has gross sales of $15,000 per month, one half which are on credit (paid within 30 days). Monthly expenses are as follows: wages, $3,000; utilities and rent, $2,000; advertising, $300; miscellaneous, $500. Inventory is purchased every three months and totals $30,000 for each order. Yearly expenses paid for in advance are insurance of $1,000 and a rent deposit of $700. Prepare a six-month cash flow statement for Dick's Draperies. What advice would you give this business based on the cash flow statement?