3.5 Financial Accounts Chapter 22

What are ACCOUNTS? Financial records of business transactions which provide information to groups within and outside an organization. Accounts help keep track of assets, liabilities, revenue, and expenses.

ACCOUNTS Accounts can help up answer business questions: How much did we buy from a supplier? Have they been paid yet? How much profit did we make last year? Can the business repay a loan? How much did we pay in wages last week? What is the value of our fixed assets?

Who uses Financial Accounts? Business Managers Banks Creditors (Trade Suppliers) Customers Governments Investors Workforce Community

Stakeholders Require Account Information Business Managers Measure performance of the business and compare it to last year, last quarter, or to a budget. Help make decisions…do we invest in a new product or close branch offices. Set performance goals for the future and compare to actual performance in order to remain on target.

Stakeholders Require Account Information Banks Decide to lend money Increase a line of credit Decide whether to continue a loan or line of credit

Stakeholders Require Account Information Creditors (Trade Suppliers) Can the company pay off its debts? Is the company a good credit risk? Should it collect its outstanding debt early?

Stakeholders Require Account Information Customers Is the business stable? Will I be able to continue buying product in the future? Will it be of same quality? Is there be spare parts or service facilities?

Stakeholders Require Account Information Government/Taxing Authorities Calculate tax due Will the company expand and create more jobs? Is the business in danger of closing? Is the business adhering to laws and regulations?

Stakeholders Require Account Information Investors (Shareholders) Is the business becoming more or less profitable? What share of the profits are the investors receiving? Can the business grow? Potential investors compare businesses to make an investment decision. Investors will decide if they should sell their investment or continue their investment.

Stakeholders Require Account Information Workforce Is the company capable of paying wages? Is the business likely to expand or reduce in size? Are jobs secure? If profits are increasing, can higher wages be paid? How do wages compare with wages paid to company executives?

Stakeholders Require Account Information Local Community Can the company expand? Good for local economy. Is the company losing money? Bad for local economy if the business closes.

Financial Statements Income Statement Records the revenue, costs, and profit (or loss) of a business over a period of time. Balance Sheet Records the values of a assets, liabilities, and shareholder’s equity in the business. Cash Flow Statement Cash inflows and outflows of the business used to estimate cash needs.

Income Statement Detail statements are produced frequently for internal management Typically once per month Summary statements are produced for external users. Detail is omitted to avoid revealing strengths and weaknesses. Typically produced annully

Income Statement Sales 3060 Cost of Sales(1840) Gross Profit 1220 Overheads (580) Net Profit before taxes and interest 640 Interest (80) Pre-Tax Profit % (112) Profit After Tax 448 Dividends to Shareholders (200) Retained Profit 248 Trading Accounts Shows gross profit/loss from trading activities of the business. **Sales is the not the same as CASH RECEIVED. Profit and Loss Accounts Calculates the Net Profit/Net Loss and calculates the Profit/Loss after taxes are paid. Appropriation Accounts Shows how profits after tax are distributed (appropriated) to the owners or shareholders.

Income Statement Sales 3060 Cost of Sales(1840) Gross Profit 1220 Overheads (580) Net Profit before taxes and interest 640 Sales: Revenues generated by the business (also known as sales turnover) Cost of Sales: Direct costs required to produce the product to sell (also known as cost of goods sold) Gross Profit: Sales revenue less the cost of sales. Overhead: Expenses not directly related to producing the item sold. Sales:Hand made candy bars Cost of Sales:Chocolate, caramel,nuts, graham crackers Overhead: rent, wages, utilities

Income Statement Dividends Share of profits paid to shareholders as a return for investing in the company. Retained Profits The profit left after all deductions have been made (including dividends). This is returned to the company as a source of finance.

Income Statement Limitations Values can be made to look “better” than they really are. Values can be made to look “worse” than they really are. Low-quality profit: profit that cannot be easily repeated or sustained (including a large sale that won’t be repeated) High-quality profit: profit that can be repeated and sustained.

Balance Sheet Records the wealth of a business or shareholder equity at one moment in time. (This wealth belongs to the shareholders.) Shareholder equity is created 2 ways: 1. capital invested by the purchase of stock by the shareholder 2. Retained earnings of the company that have accumulated over time

Balance Sheet Contains the following categories: AssetsThings the company owns. Fixed Assets land, buildings, vehicles Tangible items that will be owned for at least 1 year. Current Assets inventory, accts receivable, cash Items that are seen as liquid. LiabilitiesMoney the company owes. Current Liabilities accts payable, loans, unpaid taxes Long-Term Liabilities long-term loans, mortgages, debentures (bonds) Items that will take longer than 1 year to pay. Working CapitalCurrent Assets-Current Liabilities Shareholder’s Equity Money paid into company by shareholders Retained Profits

Balance Sheet ASSETS Fixed Property 300 Vehicles 45 Equipment 67 Total Fixed Assets442 Current Assets Stocks (inventories) 34 Debtors (Accts Rcvbl) 28 Cash 4 Current Liabilities Creditors (Accts Pyble) 42 Short-Term Loans 31 Net Current Assets(7) NET ASSETS435 Long-Term Liabilities Long-Term Loans125 Total Long-Term Liabilities125 SHAREHOLDER’S EQUITY Share Capital200 Retained Earnings110 Total Shareholder’s Equity310 CAPITAL EMPLOYED435

Balance Sheet ASSETS Fixed Property 300 Vehicles 45 Equipment 67 Total Fixed Assets442 Current Assets Stocks (inventories) 34 Debtors (Accts Rcvbl) 28 Cash 4 Current Liabilities Creditors (Accts Pyble) 42 Short-Term Loans 31 Net Current Assets(7) NET ASSETS435 Fixed Assets: Assets to be kept and used for more than 1 year Current Assets: Assets that are liquid and likely to be cash by the next balance sheet date Stocks/Inventories: items ready for sale Debtors/Accounts Receivable: value of payments to be received from customers who purchased goods on credit Current Liabilities: Debts that will usually be paid within 1 year Creditors/Accounts Payable: value of debts for goods bought on credit from suppliers Net Current Assets: Current Assets - Current Liabilities also known as “working capital”

Balance Sheet Long-Term Liabilities Long-Term Loans125 Total Long-Term Liabilities125 SHAREHOLDER’S EQUITY Share Capital200 Retained Earnings110 Total Shareholder’s Equity310 CAPITAL EMPLOYED435 Long-Term Liabilities: Value of debt that will take more than one year to pay Long-Term Loans: commercial loans, debentures Capital Employed: Balances with NET ASSETS