1. Assessing performance
Using financial data

2. What are the key questions?
What would you want to find out when you look at a company’s accounts?

3. Balance Sheet
Shows the assets (what the business owns) and liabilities (what the business owes) at a particular point in time

4. Income Statement
Shows the income & expenditure, thus profit or loss, of a firm over a period of time (usually a year)

5. Who uses the accounts?
Internal – management accounting External – financial accounting See page 20, table 3.1

6. Balance Sheet Assets Liabilities Equity (capital) provided by owners
Shares or reserves (retained profit)

7. Assets
Non-current are owned for a period of more than 1 year Current are owned for a period of less than 1 year – they circulate in a business on a daily basis and can be expected to turn into cash within one year Assets may be tangible or intangible

8. Liabilities Current – debts scheduled for repayment within one year
Non-current liabilities – debts due for repayment after more than one year
Long-term liabilities

9. capital
Two main forms: Share capital (funds provided by shareholders through the purchase of shares) Reserves & retained earnings (those items that arise from increases in the value of the company that are not distributed to shareholders as dividends but are retained for future use by the business)

10. Why does the balance sheet always balance?
Assets = liabilities + equity
Page 26, Practice exercise 2

11. Why a balance sheet?
Helps stakeholders assess financial strength of a company
Gives picture of overall worth
Helps to gain an understanding of the nature of the firm
Identifies the liquidity position
Shows sources of capital
Can compare to earlier balance sheets – identify areas of change

12. Formulae
Current assets = inventories + receivables + cash & other cash equivalents Working capital = current assets – current liabilities Net assets = non-current assets + current assets – current liabilities – non-current liabilities Assets employed = net current assets + non-current assets Capital employed = total equity + non-current liabilities Assets employed = capital employed

13. Business Expenditure Revenue expenditure
Spending on day-to day items, e.g. raw materials, wages, utilities
Capital expenditure
Spending on non-current (fixed) assets – those used repeatedly in the production process, e.g. buildings, machinery, vehicles

14. Why is this important? Matching, or accruals concept
When calculating profit, any income should be matched to the expenditure involved in creating that income

15. Prudence
Accounting convention that states that accounts should ensure that the worth of the business is not exaggerated
What about ‘window dressing’?

16. Depreciation
The fall in value of an asset over time, reflecting the wear and tear of the asset as it becomes older, the reduction in its economic use or its obsolescence
Ensures accounts meet principles of accounting:
Spreads cost of an asset over the lifetime which it is helping to generate income - affects profit level (income statement)
True & fair valuation of a company’s assets (balance sheet)

17. Straight-line depreciation
(also ‘reducing-balance’ depreciation)
Annual provision for depreciation =
Initial cost – residual value
expected lifetime (in years)
Warning – based on subjectivity!

18. Working capital Net current assets (same thing!)
Day-to-day finance used in a business
Current assets – current liabilities

19. Rule of thumb
Twice as many current assets as current liabilities
Why?

20. Working capital cycle Length = Length of time that goods are held +
Time taken for receivables to be paid -
Period of credit received from suppliers

21. Factors influencing level of Working capital
Time taken to sell inventories (stocks)
Nature of the product
Durability of the product
Efficiency of suppliers (JIT)
Lead time
Customer expectations
Competition

22. Factors influencing level of Working capital
Time taken by customers to pay for goods:
Nature of the market
Type of product
Bargaining power

23. Factors influencing level of Working capital
Credit period offered by suppliers

24. Causes of working capital difficulties
Failure to control inventory levels
Poor control of receivables (debtors)
Poor control of payables (creditors)
Cash flow problems
Poor internal planning & coordination
External factors

25. Solutions?

26. Solving working capital problems
Maintain inventory at lowest practical level
JIT
Receivables control, e.g. factoring