Unit 5 Lecture ( (5 - Interpret and report your findings: Calculations are…
Unit 5 Lecture
What is accounting:
"The process of identifying, measuring and communicating economic information to permit informed judgements and decisions by the users of the information" (AAA)
"Information about the resources of theentity , not only to assess, prospects for future net cash inflows but also how effectively and efficiently management has discharged their responsibilities to use the entity's existing resources (ie stewardship)"
- Comprehensive recording of transactions and their accurate analysis to provive a monetary daabase for the prep of published accounts
- Unit 5 focus
Designed to serve the org
- More freq reporting
- Not regulated
- COntains bespoke business info
- FOcus of Unit 6 and 7
- Going concern - the entity will continue in operational existence for the foreseeable future
- Accruals - revenue and costs are accrued, ie recognised as they are earned or incurred, not as money is received or paid
- Comparability - Informatyion can be compared with with similar information about other entities and with similar information about the same entity for another period or another date
- Reliability/Prudence - Revenue and profits are not anticipated....privision for known liabilities
Separate Entity Concept:
Sole trader, partnership, copany (private or public), capital investment and risk
Separation of Ownership and Control:
In a limited liability comoaany, managers etc are the agents of the shareholders/owners (the Principal)
Alignments of agent and principal monitoring - financial reports and auditing
- Income statement or Profit and Loss Account
For the year ened 31.12.2016. Income less expenses = profit/loss
- Statement of Comprehensive Income
Combined with the P&L or separate
Net Cash Movement:
- Statement of Financial Position or Balance Sheet
At the year end date, assets less liabilities = shareholders funds
- Cashflow satement
For the year end, receipts and payments
Income statement: shows the income less expenses for the period stated. And the profit where the income exceeds costs.
A comp like Next will also publish a stateent of comprehensive income.
- Gross profit
- Net profit (Gross minus expenses)
- Retained profit - Net minus dividends paid
- Retained profit brought forward - Ret from last period
- Carried forward - retained plus last years brought forward.
Statement of Financial Position:
(formerly called Balance sheet) Shows the assets and liabilites of the business at the year end date.
Total assets less total liabilities = shareholder funds.
- Fixed assets - those assets intended to keep, ie plant etc
- Current assets - stock and debtor etc
Current liabilities - those due to be repaid in one year
- Equity -
- Working Capital is the difference between the current assets and Current liabilities
- Equity - Share capital, plus P&L = total shareholder funds
Cashflow Statement: shows net cash movement for the year. Looks at what the business has received and actually paid. Essential to have a full understanding of the health of the business as businesses need suficient cash, not profit to survive.
(as per seminar)
- Provides a link between P&L and Financial Position
- Additional receipts and payments.
1 - COnsider the context: Type of business. Is it labour or capital intensive. Fixed costs? What economic conditions does it face?
2 - Review absolutes and trends. How big is the business? Is it multinational? Leader in the field? Is the top line sales growing? Does this rate of change repeat as far as the bottom line? Has the asset base expanded in line with the change in sales? Whats happening with cash? Has new capital been introduced or retired?
3 - Do the ration anaysis : ROCE (Return on capital employed) Gross profit% Net profit %. Efficiency/asset utilisation. Risk Solvency (gearin, interest and dividend cover). Investor (dividend and return on equity)
4 - Investigate results: Are the results better or worse? (prev year, benchmark, forecast etc). Are there any inconsistencies? Use additional non-numeric information (notes to accounts, reports of the chair/board)
5 - Interpret and report your findings: Calculations are not enough! The numbers need to be interpreted. Compile a structured report (Profitability, efficiency, liquidity, riskiness of a business. Comments supported by evidence and identify limitations.
Limitations : Info out of date, limited range of info, limited segmential info, avail of comparison data, distortion caused by inflation, overstateemtn of profit. Effect of accounting policies on comparability definition of terms
Profitability - the difference between the price we sell and the cost of production This is at the point of the transaction - not the cash received. Includes depreciation. Realisations and accruals concepts, non cash items, accounting policies, capital maintenance concepts
Liquidity - ability
Profitability and solvenc are both very important
- More businesses fail because the run out of cash than because they are unprofitable
- VITAL to recognise that profit and cash are different
- Cash and profit will never match each other
Role of financial markets: Buying and selling of sjhares by investors
Shareholder return: Income from dividends. Capital gain from increases in share price
Cost of capital - return required by nvestor, link to investment appraisal in Unit 7