Accounting Principles & Procedures Level 1
General
Definitions
Tax
Value added Tax (VAT)
Corporation Tax
Corporation tax is paid by businesses in the UK. Calculated on their annual profit in a similar way to income tax for individuals
Audit
Process used to check a person or companies' compliance with policy, procedures & compliances with regulation. Audits are performed to ascertain the validity and reliability of information; also to provide an assessment of a system's internal control.
Turnover
Income or revenue that a company receives from its normal business activities. Usually from the sale of goods and services to customers
Accounts
Management Accounts
Financial Accounts
Accounts prepared by a company for internal management use, or accounts prepared for a lender, such as a bank to evaluate how the business will repay funding. Management account will not be audited externally
Financial accounting is meant for external stakeholders
Why does a business keep company accounts?
1) Tax purposes (required by law)
2) Demonstrates the company's financial standing (supports loan or borrowing applications)
3) To ensure cash flow and profitability in a company is being directly managed.
Escrow account
A separate account owned by a third party, held on behalf of two parties. Can be used as a project bank account
Project Bank account
1) Ringfenced bank account, the money is held in an escrow
2) Ensures contractors, key subcontractors and key members of the supply chain are paid on the contractually agreed dates
3) Usually, mechanisms are in place for the release of funds such as payment certificates
Overheads
The indirect costs or fixed expenses of operating a business such as
1) Renting/leasing costs
2) Utility bills
3) Staff salaries
4) Insurance
VAT is a consumption tax placed on a product whenever value is added at each stage of the supply chain, from production to the point of sale
Tax depreciation
Tax depreciation is the depreciation expense claimed by a taxpayer on a tax return to compensate for the loss in the value of the tangible assets. Examples include property, plant and equipment
Accountancy Ratio
1) Liquidity ratios - The organisation's ability to turn assets into cash in order to pay debts
2) Profitability ratios - Used to assess a business's ability to generate earnings relative to its revenue, operating costs, balance sheet assets or shareholders equity over time, using data from a specific point in time
3) Gearing ratio - Measures the proportion of a company's borrowed funds to its equity. The ratio indicates the financial risk to which a business is subjected, since excessive debt can lead to financial difficulties
Financial Leverage
Financial leverage is an investment strategy of using borrowed money. Specifically, the use of various financial instruments or borrowed capital to increase the potential return of an investment
Capital Allowances
The practice of allowing taxpayers to get tax relief on their tangible capital expenditure by allowing it to be deducted against their annual taxable income.
key financial statement/documents that companies produce
1) Profit and loss account
2) Balance sheet
3) Cash flow forecast
4) Income statement
Difference between Gross & Net
Gross refers to the total amount of income before deductions, while net is the total after deductions or adjustments
CAPEX & OPEX
Expenditure
Definition - Expenditure represents a payment with either cash or credit to purchase goods or services
Capital expenditure (CAPEX)
Definition - Capital expenditure is spent to acquire or improve an asset such as equipment or buildings
Operating Expenditure (OPEX)
Definition - Operating expenses are costs in the day to day running of the business. For example, servicing machines, spare parts etc.
CAPEX and OPEX budget are split in businesses as they have different tax obligations. E.g. CAPEX can benefit from capital allowances
Balance Sheet
Definition - A balance sheet is a snapshot of a company's financial position at a given point in time. It reports on a company's assets, liabilities and ownership equity
Asset
Liability
Definition - Asset = A van or land which is owned
Liability = A loan or debt
Current Asset
Definition - Assets that will be turned into cash or used up within one year.
(i.e. Accounts Receivable, Inventory...)
Fixed Asset
Definition - Assets which are purchased for long term use and are not likely to be converted quickly into cash, such as land, buildings and equipment.
Debtor
Creditors
Creditors - is an individual or business that has lent funds to a business and is owed money
Debtor - Is an individual or business who has borrowed funds from a business and so owes money
Cashflow Forecast
Definition -A cash flow forecast is a plan that shows how much money you expect your business or project to receive and pay out over a set period. It can help you plan how much you expect to make in sales and spend in costs. It can also help you understand when money will enter and leave you bank account
What is a cash flow forecast used for?
1) Understand the impact on future plans and possible outcomes?
2) Keep track of overdue payments
3) Plan for upcoming cash gaps
4) Manage surplus cash
5) Track whether spending is on target
Why is cash flow important for a construction project?
1) Allows the client to gain an understanding of their financial commitment over the duration of the project and when they are likely to spend the money
2) Can be used to estimate when external funding will be required
3) Acts as a check against valuation and can give early indication of financial difficulties
How does a cash flow forecast help a company remain solvent?
Cash flow forecasts predict when a business or project has money to pay out and when money is coming in. This can highlight if the business of project will have negative cash flow, meaning they can do something about it in time.
Profit & Loss Account
Definition - A profit and loss account shows a company's revenue and expenses over a particular period of time, typically either one month or consolidated months over a year. These figures show whether the business has made a profit or a loss over that period
What is the difference between a balance sheet and profit and loss account?
1) Balance sheet is a financial snapshot at one given time showing the financial position of the company
2) Profit and loss account is showing the profit or loss over a determined period
Insolvency & Bankruptcy
Insolvency
Definition - Insolvency is effectively the inability to pay off debts or creditors. The term 'insolvency' is often a generic term used to describe bankruptcy, liquidation, administration etc
Why would you not recommend the appoint of a contractor with a low credit rating?
1) Risk of contractor or supply chain insolvency
2) Possibility of the contractor not performing satisfactorily or has restricted resources on site
How could you determine the financial standing of a company prior to doing business with them?
A Dun & Bradstreet report creates a business credit report that could be viewed like a personal credit report for businesses
What are the signs of a contractor insolvency on a construction project?
1) Slowing down works
2) Supply of materials drying up
3) Increases in defective work
4) Changes in management
5) Additional or inflated payment requests
6) Complaints from subcontractors
What steps would you take in the event of a contractor insolvency?
1) Inform all parties involved and secure the site
2) Inform the bondsman/bank/insurance company
3) Consider stopping pending payments to the contractor and seek legal advice
4) Take ownership of materials off site if paid for in valuations
5) Schedule all plant and materials
6) Value completed works and value any defects
7) Monitor loss & expense incurred by the employer
Liquidation
Definition - In its simplest form liquidation is a formal process which brings about the closure of a limited company. As part of the process all company assets will be sold or 'liquidated' for the benefit of outstanding creditor and/or shareholders before the company is struck off or dissolved from the register held at Companies House.
Administration
Definition - Administration is where the administrator is appointed to manage the company's affairs on behalf of the creditors
Bankruptcy
1) Bankruptcy is one way for individuals to deal with debts they cannot pay. It does not apply to companies or partnerships
2) Assets are shared among creditors
3) Allows the individual to make a fresh start from debt with some restrictions