Post on 25-Jun-2020
WORKSHOP 3
FINANCE FOR THE BUSINESS
LEADER
ASTON PROGRAMME FOR
SMALL BUSINESS GROWTH
WEDNESDAY 1ST
NOVEMBER 2017
2
NOTES
3
TIMETABLE
TIME SESSION DESCRIPTION LEAD 12:30 - 13:00 Arrival and Refreshments
13:00 - 13:15
15 mins
Internationalisation Overview of opportunities from
Department of International Trade
Christine
Hancock
13:15 - 13:30
15 mins
Workshop Overview Introduction
Objectives
Mark,
Paula
13:30 - 14:25
55 mins
Financial Statement
Fundamentals:
Construction
Review of Balance Sheet and Profit
& Loss Account
Exercise: Financial Statement
Puzzle
Matt
14:25 - 14:40
15 mins
Break
14:40 - 15:55
75 mins
Financial Statement
Fundamentals: Analysis
of Financial Performance
Profitability and Efficiency Ratios
Exercise: Key Performance Ratios
Matt
15:55 - 16:10
15 mins
Break
16:10 - 17:05
55 mins
Financial Statement
Fundamentals: Analysis
of Financial Status
Liquidity and Stability Ratios
Exercise: Key Financial Status
Ratios
Matt
17:05 - 17:35
30 mins
Break
17:35 - 18:50
75 mins
Financial Statement
Fundamentals: Cash
Flow Forecasting
Cash Flow: Forecasting and
Working Capital
Exercise: Cash Versus Profit
Matt
18:50 - 19:00
10 mins
Wrap - Up Workshop Conclusions Paula
4
INTRODUCTION
DID YOU KNOW THAT?
• Only 17% of small businesses sought finance in the last 12 months
• 11% didn’t apply for finance despite wanting it:
• 53% did not want to take on additional risk
• 45% thought it would be too expensive
• 31% thought decision would take too long
• 29% thought the time was not right – economic conditions
• 37% of these didn’t apply because they thought they would be rejected
• 20% did not know where to find the appropriate finance
BEIS Small Business Survey 2015: SME employers
…AFTER BUSINESS GROWTH SUPPORT
• 84% of participants said they use financial data to drive business decisions more than they did before
• 87% have a clearer understanding of which financial metrics are critical to the success of their business
5
INTRODUCTION
HOWEVER… AFTER BUSINESS
GROWTH SUPPORT
• 70% of participants sought external financing
• Which was 4X higher than for all UK small business owners
6
NOTES
7
OBJECTIVES
OBJECTIVES
By the end of the workshop you will:
• Understand the Profit & Loss Account and Balance Sheet and what they say about your business
• Have identified financial metrics and ratios to measure your business’s performance and growth
• Have considered the financial information you need in your business to support strategic decision-making
AGENDA
• Review of balance sheet and profit and loss account
• Key financial ratios:
– Financial performance
– Financial status
• Cash flow:
– Working capital management
– Cash flow forecasts
• Wrap Up
8
REVIEW OF BALANCE SHEET/
PROFIT AND LOSS ACCOUNT
THE BALANCE SHEET RELATIONSHIP
ASSETS = LIABILITIES + CAPITAL & RESERVES
ASSETS - LIABILITIES = CAPITAL & RESERVES
KEY BALANCE SHEET CONCEPTS
• Working capital = current assets less current liabilities
• Capital employed = long term liabilities plus capital & reserves
• Liquidity = ability to meet short term liabilities
• Solvency = ability to meet all liabilities
9
REVIEW OF BALANCE SHEET/
PROFIT AND LOSS ACCOUNT
THE PROFIT AND LOSS ACCOUNT
• A summary of the business’ financial performance during a period of time (usually 1 year)
• Compares income (e.g. turnover) earned and expenses ‘consumed’ to determine profit or loss for the period
• Based on the ‘matching concept’: income and expenses should be accounted for in the period to which they relate, and expenses should be matched against related income
KEY PROFIT AND LOSS ACCOUNT
CONCEPTS
• Mark up % = profit as a % of cost
• Margin % = profit as a % of sales price
• EBITDA = Earnings Before Interest Tax Depreciation & Amortisation
10
EXERCISE:
REVIEW OF BALANCE SHEET/
PROFIT AND LOSS ACCOUNT
a) Arrange the items provided into the correct format for a balance sheet and profit and
loss account.
b) Review the balance sheet for this company and answer the following questions:
i) What is the business’ investment in ‘working capital’?
ii) What is the business’ ‘capital employed’?
iii) Is this business ‘liquid’?
iv) Is this business ‘solvent’?
c) Review the profit and loss account for this company and answer the following
questions:
i) Is this business ‘profitable’?
ii) What ‘mark up %’ explains the relationship between gross profit and cost of sales?
iii) What ‘gross margin %’ explains the relationship between gross profit and sales
revenue?
iv) Assuming the depreciation expense is £60,000 and there is no amortisation expense,
what is the business’ ‘EBITDA’?
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NOTES
12
KEY FINANCIAL RATIOS
KEY FINANCIAL RATIOS
• Ratios measure the relationship between numbers in the accounts
• Key types of ratios:
• Financial performance:
• Profitability
• Efficiency
• Financial status:
• Liquidity
• Stability
• Important to compare v appropriate benchmarks
13
KEY FINANCIAL RATIOS:
PERFORMANCE
PERFORMANCE:
1. PROFITABILITY RATIOSRatio Definition Purpose
Return on Capital Employed %
Operating profit x 100
(Long term liabilities + Capital and reserves)
How well has the business used its capital to generate operating profits?
Return on Sales % (Operating Margin %)
Operating profit x 100
Turnover
How well has the business converted sales into operating profits?
Gross Margin % Gross profit x 100
Turnover
How well has the business converted sales into gross profits?
PERFORMANCE:
2. EFFICIENCY RATIOS
Ratio Definition Purpose
Turnover on capital employed
Turnover
(Long term liabilities + Capital and reserves)
How well has the business used its capital to generate sales?
14
KEY FINANCIAL RATIOS:
PERFORMANCE
THE RELATIONSHIP BETWEEN
PROFITABILITY AND EFFICIENCY
Operating profit
Capital employed
Return on Capital Employed
Return on Sales Turnover On Capital Employed
Operating profit
TurnoverTurnover
Capital employedX
THE PYRAMID OF RATIOS
Return on Capital
Return on Sales
Gross MarginOverhead as % of Sales
Turnover on Capital
Turnover on Fixed Assets
Turnover on Working Capital
Stock days Debtor days Creditor days
15
NOTES
16
EXERCISE:
FINANCIAL PERFORMANCE RATIOS
a) Calculate profitability and efficiency ratios for Smith Ltd for 2016.
b) What might have caused the movement in the ratios you have calculated?
2016 2015
Return on capital employed %
50/(320+30) x 100 =
14.3%
Return on sales %
50/420 x 100 = 11.9%
Gross margin %
95/420 x 100 = 22.6%
Turnover on capital employed
420/(30+320) = £1.20
Possible reasons for movement
Return on capital employed %
Return on sales %
Gross margin %
Turnover on capital employed
17
EXERCISE:
FINANCIAL PERFORMANCE RATIOS
c) What are the drivers of these ratios in your business? How useful are these ratios for your
business?
Drivers in your business Is the ratio useful
for your business?
Return on capital employed %
Return on sales %
Gross margin %
Turnover on capital employed
18
NOTES
19
STATUS:
3. LIQUIDITY RATIOS
Ratio Definition Purpose
Current
Ratio
Current Assets
Current Liabilities
How well can the business meet its short-term obligations from current assets?
Quick Ratio
(Acid Test)
(Current Assets – Stock)
Current Liabilities
How well can the business meet its short-term obligations from liquid current assets in an emergency?
STATUS:
4. STABILITY RATIOS
Ratio Definition Purpose
Gearing
Ratio %
Debt x 100
(Debt + Capital and reserves)
What proportion of finance used by the business does ‘debt’ (interest-bearing finance) represent?
Interest Cover
Operating profit
Net interest payable
How easily can the business cover its interest charge (net of interest receivable) from profits available?
KEY FINANCIAL RATIOS:
STATUS
20
EXERCISE:
FINANCIAL STATUS RATIOS
a) Calculate liquidity and stability ratios for Smith Ltd for 2016.
b) What might have caused the movement in the ratios you have calculated?
2016 2015
Current ratio
150/50 = 3.0
Quick ratio (acid test)
(150-90)/50 = 1.2
Gearing %
30/(30+320) x 100 = 8.6%
Interest cover
50/2 = 25.0 times
Possible reasons for movement
Current ratio
Quick ratio (acid test)
Gearing %
Interest cover
21
EXERCISE:
FINANCIAL STATUS RATIOS
c) What are the drivers of these ratios in your business? How useful are these ratios in your
business?
Drivers in your business Is the ratio useful for
your business?
Current ratio
Quick ratio (acid test)
Gearing %
Interest cover
22
CASH FLOW:
WORKING CAPITAL MANAGEMENT
PROFIT V CASH FLOW
Profit ≠ Cash flow
Expenses are recorded when costs are consumed not when paid for
Cash flows arising from financing activities are not recorded in the P&L
Turnover includes sales made on credit not yet received in cash
Cash spent on capital investment is not recorded in the P&L and depreciation/amortisation in the P&L are non cash expenses
Cash spent on stock is only recorded as an expense when goods are sold
WORKING CAPITAL MANAGEMENT
• working capital = current assets – current liabilities
• growth usually requires an increase in working capital and an increase in working capital has to be financed
• even profitable companies can run out of cash because of poor management of working capital
• so how much working capital do you want?........
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CASH FLOW:
WORKING CAPITAL MANAGEMENT
FINANCING WORKING CAPITAL
Stock holding period* Debtor days
Creditor days WorkingCapital
Time
Most businesses have to finance working capital.......
*In service organisations this is equivalent to ‘WIP days’
WORKING CAPITAL RATIOS
Ratio Definition Meaning
Stock holding period
Stock x 365
Cost of sales
How many days of cost of sales are represented by year end stock?
Debtor days Trade debtors x 365
Turnover
How many days of sales are represented by year end trade debtors?
Creditor days Trade creditors x 365
Cost of sales
How many days of cost of sales are represented by year end trade creditors?
24
EXERCISE:
WORKING CAPITAL RATIOS
a) Working capital ratios for Smith Ltd for 2016 and 2015 are provided below. (Trade
creditors for 2016: £49,000; for 2015: £40,500).
b) What might have caused the movement in the ratios above?
2016 2015
Stock holding period
110 x 365/390 = 103 days
90 x 365/325 = 101 days
Debtor days
70 x 365/510 = 50 days
50 x 365/420 = 43 days
Creditor days
49 x 365/390 = 46 days
40.5 x 365/325 = 45 days
Possible reasons for movement
Stock holding period
Debtor days
Creditor days
25
EXERCISE:
WORKING CAPITAL RATIOS
c) What are the drivers of these ratios in your business? How useful are these ratios in
your business? (Calculations for your business are not required at this stage).
Drivers in your business Is the ratio useful for
your business?
Stock holding period
Debtor days
Creditor days
26
CASH FLOW FORECASTS
CASH FLOW STATEMENT V CASH
FLOW FORECASTCash flow statement:
• analysis of actual cash flow for a period:
• operating cash flows
• investing cash flows
• financing cash flows
• produced within financial accounts (unless company is exempt)
Cash flow forecasts:
• analysis of future cash inflows and outflows (usually monthly) to identify future surpluses or deficits
• produced for management accounts or for a business plan
CASH FORECAST: ILLUSTRATION
Jan Feb March April
Cash receipts (1) 20 60 40 50
Cash payments (2) (30) (20) (200) (30)
Monthly cash flow (3 = 1 - 2) (10) 40 (160) 20
Opening balance (4) 100 90 130 (30)
Closing balance (5 = 3 + 4) 90 130 (30) (10)
27
CASH FLOW FORECASTS
CASH FORECASTS: KEY ISSUES
• Identify key assumptions (e.g. sales, production, stock holding, debtor and creditor days)
• Consider your cost structure (variable, fixed costs etc)
• Do include ‘capital expenditure’ (e.g. new plant and equipment)
• Do include ‘financing’ cash flows (e.g. new loans, loan repayments, dividends)
• Don’t include non-cash items (e.g. depreciation)
28
EXERCISE:
CASH VERSUS PROFIT
Part A Profit Statement
On 1st April 2018, a manufacturing business will start trading. The business has the following manufacturing costs per unit:
In addition, excluding depreciation, the company will incur selling, general and administrative (‘S, G & A’) overheads of £4,000 per month. In addition, on 1st April 2018 the company will invest £120,000 in machinery and equipment which is expected to have a 5-year economic life, with a zero residual value. The depreciation on this machinery and equipment will be treated as an operating expense and not added to the cost of production.
The company has a selling price of £30 per unit.
The company expects to make and sell the following during the first 6 months of trading:
£
Materials 10
Labour 8
Manufacturing overheads 2
Total unit cost 20
Production quantity Sales quantity
April 1000 500
May 1000 600
June 1000 700
July 1000 800
August 1000 900
September 1000 1000
29
EXERCISE:
CASH VERSUS PROFIT
a) Using the table below, calculate the amount of profit which is expected to be generated by the business during the first 6 months of trading.
April
£000
May
£000
June
£000
July
£000
August
£000
Sept
£000
Total
£000
Sales Revenue
Cost of Sales
Gross Profit
S, G & A
Depreciation
Total expenses
Profit
30
EXERCISE:
CASH VERSUS PROFIT
Part B Cash Flow Forecast
Using the information on page 31 and the table below, calculate the amount of cash generated by the business for the first 6 months of trading.
April
£000
May
£000
June
£000
July
£000
August
£000
Sept
£000
Total
£000
Cash Receipts:
Owners’ investment
From customers
Total receipts
Cash Payments:
Materials
Labour
Manufacturing overheads
S, G and A
Capital expenditure
Total payments
Surplus/deficit
Opening balance
Closing balance
31
EXERCISE:
CASH VERSUS PROFIT
a) You are provided with the following further information relating to the cash flows for this business:
1. On 1st April 2018 the business will have a £50,000 balance on its bank account being the original amount invested by the owners of the business before it will start trading. The owners plan to invest a further £50,000 in the business during June 2018.
2. Materials, salaries and manufacturing overheads will be paid in the month in which they are incurred. The company will maintain no surplus stock of raw materials.
3. ‘S, G and A’ overheads are to be paid on one month’s credit terms.
4. Customers will be given 2 months’ credit.
5. The machinery and equipment will be paid for in April 2018.
b) What actions would you recommend this business should take to improve its cash flow performance? (Identify 3 - 5).
1.
2.
3.
4.
5.
32
NOTES
33
APPENDICIES
Appendix
Financial Performance Ratios Solution 1
Financial Status Ratios Solution 2
Cash v Profit Part A Profit Statement Solution 3
Cash v Profit Part B Cash Flow Forecast Solution 4
34
APPENDIX 1
Financial Performance Ratios Solution
a) Calculate profitability and efficiency ratios for Smith Ltd for 2016 and 2015.
2016 2015
Return on capital employed %
54/(40+400) = 12.3%
50/(320+30) = 14.3%
Return on sales %
54/520 = 10.6%
50/420 = 11.9%
Gross margin %
120/510 = 23.5%
95/420 = 22.6%
Turnover on capital employed
510/(40+400) = £1.16
420/(30+320) = £1.20
35
APPENDIX 2
Financial Status Ratios Solution
a) Calculate liquidity and stability ratios for Smith Ltd for 2016.
2016 2015
Current ratio
180/70 = 2.6
150/50 = 3.0
Acid test
(180-110)/70 = 1.0
(150-90)/50 = 1.2
Gearing %
(40+10)/(40+10+400) = 11.1%
30/(30+320) = 8.6%
Interest cover
54/4 = 13.5 times
50/2 = 25.0 times
36
APPENDIX 3
Cash Versus Profit
Part A Profit Statement Solution
Workings:
1. Sales revenue = sales quantity x sales price
2. Cost of sales = sales quantity x unit cost
3. Depreciation = £120,000 / 5 years = £24,000 per annum = £2,000 per month
April
£000
May
£000
June
£000
July
£000
August
£000
September
£000
Total
£000
Sales Revenue 15 18 21 24 27 30 135
Cost of Sales (10) (12) (14) (16) (18) (20) (90)
Gross Profit 5 6 7 8 9 10 45
S, G & A (4) (4) (4) (4) (4) (4) (24)
Depreciation (2) (2) (2) (2) (2) (2) (12)
Total expenses
(6) (6) (6) (6) (6) (6) (36)
Profit (1) - 1 2 3 4 9
37
APPENDIX 4
Cash Versus Profit
Part B Cash Flow Forecast Solution
What improvements would you recommend to improve the cash performance of this
business?
1. negotiate better credit terms with suppliers (so we pay them later)
2. negotiate better credit terms with customers (so they pay soon)
3. improve management of stock of finished production (so less cash tied up in stock)
4. spread capital expenditure (e.g. by leasing equipment)
5. obtain more finance (e.g. from owners or via bank loan)
April
£000
May
£000
June
£000
July
£000
August
£000
September
£000
Total
£000
Cash Receipts:
Owners’ investment
50 50
From customers 15 18 21 24 78
Total receipts - - 65 18 21 24 128
Cash Payments:
Materials (10) (10) (10) (10) (10) (10) (60)
Labour (8) (8) (8) (8) (8) (8) (48)
Manufacturing overheads
(2) (2) (2) (2) (2) (2) (12)
S, G and A (4) (4) (4) (4) (4) (20)
Capital expenditure
(120) (120)
Total payments (140) (24) (24) (24) (24) (24) (260)
Surplus/deficit (140) (24) 41 (6) (3) - (132)
Opening balance
50 (90) (114) (73) (79) (82) 50
Closing balance (90) (114) (73) (79) (82) (82) (82)
38
NOTES
39
Matt Davies
Aston University
Matt is a Senior Teaching Fellow at Aston Business School
where he teaches accounting and finance modules on Aston’s
MBA, MSc and Executive Development programmes.
Since qualifying as a Chartered Accountant with PwC, Matt has
acquired more than 20 years of experience developing and
delivering financial training and education to students and
business managers.
In recent years he has focused on finance training and development for entrepreneurs.
Between 2011 and 2015 he was Deputy Director and Finance faculty-lead for the
Midlands-run Goldman Sachs 10,000 Small Businesses Programme, and continues to act
as Finance lead for the current UK-wide programme. Through this and similar
programmes, Matt has provided finance training and support for more than 500
entrepreneurs in the past 6 years.
Matt is currently leading an Erasmus+ project (funded by the European Commission) to
develop a digital ‘serious game’ aimed at developing the financial literacy of future
entrepreneurs (www.fefeproject.eu).
m.l.davies@aston.ac.uk
PROFILE
SCHEDULE
@AstonGrowth
#APFSBG
DATE EVENT VENUE
Mon 6th Nov 2017 Sustainable Business Birmingham Rep Theatre,
Broad St, Birmingham
B1 2EP
Thu 23rd Nov 2017
13:00-19:00
Leadership Techno Centre, Coventry
University Technology Park,
Puma Way, Coventry
CV1 2TT
Thu 30th Nov 2017
13:00-19:00
Marketing Strategies
Park Inn by Radisson Telford
Forgegate Telford Centre
TF3 4NA
Thu 7th Dec 2017 Cash flow Aston Business School
Birmingham
B4 7ET
Tue 9th Jan 2018
13:00-19:00
Culture and People Clayton Hotel (Previously
known as Hotel La Tour)
Albert Street, B’ham
B2 5EP
Mon 22nd Jan 2018 Pitching for Finance Growth TBC
Wed 24th Jan 2018
13:00-19:00
Operations and Processes Clayton Hotel B’ham
Albert Street
B2 5EP
Tue 6th Feb 2018
13:00-19:00
Options for External Finance Clayton Hotel B’ham
Albert Street
B2 5EP
Tue 27th Feb 2018
11:00-19:00
Presenting your Growth Strategy Clayton Hotel B’ham
Albert Street
B2 5EP
* To allow flexibility all additional workshops (highlighted in blue) will be run twice on the day
in question generally from 13:00-16:00 and 16:30-19:30. Please inform Faye Oliver of your
preferred time for planning purposes: f.oliver2@aston.ac.uk