A V Accounting Blog

Advantages Of Factoring

2011-10-05T01:46:00.000-07:00

Factoring is selling your sales invoices to a factoring company who will then allow you to draw down funds from them against the money which is owed to your business. Factoring companies provide finance, debt collection and ledger management services.
Advantages
- factoring can be a cost effective way to outsource your sales ledger function.
- factoring companies can provide useful information about existing and potential customers.
- cash flow forecasting and financial planning in general are helped by the fact that cash flows into the business are easier to predict.
- some factoring agreements offer bad debt protection (if this is important to you check the detail)you will have to pay extra for the bad debt protection.

Changes To National Minimum Wage Rates

2011-10-03T00:23:00.000-07:00

New national minimum wage rates apply from October 1st
- The main rate for workers aged 21 and over will increase to £6.08.
- The 18-20 rate will increase to £4.98.
- The 16-17 rate for workers above school leaving age but under 18 will increase to £3.68.
- The apprentice rate, for apprentices under 19 or 19 or over and in the first year of their apprenticeship will increase to £2.60.

2011-07-25T07:08:00.000-07:00

Anyone in business will tell you the importance of cash, don't assume just because your business is profitable you don't need to monitor your cash position, any expanding business can easily fall into the trap of "overtrading" (this is when a business has increased cash outflows for materials and wages but has insufficient cash to cover the outlay until the customer pays for the goods). You must devote sufficient time to know what your forecast cash position is, if your cash position is extremely tight then you may need to give it even more attention, by forecasting your expected cash position it may highlight areas of concern, this could enable you to start corrective action to avoid the situation, should you require additional funds then it is better to approach the bank manager now about a potential problem three months away rather than waiting till it has happened, if you flag it up early the bank manager will be more impressed with your management skills than simply not being aware of the problem. Cash forecasts should be done to support annual budgets, the impact of additional premises, staff, machinery needed to deliver any increased activity should be seen on the cash balance and any shortfall needs to be addressed.
Whilst the annual cash flow forecast is a very useful tool, it only provides opening and closing balances each month and a lot can happen in those four week periods. To provide the required "visibility" I usually do the first two months in week periods so that it gives more detail and provides a first class tool to manage cash movements, as each week passes I roll the eight week window one week further into the year, you still keep sight of the annual position but it gives you added focus on the next eight weeks which is particularly important if cash is tight.

Six Ways to Improve Your Cashflow

2011-04-15T05:15:00.000-07:00

I know that I keep on about the importance of cash but you need to collect outstanding debts as quickly as possible so that you have sufficient funds in your business to pay wages, creditors etc. Consider the following points ard see if they could help you collect outstanding amounts that little bit quicker.

Do credit checks on prospective customers and if you are not happy with the results of the credit check consider asking them for cash upfront.

Send sales invoices out as quickly as possible, the sooner your customer receives them the sooner they can begin processing them and possibly speeding up payment.

Make sure everything on the invoice is correct, do not give customers the opportunity to delay processing the invoice whilst they wait for a credit note or a new invoice!!

Make sure your invoice states clearly, the terms of payment and when payment is due.

If a customer makes regular payments consider getting them to pay by direct debit.

Have a documented credit control system so that you or your credit controller knows exactly what to do and when to do it.

By getting your customers to pay on time it makes it easier to forecast the movement of cash in and out of the business, your cash flow forecast will be more meaningful and you will be able to plan with a little more certainty.

How Well Is My Investment Performing ?

2010-10-18T03:14:00.000-07:00

One of the most important measurements of business performance is the Return on Capital Employed (ROCE),it calculates the net profit as a percentage of the total capital employed in the business. The result allows you to see how the money invested in the business is performing and you are able to compare the return alongside other investments that you could have made such as simply putting your money in a bank account. For example if the ROCE of a business was 3.5% and you could obtain a (risk free?) return of 4% by putting it in a bank account you may start to question your reasons for putting your money in the business.
Whilst net profit is a fairly well defined value the definition of capital employed does tend to vary, but we will use the following definition in our calculations

capital employed = fixed assets + current assets - current & long term
liabilities
Example
A business has a net profit of £20,000 and capital employed of £300,000
therefore the ROCE is 6.67%, this figure can now be compared to the previous years performance to see whether the figure has improved or got worse and the reasons for any movement need to be understood. The result can also be used to compare alongside other businesses in the same industry / sector and as previously outlined the investor needs to compare the 6.67% against other investment opportunites available.
From a management point of view they will put plans and strategies in place to improve the ROCE by getting more out of the resources which are available to them.

Get Your Finger On The Pulse Of Your Business

2010-09-12T04:49:00.000-07:00

Part of the monthly management accounts will be a balance sheet, whilst the profit and loss account is a measure of trading activity over a period of time (usually a month for management accounts)the balance sheet is a snap shot of the business at one point in time (the last day of the period). Whilst the balance sheet on it's own provides important information about the business if the report also includes the budgeted balance sheet figures and the previous months figures this provides additional information as you can compare your actual balances to your budget and look to understand the causes of any meaningful variances. By also having last months figures you can look for movements in the balances and seek explanations for any concerning movements. Some of the movements may be quite easily explained as timing differences, for example if the creditors balance is much higher than normal as at June 30th a large payment run of creditors paid on July 1st would quickly explain the movement and the balance would be back to an expected level, however not all movements can be explained so easily and a greater degree of investigation may be required.

Here are a few examples of items needing to be investigated:-
Fixed asset values increase - what has been purchased?, has the correct proceedure for asset purchase been followed?, was the purchase agreed in the budget?
Stock - increases in the amount of stock held can quickly soak up cash, so any increase in stock levels needs to be monitored closely. Compare the stock level to budget and look at the stock balance over the last few months to see if there is a rising trend.
Debtors - increases in debtors could suggest customers are taking longer to pay, check the budgeted figure and the investigate the reason for the increase.
Creditors - increases in creditors could mean you are not paying suppliers on time leading to the posibility of production being held up because of supply shortages and possible loss of reputation.
Bank - increases in bank overdrafts need to be investigated, ideally you should have sufficient control over your day to day cash situation so that you are fully aware of your cash position before you see the month end balance sheet.

Previously in the blog we have looked at some balance sheet ratios which give important information about asset usage and the liquidity of the business, these ratios should also be compared to budget and the previous months position.

How Good Is Your Business At Collecting It's Debts??

2010-08-27T08:47:00.000-07:00

In any business cash is extremely important, so you will need to know how effective your business is in collecting it's debts. The debtors turnover ratio will give you the average number of days credit taken by customers and this can be compared to previous periods to see if performance has improved or worsened.

Example
For the year to 31/12/08 a business has a turnover of £1,300,000 and it's debtors at that date were £125,000.
For the year to 31/12/09 the business has a turnover of £1,500,000 and it's debtors at that date were £190,000.

125,000
1,300,000 x 365 = 35.10 days for 2008

190,000
1,500,000 x 365 = 46.23 days for 2009

So from the example you will see that the business has become less effective in collecting it's debts, it is taking an extra 11 days to collect money from it's customers. Assuming the credit period allowed is 30 days then something needs to be done to correct the situation and bring it back into line, if the situation is allowed to deteriorate it could cause cash flow issues.

Are You Using Your Kit Efficiently?

2010-08-16T00:18:00.000-07:00

Most businesses have to invest in fixed assets in order to produce goods/services, to determine how efficient the business is in using those fixed assets you can use the following calculation.

sales revenue / nbv of fixed assets = fixed asset turnover ratio

sales revenue (turnover)
nbv fixed assets net book value is cost of fixed assets less accumulated depreciation
the nbv value used is the average of the value at the start and end of the year

Example

Year 1
sales revenue £100,000
nbv fixed assets £12,000
fixed asset turnover ratio 8.33

Year 2
sales revenue £120,000
nbv fixed assets £16,000
fixed assets turnover ratio 7.50

In the example turnover has increased by £20,000 but an extra £4,000 of fixed assets has been required to produce it (fixed asset turnover ratio of 5.00), further investigation would be required to understand why the ratio has fallen from 8.33 to 7.50.
As well as comparing results year on year it would also be useful to benchmark against other comparable businesses to see how the ratio compares.

What's My Break Even Point And How Do I Calculate It?

2010-08-03T03:07:00.000-07:00

Talk to business owners and one of the key pieces of information they require is to know the break even point of their business, that is the volume of sales it needs to achieve to cover costs. By having this information managers/owners will get some idea of the performance of the business in that period plus they will have the comfort of knowing at what point all the periods costs have been covered.

How do you calculate it?
The key to determining the break even point of a business is to understand the behaviour of costs, it needs to establish what it's variable costs are (those costs which move in line with operational activity eg. material costs, direct wages etc..)and what it's fixed costs are (those that remain static irrespective of changes in activity eg. rent, rates, salaries etc..). Think of your telephone bill, the line rental charge remains static each month irrespective of how much you use the telephone (fixed cost) the calls charge varies depending on how much you have used the telephone (variable cost).
Once you have determined what your variable costs are you subtract the variable cost per unit from the selling price per unit and that gives you the contribution per unit. The next step is to divide the total fixed cost for the period by the contribution per unit, this will give you the break even point

Example

Sell price per unit (£20)- Var.cost per unit (£12)= Contribution (£8)

Total fixed costs for period £12,000

£12,000/£8 = 1,500

By producing 1,500 units @ £8 it will cover the fixed costs of £12,000 and the business will be in a break even position.

Keeping A Close Eye On Stock Levels !!

2010-07-27T03:10:00.000-07:00

Cash management is a vital part of every business, in the current economic climate it has grown even more in significance and stock is an area which needs to be closely monitored as it can soak up a large part of the businesses working capital. The management of stock appears to tread a fine line between having the right stock/quantity available to meet production requirements and minimising the stock held, the cost of holding too much stock against the cost of production downtime through not having stock available.

Businesses can measure aspects of their stock management by using two ratios, one will show how many times the business has sold the value of it's stock during the year,the higher the figure the better as this means that money is tied up for less time.

cost of goods sold = stock turnover ratio
av. stock during period

The second ratio gives the average number of days that money is tied up in stock, the lower the number of days the better for the business.

av. stock during period = stock turnover ratio (days)
cost of goods sold / 365

By calculating these ratios they can be used to measure movement over periods (is the ratio getting better or worse) it can also be used to benchmark against other businesses in the same industry.

Possible causes of low stock turnover :-
- too much stock being carried
- low volume of business
- poor inventory management
- holding obsolete stock

What's your Cash Conversion Period and what can you do to improve it?

2010-07-15T01:31:00.000-07:00

The Cash Conversion Period is the time taken to convert your product/service into cash inflows.

Let's look at an example
You purchase a part which is held in stock for 20 days until it is moved into production, worked on for 3 days and then despatched to the customer. Your payment terms are 60 days from date of your invoice and your supplier's payment terms are 30 days from date of invoice.
The time taken from receiving the part to the cash coming in is 83 days (20 days in stock + 3 days in production + 60 days credit given to the customer), however your supplier is giving you 30 days credit, so this must be deducted leaving you with 53 days. That means there are 53 days between you paying the supplier and getting the money from your customer, imagine this situation for every part you purchase !!

What can be done to improve the situation?
Well let's make two changes and see the impact, first of all the purchasing team make sure that they don't get the part from the supplier until much nearer the time it is needed in production, let's say the period held in stock is now only 3 days, secondly the customer's period of credit is reduced to 30 days from 60, how will this change the credit conversion period?
The time taken from receiving the part to the cash coming in is 36 days (3 days in stock + 3 days in production + 30 days credit to customer) less the 30 days credit from your supplier leaves 6 days, which is a great improvement.

I appreciate that it is easy to make dramatic changes in examples such as above and commercial reality may dictate what can and what cannot be done and much wider business implications need to be considered, but the important point is that people understand how changes in the the credit conversion period can impact on the working capital requirements of a business.

What is Gross Profit Margin and what can it tell you?

2010-07-11T06:44:00.000-07:00

Gross profit is income less cost of sales, the gross profit margin is simply the gross profit expressed as a percentage of sales.

Gross profit x 100 = Gross profit margin
Sales

Once you have established the gross profit margin what does it tell you? Well it allows you to benchmark your business against similar businesses to see how your gross profit margin compares. If their gross profit margins are higher than yours you need to understand the reasons for that and if possible take the appropriate actions (you need to ensure that you are comparing like for like, for example you may be including costs in your cost of sales which others are including elsewhere in their accounts).
The gross profit margin needs to be monitored each month and any variations understood, some changes can be explained quite simply as variations due to the mix of products in the month (the gross profit margin may well vary from product to product and an increase in the amount of low margin products sold in the month may well impact on the margin).
However any unexplained variances or trends need to be investigated as they could be due to:-
- increase in material costs
- increase in labour costs
- decrease in sales prices
- efficiency problems
- material wastage

Looking at the gross profit margin each month and understanding changes can help identify problems at an early stage and by benchmarking against competitors it can provide important information which could be used in your overall business strategy.

Plan for your business success

2010-07-09T00:59:00.000-07:00

All businesses need to invest time in preparing a plan (budget) to determine where they want to be at the end of a given period (usually one year), but just as important they need to decide how they are going to get there.
Having a plan provides direction to the business and helps people focus on the real issues which will lead to the success of the business, it can concentrate minds on what needs to be done to deliver the budget, for example if the business is planning to increase turnover by 25% that looks fine on paper but where are those extra sales coming from, new products, new customers, have you the sales force to make it happen? In addition you need to think about issues such as extra staff, new plant, additional finance, all these things need to be considered so the input and involvement of all functions within the business is vital.
The budget can also act as a great motivational tool, a stretching but achievable budget can get everyone putting in that little bit extra to ensure targets are attained, but to get to that point the budget must be communicated to everyone so that they are aware of what the business is trying to achieve and by doing this it will ensure everyone is working towards the businesses objectives.
By breaking down the annual budget into calendar months it offers businesses the opportunity to measure actual performance against budget and it means that corrective action can be taken promptly when performance falls below budget.
Budgets should not be set in stone and should reflect changes that events both internal and external may impose on the business, not to do this could render the budget irrelevant and control could be lost. However the decision to change the budget should not be taken lightly, it should not change it just because it fails to achieve the target in the first two months of the budget, otherwise the whole budgeting process loses credibility.
A good budget takes time to prepare, many people are involved (people need to be involved as they feel part of the process rather than having the budget imposed on them) but the benefits are many and having a stretching well thought out plan in place will be a great tool to help run your business.

What benefits can we bring to you and your business

2010-07-08T07:30:00.000-07:00

Create more time for the business owner
Free the business owner from the day to day responsibility of the finance function, allowing them to focus on business issues, or allow them to reduce the time spent at work and use the time for social activities.

Planning
Work with owners/managers to create business plans to map out where the business is going, this will provide some direction to the business and will help communicate plans to key members of staff. Planning will also concentrate minds on the resources needed to achieve success, plant, labour and finance are amongst items which need to be considered. The business plan can also be used as a motivational tool, a challenging but fair budget can be used to improve operational performance, by measuring monthly performance against budget you can determine whether you are on course to achieve your annual target and if you are behind then it gives you the opportunity to take prompt action to remedy the situation.

Monthly financial reporting
Provide an interpretation of what the management accounts are telling you, for example why is profitability falling? what is causing the fall in liquidity? Are there any aspects of the accounts which require further examination in order to understand what has happened, are any trends developing eg. is this months reduction in gross margin a "one off" or an ongoing problem.

Non financial reporting
The monthly reports can be expanded to provide information of a non financial nature which will give the business owner a more rounded and balanced view of organisational performance. Reports could include items relating to customers, suppliers, operational activity, innovation etc.. which could be in the form of a dashboard which provides the business owner with a brief overview of all the important elements of the business.

Outsourcing
Outsourcing the finance function could provide a cost effective solution, all the processing could be done off site by experienced, qualified staff with the business paying only an agreed monthly fee.

5 Tips on Credit Control / Cash Flow

2010-04-15T05:21:00.000-07:00

Hi

Let's start by looking at a vital area of every business ....cash, below are some ideas on ways to tighten up cash collection and what to look at to determine your current and future cash position.

1) Ensure credit checks are carried out on all new customers and that the results of those checks are acted upon, it is not good enough just to do the check and then not act on the outcome. In addition you might want to keep an eye on existing customers for adverse movements in their credit ratings, credit reporting companies will track specified businesses and update you on movements in credit ratings (there is a cost for this service, but that needs to be considered alongside the cost of a bad debt).
2)Have a robust but fair debt collection policy, this should ensure that customers know exactly when to pay and your credit control team know exactly what to do and when. Ensure debtor lists are reviewed regularly by an appropriate member of staff.
3)Look for warning signs in the management accounts that the cash position is deteriorating, the current ratio and acid test ratio should be monitored and adverse trends should be investigated.

Current ratio = Current assets / Current Liabilities

Acid test ratio = Current assets - Stock / Current Liabilities

4)Regularly monitor your cash flow forecast, it could provide advance warning of a problem, giving you opportunity to take corrective action to stop or reduce the effects of the problem. To have any meaning the cash flow forecast needs to be regularly updated to take in to account changes in the cash flows in and out of the business.
5)Do not assume that just because the business is doing well there is no need to bother with cash forecasts, many businesses have cash problems at periods of growth and these periods need as much attention and planning as do quieter trading periods .

Welcome

2010-04-15T04:47:00.000-07:00

Hi

Welcome to my first post, I would like to begin by explaining what the blog will offer in terms of content, I want it to become a place where small and medium sized businesses (SME's) can read about topical issues, product reviews, articles offering information and advice. I would welcome comments on the articles posted together with ideas on topics you would like to see covered (remember we want to provide a service to you).

From time to time I write articles on various topics and these are published on Ezine, please click on the link on the side panel if you wish to look at any of the articles.