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Management accounting
1. Increase Your Profits With
Management Accounting
Dennis L. Thompson, CPA, CFE
206-390-9432
www.dlthompsoncpa.com
2. What is Financial Accounting
• Production of Financial Statements
– Income Statement
– Balance Sheet
• Bookkeeping
• Used for Tax Returns
• Designed for External Audience
– Bankers
– Tax Collectors
– Creditors and Investors
• Backword Looking
3. What Is Management Accounting
• Analysis of Costs - Breakeven
• Projection of Cash Flows
• Budgets
• Ratio Analysis
• Designed for Internal Audience
• Forward Looking
• The Information comes from your
Accounting System and Reports
4. How Can Management
Accounting Increase Profits?
• What Products/Services Most Profitable?
• Who are Best Customers?
• Are You Generating Cash on Operations?
• Are You Having Cash Flow Problems?
• Are Your Margins Shrinking?
5. Financial Statements-Compass
For Your Business
•Ultimate Goal of Accounting System
•Best Friend or Worst Enemy
•Tells You Where Your Company
– Has Been
– Where It Is Now
– Where It Is Going
6. Financial Statements-Compass
For Your Business
• Think of Your Business as a Small Plane
• Think of Your Accounting System as an
Instrument Panel
• Two Potential Problems
– Your Accounting Info is Wrong
– You Don’t Use Your Accounting Info
7. Categories of Financial
Statements
• Income Statement
– Where You Have Been
• Balance Sheet
– Where You Are Now
• Cash Flow Projection & Budgets
– Where You Are Going
8. Profit & Loss
• Measures Business Activity Over a Period
of Time
• Income & Expense Accounts Are
Temporary & Closed to Retained Earnings
• Expenses Can Be Classified As Variable or
Fixed
• Most Useful If Compared to Different
Periods
9. Profit & Loss – One Year
Variable Expenses
Gross Margin
10. Analysis of Costs - Breakeven
• Sales Price Per Unit or Service
– How much Gross Income per product or
service.
• Variable Cost Per Unit or Service
– What are the Directs Costs associated
with the product or service
• Fixed Costs (Overhead)
– Costs that need to be paid whether you
make a Sale or not, e.g. Rent, Insurance
11. Breakeven - Example
• Sales Price Per Unit $10
• Variable Cost Per Unit 7
• Contribution Margin Per Unit $3
• Fixed Costs $15,000
• Contribution Margin Ratio
– $3/$10 = 30%
• Sales to Breakeven = Fixed Cost/CM Ratio
• $15,000/30% = $50,000
• $50,000 - $35,000-$15,000 = $0
27. Budgets
• Why Budget?
– Forces you to think strategically about
your business and goals
– Can help you anticipate problems
– Can help detect Fraud
– Sets Expectations for Employees
28.
29. What is Ratio Analysis
• Comparing different line items of the
Balance Sheet and Income Statement to
each other.
• For example, Current Ratio = Current
Assets/Current Liablilities
30. Ratio Analysis – Why Care
• Banks use Ratio Analysis in deciding to
extend Credit
• Ratio Analysis can serve as an Early
Warning System for your company
• It is useful to compare your Ratios to
Industry Standards
31. Ratio Analysis - Categories
• Profitability – e.g. Return on Equity
• Activity – e.g. A/R Turnover
• Leverage – e.g. Debt to Equity
• Liquidity – e.g. Current Ratio
32.
33. Nine Ratios that Measure Effect Current Assets/Current Liabilities
Current Liabilities/Net Worth
Total Liabilities/Net Worth
Inventory/Working Capital
Accounts Receivable/Working Capital
Long Term Liabilities/Working Capital
Net Profit/Net Worth
Net Sales/Fixed Assets
Net Sales/Working Capital
Six Causal Ratios Fixed Assets/Net Worth
Days Sales in Accounts Receivable
Accounts Receivable/(Credit Sales/360)
Net Sales/Inventory
Net Sales/Net Worth
Net Profit/Net Sales
Misc Assets/Net Worth
The Meaningful Interpretation of Financial Statements – Donald E. Miller
34. Fixed Assets/Net Worth
• Measures extent that Net Worth consists of
long term, non current assets.
• Can have negative impact on Working
Capital and Current Ratio.
• Might be increasing Fixed Costs through
borrowing.
• Might be distorted by low Net Worth
35. Accounts Receivable/(Credit
Sales/360)- Collection Period
• Measures efficiency of Company receivable
collections.
• Early warning system for delinquent
accounts.
• Important to measure against Industry
competitors.
• Need to subtract cash sales to arrive at net
Credit Sales.
• Low number can be indicative of restrictive
Credit Policy, thus reducing profit.
36. Net Sales/Inventory=Number of
Times
• Measures how quickly Inventory is turning
over.
• Low turnover indicates potential writeoffs.
• Also could indicate potential shrinkage.
• Could adversely impact Cash Flow.
• However, with Inventory management,
need to seek a balance of too much and
not enough.
37. Net Sales/Net Worth
• Measures extent Company’s sales are
supported by invested capital.
• High ratio can mean that Company is
supporting sales through debt, i.e., Fixed
Costs.
• Can negatively impact Break-Even point.
• Can increase chances of Company failure
because of Fixed Costs.
• Over emphasis on sales can lead to selling
to marginal customers.
38. Net Profit/Net Sales
• Impacts all the other ratios.
• Profits add to Net Worth
• Losses increase the need for Long Term
Borrowing, which can impact Working
Capital.
• Losses threaten Company’s ability to
survive.
39. Misc Assets/Net Worth
• Examples : Loans to Employees
• Prepaid Expenses
• Usually not a significant part of Balance
Sheet.
• Don’t want to tie up much Captal in these
type of assets.
40. Current Assets/Current Liabilities
• Standard used to be 2:1
• Working Capital = Current Assets-Current
Liabilities.
• Problem with Current Assets
– Includes Inventory
– Includes Receivables
41. • Understanding Cost Structure and
Breakeven Analysis can help you manage
your business better.
• Cash Flow Projections can help you avoid
running out of cash and having to shut
down your business
• Budgeting forces you to plan and anticipate
problems
Summary
42. Summary
• Financial Ratio Analysis can serve as an
early warning system.
• Ratio Analysis assumes that Accounting
information is accurate.
• Improve your Company’s chances for
improved Profitability or even Survival by
conducting Ratio Analysis.
• Especially important to compare your
Company to Industry Standard Ratios.