Understanding financial statements - a business tool
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The document outlines essential financial practices for businesses, including how to determine financial performance and position, prepare for annual audits, and manage documentation for reconciliation and reporting. It emphasizes the importance of monthly reconciliations, the preparation of various financial statements, and the principles of accounting such as matching expenses to income. Additionally, it discusses liquidity and profitability ratios, depreciation methods, and the significance of year-end financial analysis in aiding management and financial decisions.
Understanding financial statements - a business tool
- 2. Determine financial performance › Gross profit › Net profit Determine financial position Close off financial year Check monthly bookkeeping cycle Ensure accuracy of transactions (reconciliations) www.womeninbusiness.org.za
- 3. Trading account Profit and Loss account Combined into a statement known as Income Statement › reflects financial performance Statement of Financial Position Better known as Balance Sheet › Reflections financial position www.womeninbusiness.org.za
- 4. By sufficiently preparing for your annual audit will not only reduce your audit fees but will also free up your finance/accounting personnel whilst your audit is in progress. The following is some examples of information that can be prepared in advance. www.womeninbusiness.org.za
- 5. Invoices for additions & disposals of all fixed assets Statements for investments reflecting their balance at year end. A reconciliation of movement on investment accounts A copy of the inventory at year end, reflecting any necessary notes& explanations thereto www.womeninbusiness.org.za
- 6. A copy of the debtor’s age analysis at year end as well as a summary of what sundry debtors consist of. Statements for bank accounts & Cash on Hand reflecting their balance at year end. A summary of change in Capital or Members interest. A copy of the creditors age analysis of year end as well as a summary of what sundry creditors consist of www.womeninbusiness.org.za
- 7. Amortisation (depreciation) schedules for all instalment agreements and a summary of movements on all the loans Copies of receipts for any taxes paid A separate file can be done with all creditors reconciliations at year end. www.womeninbusiness.org.za
- 8. All bank statements filed with bank reconciliations UIF and PAYE submissions Cash slips filed with cash reconciliations Archive and catalogue documents Digital backups filed Asset register Statutory returns www.womeninbusiness.org.za
- 9. Sort all documents into categories File in date order Capture on a spread sheet or piece of paper. Bank and cash reconciliations Debtors’ invoices Debtors’ Statements Creditors’ invoices Creditors’ Statements Inventory list at cost price Asset register www.womeninbusiness.org.za
- 10. Backup – at least two; stored in different places. Print out all relevant financial statements Check through all general ledger accounts for errors Check through all debtors’ accounts Check through all creditors’ accounts Run data integrity Run year end Back up – if you make use of passwords ensure they are recorded somewhere you can find them when needed www.womeninbusiness.org.za
- 11. Trial Balance Income Statement Balance Sheet Cash Flows General Ledger Debtor’s Ledger Creditors’ Ledger Age Analysis for Debtors’ & Creditors’ Budget Inventory Stock Take Ensure end of financial year Bank & Cash Reconciliations printed. PAYE reconciliations UIF reconciliation www.womeninbusiness.org.za
- 12. Physical Stock Take Compare to records Make adjustments with full account of any discrepancies and why. Carrying too much/little stock. Obsolete stock Damaged stock Selling of obsolete/damaged stock Write off’s Trading inventory deficit’s/excess www.womeninbusiness.org.za
- 13. Accruals › Expenses and incomes relevant to the financial year / period Matching principle › Match expenses to income within the financial period in which the profit or loss was incurred Principle of Prudence › Where the real value of an asset or income is doubtful one should rather be conservative and UNDERESTIMATE the true value › and › Expenses or Liabilities should be overestimated when in doubt. www.womeninbusiness.org.za
- 14. Should be done at least monthly › Bank reconciliation › Debtors reconciliation › Creditors reconciliation › VAT (bi-monthly) › PAYE (bi-annually) www.womeninbusiness.org.za
- 15. Profitability ratios › Gross profit percentage (Gross Profit ÷ Total Sales) x 100% The GP % indicates how much gross profit is earned for every R1 of sales. › Net Profit percentage (Net Profit ÷ Total Sales) x 100% The NP & indicates how much net profit is earned for every R1 of sales. www.womeninbusiness.org.za
- 16. › Return on average Owner’s Equity (Net Profit ÷ Average Owner’s Equity) x 100% Average Owner’s Equity (opening balance + closing balance ÷ 2) Is it worth the owner’s investment. www.womeninbusiness.org.za
- 17. Liquidity ratios › Current Ratio Current Assets : Current Liabilities Indicates how liquid the business is i.e. if the business is able to cover its short-term liabilities. › Acid Test Ratio (Quick Ratio) (Current Assets – Inventory) : Current Liabilities Indicates liquidity without having to sell stock www.womeninbusiness.org.za
- 18. Liquidity ratios continued › Average Debtors Collection Period (Average Trade Debtors ÷ Credit Sales) x 365 days › Average Creditors Settlement Period: (Average Trade Creditors ÷ Credit Purchases) x 365 days › Average Inventory Turnover Cost of Sales ÷ Average Inventory www.womeninbusiness.org.za
- 19. Degree of Solvency › Total Assets : Total Liabilities Indication that business is not bankrupt. Leverage › Debt/Equity ratio Long-Term debt : Total Equity Ratio between borrowed capital and own capital. Used to establish credit worthiness of a business www.womeninbusiness.org.za
- 20. Depreciation › Adjustment at the end of the financial year (or on sale of asset) where the value of the non-current asset is adjusted to a realistic value relative to the life span of the non-current asset. (net realisable value – realistic trade value) › The original cost of the asset is adjusted with the calculated depreciation = carrying value / book value › Depreciation is the expense Two methods of depreciation › Straight line method › Diminished balance method www.womeninbusiness.org.za
- 21. Shows all important details regarding a particular non-current asset Supporting documentation to the general ledger Information kept from date of purchase till date of sale Pre-requisite of SARS www.womeninbusiness.org.za
- 22. Care must be taken when disposing of assets to be realistic in regards to final calculation of depreciation Net realisable value vs market value Profit or Loss on Sales of the non-current asset www.womeninbusiness.org.za
- 23. Why is financial year end so important? What can be learned from financial year end Cash Controls? Management decisions Financial decisions Stock controls Debtor control Creditor control Ensure your costing's are correct Successful, vibrant, encouraging entrepreneur. Analysis & interpretation www.womeninbusiness.org.za