Analyze financial accounting tools and techniques that convert financial accounting data

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ACC556 Week 7, Part 1
Slide 1 Introduction
Welcome to Financial Accounting for Managers.
In this lesson we will learn about Budgetary Planning.
Slide 2
Topics
The following topics will be covered in this lesson:
Budgeting Basics;
Preparing the Operating Budgets;
Preparing the Financial Budgets; and
Budgeting in Non-Manufacturing Companies.
Slide 3
Budgeting
Basics
One of the most important aspects of planning in an organization is
budgeting. A budget is a formal written plan that is used
throughout the specified time period. Budgets are used to promote
efficiency and for measuring corporate performance.
Budgeting and accounting go hand in hand as accounting records
are important tools to develop a budget.
Some of the benefits of budgeting include, planning ahead,
defining objectives, provides an early warning system, helps
coordinate activities, greater management awareness of operations,
and can motivate employees.
The essentials of effective budgeting are that it is dependent on a
sound organizational structure. Buy-in from all departments and
all levels of management are key to a successful and productive
budget process and the end product.
The length of the budget period will vary from different
organizations. One year is typical, but budgets that span three to
five years are not uncommon.
The budgeting process typically starts with the collection of data
from each department or unit of the company. Generally past
performance is used as a starting point to prepare budget goals. In
smaller companies the budget process is less formal than in much
larger companies. Typically the process is run by a budget
committee that serves as a review board where managers can
defend their budget goals and requests.
Budgeting and human behavior should also be tied together. A
budget can have an impact on human behavior. If the budget is
prepared correctly, it can incent managers to perform at higher
levels of performance. Conversely, if a budget is prepared poorly,
it can discourage manager performance and hurt the company. It’s
important to note that getting managers to participate in the
budgeting process is key to a well formulated budget.
It is important to note that budgeting and long-range planning
are different. Budgeting is typically focused on shorter term goals
while long-range planning is focused on longer term goals and
strategies to achieve those goals.
Slide 4
Preparing the
Operating
Budgets
Let’s go over an important term used in budgeting. The master
budget is a term used to describe a variety of budget documents.
All of these documents are combined into a master budget. The
master budget generally includes two classes of budgets. One is
operating budgets and the second is financial budgets. There are
subsidiary budgets supporting both operational and financial
classes of budgets.
Now let’s discuss preparing the operating budgets. Typically the
sales budget is prepared first. The sales budget is derived from
the sales forecast. The sales budget represents management’s best
estimate of sales revenue for the budgeted period. It’s important to
set the sales budget at realistic and achievable levels so as to avoid
being overly optimistic, or pessimistic, which can cause inventory
levels to be too high or too low.
Next is the production budget, which identifies the number of
units of a product that will need to be produced to meet anticipated
sales demand. Again, it’s important to make sure that the
production budget is accurate so as to avoid too much or too little
inventory.
The direct materials budget identifies the quantity and cost of
direct materials to be purchased. Once the company determines the
specific materials it will need, they can then easily calculate the
budget amount.
Much like the direct materials budget, the direct labor budget
identifies hours and cost of direct labor needed to meet production
requirements. The direct labor budget is important for a company
to make sure they have enough labor to produce their product.
The manufacturing overhead budget identifies the amount of
manufacturing overhead costs required for the budget period. The
manufacturing overhead budget breaks overheads out between
variable and fixed overhead costs.
The selling and administrative expense budget identifies selling
and administrative expenses for the budget period. Much like the
manufacturing overhead budget, these expenses are split between
fixed and variable costs.
The budgeted income statement is an important end product of
the operating budgets. The budgeted income statement identifies
the profitability of operations for the budget period.
Slide 5
Preparing the
Financial
Budgets
Financial budgets include the capital expenditure budget, the cash
budget, and the budgeted balance sheet. In this lesson we will not
be covering the capital expenditure budget.
The cash budget identifies expected cash flows. Since cash is so
critical, the cash budget is known as the most important financial
budget. The cash budget includes cash receipts, cash
disbursements, financing, and the beginning and ending cash
balances.
A budgeted balance sheet is a projection of financial position at
the end of the budget period. The budgeted balance sheet is the
product of the budgeted balance sheet for the prior year and
budgets for the current year.
Slide 6
Budgeting in
NonManufacturing
Companies
Budgets are not limited to manufacturing companies. Budgeting is
also used by merchandising companies, service companies, and
not-for-profit organizations.
Just like manufacturing operations, the sales budget for a
merchandising company is a key factor in the development of the
master budget. There are several differences between the master
budget of a merchandising company compared to a manufacturing
company. Several of these differences are that a merchandising
company uses a merchandise purchases budget rather than a
production budget. In addition, a merchandising company does
not use manufacturing budgets, such as direct materials, direct
labor, and manufacturing overhead.
In service companies like professional services firms, the key to
budgeting is coordinating professional staffing needs with
expected services to be provided. One key thing to remember is
that you want to avoid being understaffed which results in missed
opportunities, or overstaffed and carry a large labor burden.
Budgeting is important for not-for-profit organizations as well.
Slide 7
Short-Story
Scenario
The budget process is different for not-for profit organizations.
Typically, a not-for-profit organization’s budget is based on cash
flows rather than revenues and expenses. In addition, it is
important to note that the starting point in the budgeting process is
typically expenses and not cash receipts.
Now let’s take a look at a short-story scenario that will help you
understand the concepts in the lesson better.
Imagine that you are the Chief Executive Officer at a large
professional services company. The budget process is about to
start for your company and your Human Resources Vice President
wants to cut staffing by ten percent to save on labor costs. Your
Marketing Vice President is against this as they feel that business
will increase by ten percent next year. What decision would you
make and why?
Think about it for a moment. When you’re ready, click the play
button to hear an appropriate response.
Ask both to provide forecasts supporting their positions and get
feedback from other managers. You must be careful as having to
little staff could cost you missed opportunities and having too
much staff can hurt the bottom line if there is not enough business
to keep them busy.
Slide 8
Check Your
Understanding
Slide 9
Check Your
Understanding
Slide
10
Summary
We have reached the end of our lesson. Let’s take a look at what
we have covered.
We started off discussing budgeting basics. We learned that it is
important to make sure we are aware of how a budget can impact
human behavior by motivating or de-motivating managers.
Next we discussed preparing the operating budgets. We learned
that the sales budget is the first budget that is prepared and that it
must be realistic in order to avoid being overly optimistic or overly
pessimistic.
We then discussed the preparation of the financial budgets. We
learned that the cash budget includes cash receipts, cash
disbursements, financing, and the beginning and ending cash
balances.
Lastly, we discussed budgeting in non-manufacturing companies.
We learned that budgeting is also used by merchandising
companies, service companies, and not-for-profit organizations.
Chapter 9
ACC556 Week 6
Slide 1
Introduction
Welcome to Financial Accounting for Managers.
Slide 2
In this lesson we will learn about Reporting and Analyzing LongLived Assets.
The following topics will be covered in this lesson:
Slide 3
Topics
Plant Assets
Plant Assets;
Accounting for Plant Assets;
Analyzing Plant Assets;
Intangible Assets; and
Financial Statement Presentation of Long-Lived Assets.
Plant assets are physical assets that are used in the operations of a
company. Plant assets are not for sale to customers and are
typically known as property, plant, and equipment.
The cost of plant assets is recorded at historical costs based on the
historical costs principle. Costs include all expenditures required to
purchase an asset and make it ready for use. Determining which
costs that should be included in a plant asset account and which
costs to exclude is important. Should a costs not be recorded in a
plant asset account, then it should be expensed. These types of
costs are known as revenue expenditures. Likewise, costs that are
not expensed and are instead included in a plant asset account are
known as capital expenditures.
When purchasing land, the cost of land typically includes the
purchase price and closing costs. Note that land is not
depreciated, but land improvements, such as driveways and fences
are depreciated over their useful lives.
When purchasing a building, the cost of the building, closing
costs, and any building improvements and/or renovations would be
considered part of a plant asset account.
When purchasing equipment, such as office furniture, machinery,
or vehicles, the cost of the equipment includes the purchase price,
sales taxes, freight charges, and insurance during transit paid by
the purchaser. The costs also includes any required assembly,
installation and testing of the equipment.
With plant assets, the question is usually should I buy or lease the
asset? Leasing has its advantages. Some of those advantages are
reducing the risk of obsolescence, little or no up-front cash
outlays, shared tax advantages, and assets and liabilities are not
reported. Typically airlines will lease planes in order to continue
Chapter 9
updating their fleets.
There is another type of lease known as a capital lease. With a
capital lease an asset is recorded on the books of the company
leasing the asset. The asset is considered to be a capital lease
when the lessee is leasing the asset for a period of time that
approximates the assets useful life.
Slide 4
Accounting for
Plant Assets
When accounting for plant assets we start with depreciating
those assets. Depreciation is the allocation of the cost of a plant
asset over its useful life. It is important to note that depreciation is
a cost allocation method and not an asset valuation method.
Three factors impact the depreciation computation. Those three
factors are cost, useful life, and any salvage value. Salvage value
is any value left over at the end of an assets useful life.
There are numerous depreciation methods, but three that are most
common. Those three are straight line, declining balance, and
units of activity. All three of these methods are acceptable under
generally accepted accounting principles, but it’s important to
remember that once a company chooses a depreciation method for
a particular asset, they should use that method consistently.
Let’s go over these methods in a little more detail.
The straight line method of depreciation is simple. It is calculated
as the total cost to be depreciated, divided by the useful life as
expressed in years. Then every year, that amount is booked as a
depreciation expense.
The declining value method of depreciations is simply
depreciation expense calculated using a constant rate applied to a
declining book value. This method is known as an accelerated
depreciation method because it calculates a higher depreciation
amount in the early years of an asset’s life than straight line
depreciation. Note that it does not change the total amount of
depreciation over the life of the asset.
The final method is the units of activity method, which means that
the useful life of an asset is defined as the total units of production
or the use expected from the asset.
Companies should review annual depreciation expense on a
regular basis. If wear or obsolescence demonstrate that the current
annual depreciation is either not enough or too much, then
Chapter 9
depreciation expense should be revised. When there is change
required for depreciation, the change will apply to future and not
the prior period.
Expenditures made during the useful life of the asset can take
on two forms. The first is maintenance and repairs. These types
of costs are expensed. The second are costs that extend the useful
life or operating efficiency of the asset. Those types of costs
would be capitalized and depreciated over the remaining life of the
asset.
A permanent decline in the fair value of an asset is known as an
impairment. When an asset becomes impaired, the company
should write the asset value down so as not to overstate the value
on the company’s books.
Plant asset disposals are usually done because an asset is no
longer useful to the company. When disposing of an asset the
company could sell, retire, or trade the asset. Either way the
company must determine the book value and record a gain or a
loss on the books. The exception to recording a gain on an asset
disposal would be when an asset is retired. The company could
still potentially record a loss when retiring an asset.
Slide 5
Analyzing Plant
Assets
Analyzing plant assets is done through the use of the financial
statements. There are two tools that can be used to analyze plant
assets. The first is return on assets, and the second is asset
turnover.
Return on assets is a profitability ratio for determining the
profitability of assets. The return on asset ratio is calculated by
dividing net income by average assets. Return on assets
demonstrates the amount of net income generated by each dollar of
assets. Therefore, the higher the return on assets, the more
profitable the company.
Asset turnover demonstrates how efficiently a company utilizes
its assets to generate sales. In other words, how many dollars of
sales does a company generate for each dollar invested in assets.
When a company is showing a high asset turnover, it means that
the company is operating more efficiently. Please note that
comparisons should be made within the industry to determine an
optimal efficiency.
Return on assets can be computed as the product of profit margin
Chapter 9
and asset turnover. As we have learned in a previous lesson,
Profit margin is calculated by dividing net income by net sales.
Profit margin shows how well a company is in turning sales into
income.
Slide 6
Intangible
Assets
We will now discus intangible assets. Intangible assets are rights,
privileges, and competitive advantages that result from ownership
of long-lived assets that do not possess physical substance. Types
of intangible assets are patents, franchises, and trade names or
trademarks.
When accounting for intangibles assets, companies will record
them at cost on the books. Intangible assets can have either a
limited or indefinite life. When the intangible asset has a limited
life, the company will amortize the cost of the asset over its useful
life, which is similar to depreciation. Intangible assets with
indefinite lives would not be amortized at all. Intangible assets are
usually amortized using the straight line method just like with
asset depreciation. The calculation is total cost of the asset divided
by the useful life equals the annual amortization expense.
Let’s discuss a few types of intangible assets in more detail. One
type is known as a patent. A patent is an exclusive right
manufacture, sell, or control an invention for a period of 20 years
from the date of the grant.
Another type is research and development costs. These are
expenses companies make that could lead to new patents,
copyrights, and new products. Many companies spend a lot of
money on research and development. This is particularly true of
drug companies. Research and development costs are expenses
when incurred regardless of the success of the outcome.
Copyrights are another type of intangible asset. Copyrights
provide the owner with the exclusive right to reproduce and sell an
artistic or published work. Copyrights are good for the life of the
copywriter plus seventy years.
Trademarks or trade names are another type of intangible asset.
They can be a word, phrase, jingle, or symbol that identifies a
particular enterprise or product. Some familiar trademarks are the
Nike swoosh and Apple’s partially bitten apple. Trademarks and
trade names are registered with the U.S. Patent office and are good
for twenty years and can be renewed indefinitely.
Franchises are yet another example of an intangible asset. A
Chapter 9
franchise is a contractual arrangement that allows the franchisor
the right to sell certain products, to perform specific services, or to
use certain trademarks or trade names. Several examples of
franchises are Subway sub shops, and McDonald’s restaurants.
Lastly, goodwill is another example of an intangible asset.
Goodwill is the value of all favorable attributes that relate to a
company that are not attributable to any other specific asset.
Examples of goodwill are good management, good service, good
locations, skilled employees, and many other positive attributes a
company possesses.
Slide 7
Slide 8
Financial
Statement
Presentation of
Long-Lived
Assets
For the financial statement presentation of long-lived assets,
companies typically show plant assets in the financial statements
under property, plant, and equipment, and intangibles under
intangible assets.
Short Story
Scenario
Now let’s take a look at a short-story scenario that will help you
understand the concepts in the lesson better.
Companies should disclose the balances of the major types of
assets, such as land, buildings, and equipment, and of accumulated
depreciation by type or in total. Further, companies should
disclose depreciation and amortization methods used and the
amounts of depreciation and amortization expense for the period.
Congratulations! Your company has just invented the ding-wow,
which is an electronic version of the widget. You spent millions of
dollars on research and development to finally get the new product
to work. What is the first step you should take regarding this new
product?
Think about it for a moment. When you’re ready, click the play
button to hear all the choices.
Choice A = Direct your advertising agency to start promoting this
great new product for sale.
Choice B = Try to sell this invention to one of your competitors at
a significant profit.
Chapter 9
Choice C =Apply for a patent at the U.S. Patent Office.
Slide 9
Check Your
Understanding
#1
Slide 10
Check Your
Understanding
#2
Slide 11
Summary
We have reached the end of our lesson. Let’s take a look at what
we have covered.
We started off discussing plant assets. We learned that plant assets
are generally recorded as an asset on a company’s books at
historical cost. We also discussed some of the advantages of
leasing assets.
Next we discussed accoun …
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