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Essentials of Finance – Management accounts
Most business owners have one set of annual statutory accounts that can only be prepared after the financial year-end. These may not even be presented until months after the trading for the previous year has concluded. Savvy business owners, the ones who really understand their numbers, get regular Management Accounts.
Management accounts are not the same (but can be similar) to statutory accounts (which are also called financial accounts).
Financial accounts are designed to make it easy for your accountant to prepare your tax returns.
Management accounts are designed to make it easier for you to make commercial decisions!
Often prepared monthly and in some cases quarterly, Management Accounts show a more immediate picture of exactly how a company is performing.
If you have management accounts every month and I recommend that you have them within 5 to 10 working days, then you will have a quick and transparent view of whether your company is going “off the rails”. The answer to valuable questions such as:
- Are the margins are being maintained;
- Has the business got enough cash; and
- Where is the cash being spent?
It will also let you identify whether you’re growing and where you need to invest your time and effort. If you have a budget/business plan, management accounts allow you to track how the business is performing against that plan
Each business will have its own unique information needs and this is where having a growth focused, commercially savvy accountant on board comes in – you need the right information, at the right time, and in a format, you can understand to allow you to make decisions.
If you are getting financial information in a format, you don’t understand and can’t read then go back to the person who produced it and asks questions until you do understand. An accountant or finance department (if you are in a role where you are getting financial reports) is there to help management make decisions and manage the business (or business unit/department) for optimal profitability.
This method of presenting the P&L statement allows you to compare where you are with a budget. Budgeting is another area of finance that many people struggle with. In some areas of a business, it is seen as a restriction i.e. setting limits on spending for example. For sales departments, it’s more likely to be seen as a target-setting tool. Budgets are a big subject, for a future 5-minute series book.
Receiving the P&L report in more detail (in this example different sales types are shown separately, and the costs are also in detail), means decisions can be made on marketing strategy, sales focus and cost control from an informed stance rather than gut feelings.
For example, we can see that warranty sales account for 3% of the total sales value and, on average, service fees account for 3-5% (4% average over the year). If, in the sales process, warranty and services were promoted more, would there be an increase in take up? Being able to ask the question and try, even for a month or two, to increase sales might result in extra revenue for almost no extra effort!
Where customers were willing to pay a premium for faster shipping the company made more profit on this activity, so this is another “upsell” opportunity.
In costs, there is an average of 36% staff costs to sales ratio across the year, but in some months, this was as low as 25% – one question is was that a month when everyone was working to their limits, and there was no slack at all? And where staff costs were 67% is there an opportunity for some employees to work flexibly or use seasonal staff for the peaks?
On the next page, there is a month by month sheet showing each month P&L data which allows monthly trends to be seen. This is the same data as above, presented in a slightly different format.
The important elements of Management Accounts are that you, and anyone else who reads them, understands them so the format should be set to serve the needs of the audience. If your numbers are presented to you in a way that does not allow you to understand them and make decisions, then they are not useful to you. Equally, you need to take the time to ask questions and find the format that suits your needs.
The accountant can advise, but you are the decision maker!
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What this shows is that when sales were high, working capital was relatively low meaning, most likely, that suppliers were sending products for conversion to finished goods and those goods were sold before the suppliers needed to be paid.
This is very positive – as long as the stock holding doesn’t suddenly build up if sales drop off OR stock holding gets too low to be able to keep up with demand. It’s a balancing act!!
This method of looking at your Balance Sheet allows you to put the elements into context. For example, the Net Book Value of Fixed Assets is reducing by the amount of depreciation applied; Current assets (and especially cash) are increasing because of movement in working capital – reduced stock holding, fewer debtors and less creditors.
Clarity and transparency makes it easier to understand where you are now and how you got there.
The cash flow statement in the example business is very simple. There is a single payment of corporation tax in June but otherwise no payments other than the profits generated, movement in working capital and repayments of a loan.
The closing cash figure equals the cash shown in the Balance Sheet and the profit can easily be seen in the P&L.
Your business may not have loans or, indeed may have many different cash outgoings – VAT, staff wages and PAYE, purchases of fixed assets etc. The Cash Flow Statement will always follow the same basic principles as shown here.
Using a similar format to the P&L comparison, this monthly report shows how the company is doing in relation to the budget, or financial plan, for the month and the year to date. This kind of reporting allows you to track if your overall plan is on track as well as the individual months.
If this case the report shows that for the current month cash was little over what was expected, mainly as a result of changes to working capital – but the year to date is well ahead of expectation, in terms of cash, and this is because of higher profits being generated!
Management accounts and reports are only useful if you understand what they are telling you and you act on it!
Do you feel like you have no control or don’t understand your numbers? Discover how you can feel more in control of your business, make your business worth more AND make it easier and more fun to run. Click here to contact Christine by email alternatively you can book a call with the Business Mentor of the Year 2020, author and speaker. Who helps business founders get their businesses in better shape so they can enjoy a happier, richer future. She saves them THOUSANDS and increases the value of their businesses by MILLIONS.