Balancing the Books: Understanding Financial Reporting
Balancing the Books: Understanding Financial Reporting
Citation
Balancing the books: Understanding financial reporting [Video file]. (2009). In Films On Demand. Retrieved July 27, 2016, from
http://fod.infobase.com/PortalPlaylists.aspx?wID=18566&xtid=42211
http://fod.infobase.com/p_ViewVideo.aspx?xtid=42211
Balancing the Books: Understanding Financial Reporting
BALANCING THE BOOKS IS AN ESSENTIAL PART OF BUSINESS. ACCOUNTING METHODS HELP BUSINESSES TO COLLECT, RECORD AND ANALYZE FINANCIAL DATA. INFORMED BUSINESS DECISIONS CAN
BE MADE ON THE BASIS OF WELL KEPT RECORDS. IN THIS PROGRAM, WE’LL BE MEETING A TRAINEE ACCOUNTANT WHOSE BOOKKEEPING KNOWLEDGE WILL BE TESTED. WE’LL LEARN ABOUT
ACCOUNTING INFORMATION AND TOOLS, THE BALANCE SHEET, CALCULATING PROFIT AND LOSS, CASH CONTROL AND ASSESSMENT OF FINANCIAL PERFORMANCE.
[ MUSIC ]
>> HELLO, EVERYBODY, AND WELCOME TO WHO WANTS TO MAKE A MILLION? THIS SHOW IS ALL ABOUT MAKING MONEY, WHERE WE TEST SOME OF THE BEST BRAINS IN FINANCE. TONIGHT’S FIRST
CONTESTANT IS A TRAINEE ACCOUNTANT FROM ACCOUNTING FIRM, BOOKS ‘R US. HE’S YOUNG, HE’S SHARP AS AN HB PENCIL, HE’S MR. CALVIN CLEGG. WELCOME, CALVIN.
>> THANK YOU.
>> NOW, CALVIN, TONIGHT’S SHOW IS ALL ABOUT BALANCING THE BOOKS, SOMETHING YOU’VE BEEN LEARNING ABOUT IN YOUR NEW JOB. HAVE THEY ENTRUSTED YOU WITH THE BOOKS YET?
>> JUST THE SMALL JOBS.
>> AND YOU STARTED OUT CLEANING THEIR OFFICES ON THE WEEKEND?
>> YEAH, IT WAS MY OWN BUSINESS, CLEGG’S CLEANING. AND BOOKS ‘R US WAS MY FIRST CLIENT.
>> AND WHAT HAPPENED TO THAT BUSINESS?
>> I SOLD IT TO MY LITTLE BROTHER FOR $10.
>> SO YOU’RE AN ENTREPRENEUR AS WELL. WELL, LET’S SEE IF WE CAN ADD MILLIONAIRE TO YOUR RESUME. ARE YOU READY?
>> SURE.
>> LET’S START. YOUR FIRST QUESTION FOR $100; PUT THE FOLLOWING ACCOUNTING INFORMATION PROCESSES IN THE RIGHT ORDER. A, RECORDING; B, ANALYSIS; C, COLLECTION; AND D,
REPORTING. TAKE YOUR TIME NOW.
[ MUSIC ]
>> ALL RIGHT, CALVIN, SO ACCOUNTING INFORMATION IS ABOUT TURNING RAW FINANCIAL DATA LIKE THIS INTO INFORMATION THAT CAN BE USED BY CLIENTS TO ASSESS THEIR BUSINESS AND
MAKE DECISIONS. SO THE FIRST STEP IS COLLECTING DATA. SO INVESTMENT REPORTS, PAY SLIPS, PAYMENT INVOICES, INVESTMENT FUNDS AND ASSETS, INVENTORY REPORTS AND BANK
STATEMENTS. SO THEN NEXT WE RECORD THE DATA USING APPROPRIATE SYSTEMS, SUCH AS A SPREADSHEET. AND THEN WE ANALYZE YOUR FINDINGS IN TERMS OF PROFIT AND LOSS AND
PROJECTED OUTLOOKS. AND THEN WE REPORT THE FINDINGS TO THE CLIENT.
>> THE ORDER IS COLLECTING, RECORDING, ANALYSIS, REPORTING.
>> THAT’S CORRECT. WELL DONE, CALVIN, YOU HAVE WON $100. YOUR SECOND QUESTION FOR $500; WHICH ONE OF THESE IS NOT A PRIMARY USER OF ACCOUNTING INFORMATION FOR A CAR
MECHANIC’S BUSINESS? IS IT A, THE BUSINESS OWNER; B, THE CUSTOMERS; C, THE LOCAL LUNCH BAR; OR D, THE GOVERNMENT?
>> ACCOUNTING RECORDS NEED TO BE ACCURATE SO THAT USERS OF THE INFORMATION CAN MAKE SOUND DECISIONS. SO USERS MIGHT BE THE BUSINESSES, OWNERS AND MANAGERS, LENDERS,
GOVERNMENTS, CUSTOMERS, EMPLOYEES AND COMPETITORS. IN FACT, ANYONE WHO HAS A DIRECT FINANCIAL STAKE IN THE BUSINESS.
[ MUSIC ]
>> WELL, THE ONLY USER THAT DOESN’T HAVE A DIRECT STAKE IN THE BUSINESS WOULD BE THE LOCAL LUNCH BAR, SO I’LL SAY C. LOCK IT IN.
>> THAT’S CORRECT. CALVIN, YOU NOW HAVE $500. FOR $1,000, WHICH ONE OF THESE ACCOUNTING SOFTWARE PACKAGES IS OWNED BY MAMUT SOFTWARE LIMITED? IS IT A, SAGE; B,
QUICKBOOKS; C, EPICOR; OR D, MYOB?
[ MUSIC ]
>> YES, I’D LIKE TO PURCHASE SOME ACCOUNTING SOFTWARE FOR MY CLEANING BUSINESS. I’LL NEED THE BASIC FUNCTIONS. ACCOUNTS PAYABLE AND RECEIVABLE, EXPENDITURES,
INVOICING, AND ALSO PERHAPS A TIMESHEET SO I CAN RECORD MY HOURS. YES, YEAH, SOMETHING LIKE QUICKBOOKS OR MYOB. AH, MYOB IS NOW MAMUT, OKAY, THANK YOU.
>> THE ANSWER IS D, MYOB.
>> CALVIN’S ANSWER IS D. IS HE RIGHT FOR $1,000? WE’LL TAKE A BREAK AND BE RIGHT BACK WITH THE ANSWER.
[ MUSIC ] ACCOUNTING INFORMATION REFERS TO FOUR PROCESSES; COLLECTING, RECORDING, ANALYZING AND REPORTING INFORMATION. THE REPORTS CAN BE USED BY THE BUSINESS ITSELF,
AS WELL AS THE PRIMARY STAKEHOLDERS, SUCH AS CUSTOMERS, SUPPLIERS, LENDERS AND GOVERNMENTS. ACCOUNTING INFORMATION IS MORE EASILY COLLECTED AND ANALYZED WITH THE HELP
OF ACCOUNTING SOFTWARE.
[ MUSIC ]
>> WELCOME BACK. WELL, HAS CALVIN CLEGG WON HIMSELF $1,000? HE LOCKED IN D, AND THE ANSWER IS D, MYOB. WELL DONE, CALVIN. MOVING ONTO OUR NEXT QUESTION FOR $5,000. IN
A LAKESIDE CARAVAN PARK, WHICH OF THESE ITEMS WOULD BE CONSIDERED A NON CURRENT ASSET ON THE BALANCE SHEET? IS IT A, A RIDE-ON LAWN MOWER; B, CUSTOMER LOYALTY; C,
CABINS BOOKED, BUT NOT PAID FOR; OR D, MONEY IN THE BUSINESS’S ACCOUNT? TAKE YOUR TIME. THIS IS FOR $5,000.
>> WELL, B IS AN ASSET, AND IT CAN BE MEASURED, BUT IT COULDN’T BE CLASSIFIED AS NON CURRENT. C IS AN ASSET, BECAUSE IT HAS AN EXPECTED FUTURE BENEFIT. AND A AND D ARE
ALSO ASSETS.
>> ASSETS ARE THOSE THINGS THAT A BUSINESS OWNS OR TRADES WITH OR ANY MONEY IT’S OWED. SO WHEN YOU RAN YOUR CLEANING BUSINESS, WHAT WERE YOUR ASSETS?
>> WELL, I BORROWED $400 OFF MY FATHER TO GET ME STARTED, AND I HAD $100 OF MY OWN. I BOUGHT A VACUUM CLEANER WORTH $100 AND SOME CLEANING PRODUCTS WORTH $50. THEN I
STARTED EARNING MONEY, SO I GUESS THAT WOULD BE AN ASSET, AS WELL.
>> YEAH, WELL, SOME OF THOSE ARE CURRENT ASSETS, AND SOME OF THOSE ARE NON CURRENT. SO CURRENT ASSETS ARE ONLY HELD IN THE SHORT TERM, LIKE THE CASH, THE CLEANING
PRODUCTS, AND ANY INCOME THAT’S PAID OR OWED. SO THEY’RE CIRCULATING CONTINUOUSLY. BUT FOR VACUUM CLEANER, THAN WOULD BE A NON CURRENT OR A FIXED ASSET, BECAUSE YOU
USE IT YEAR AFTER YEAR. AND LIABILITIES CAN BE CLASSIFIED THE SAME WAY. A CURRENT LIABILITY IS A SMALL CLAIM AGAINST YOUR BUSINESS THAT YOU EXPECT TO PAY OFF WITHIN A
YEAR. SO LIKE A SMALL LOAN OR ANY WAGES OR MAYBE SOME MONEY OWING TO SUPPLIERS AND THINGS LIKE THAT.
>> LIKE A LOAN FROM MY FATHER?
>> YEAH, THAT’S RIGHT, BECAUSE IT’S ONLY A SMALL AMOUNT. BUT IF YOU WERE TO TAKE OUT, YOU KNOW, A CAR LOAN TO BUY A CAR FOR YOUR BUSINESS, WELL, THAT WOULD BE A NON
CURRENT LIABILITY, AS THE DEBT IS PAID OFF OVER SEVERAL YEARS.
>> WELL, GIVEN THAT THE RIDE- ON LAWN MOWER IS A LONG TERM PURCHASE, I THINK A, RIDE-ON LAWN MOWER.
>> HE’S LOCKED IN A, AND HE’S RIGHT. CALVIN, YOU’VE JUST MADE $5,000. NOW, ARE YOU READY TO TRY FOR $10,000?
>> SURE.
>> NEXT QUESTION; WHICH OF THESE IS KNOWN AS THE ACCOUNTING EQUATION OF A BALANCE SHEET? IS IT A, LIABILITIES EQUALS PROFIT MINUS LOSS; B, ASSETS PLUS OWNER’S EQUITY
EQUALS LIABILITY; C, OWNER’S EQUITY EQUALS PROFIT PLUS ASSETS; OR D, ASSETS EQUALS LIABILITIES PLUS OWNER’S EQUITY?
>> THAT’S CONFUSING.
>> YOU CAN ALWAYS PHONE A FRIEND.
>> NO, NO, NO. WELL, THE BALANCE SHEET IS SIMPLY A WAY OF BALANCING WHAT A BUSINESS OWES AGAINST WHAT IT HAS. SO ON ONE SIDE, THERE’S THE ASSETS. AND ON THE OTHER
SIDE, THERE’S THE LIABILITIES, ALONG WITH OWNER’S EQUITY. SO THE EQUATION WOULD BE
>> WELL, ASSETS EQUALS LIABILITIES PLUS OWNER’S EQUITY. YOU NEVER FORGET THAT EQUATION.
>> BUT WHAT’S OWNER’S EQUITY?
>> WELL, OWNER’S EQUITY IS A SMALL CLAIM MADE AGAINST THE BUSINESS BY THE OWNER. SO IT REPRESENTS THE MONEY THAT THE OWNER HAS PUT IN AND ANY PROFIT THAT THE OWNER IS
ENTITLED TO. AND WHEN YOU STARTED YOUR BUSINESS, YOU BORROWED $400 FROM YOUR FATHER, AND THEN YOU PUT IN $100 OF YOUR OWN, SO YOUR BALANCE SHEET LOOKS LIKE THIS. YOUR
OWNER’S EQUITY WAS WHAT YOU CONTRIBUTED, SO THAT WAS $100. WHEN YOU STARTED TO MAKE AN INCOME, THAT AMOUNT BECAME AN ASSET, WHICH HAS TO BE BALANCED, BECAUSE ASSETS
MUST EQUAL LIABILITIES PLUS OWNER’S EQUITY. SO THE $75 IS ACCRUED AS EQUITY, EVEN IF THE OWNER DOES NOT WITHDRAW IT OR USE IT. THE EQUATION NOW LOOKS LIKE THIS, WITH
BOTH VALUES BALANCED. THE VALUES MUST ALWAYS BALANCE, EVEN THOUGH THE ACTUAL AMOUNT FLUCTUATES. LATER ON, YOU MIGHT DECIDE TO PAY OFF SOME OF YOUR FATHER’S LOAN, IN
WHICH CASE YOU WOULD SUBTRACT $75 FROM YOUR ASSETS AND PAY THAT AMOUNT OFF YOUR LIABILITIES. YOUR BALANCE SHEET WILL STILL BE BALANCED WITH THE ASSETS BEING EQUAL TO
THE LIABILITIES PLUS THE EQUITY.
>> I’LL HAVE TO SAY D, ASSETS EQUALS LIABILITIES PLUS OWNER’S EQUITY.
>> YOU’VE LOCKED IN D. WE’LL SEE IF HE’S RIGHT WHEN WE COME BACK FROM THE BREAK.
[ MUSIC ]
>> THE BALANCE SHEET USES AN EQUATION WHEREBY ASSETS EQUALS LIABILITIES PLUS OWNER’S EQUITY, ASSETS ARE THOSE THINGS THAT THE BUSINESS OWNS OR TRADES WITH AND ANY
MONEY IT IS OWED. LIABILITIES ARE CLAIMS AGAINST THE BUSINESS. ASSETS AND LIABILITIES CAN BE CLASSIFIED AS CURRENT OR NON CURRENT. OWNER’S EQUITY IS THE CLAIM MADE
AGAINST THE BUSINESS BY THE OWNER.
[ MUSIC ]
>> WELCOME BACK. CALVIN CLEGG IS ABOUT TO FIND OUT WHETHER HE’S WON $10,000. AND THE ANSWER TO THAT LAST QUESTION WAS D. YOU CAN GO HOME RIGHT NOW WITH $10,000, OR YOU
CAN KEEP PLAYING FOR $25,000. WHAT WILL IT BE?
>> I’LL KEEP PLAYING, THANKS.
>> VERY WELL. LET’S SEE IF YOU CAN MAKE A PROFIT OUT OF THIS NEXT QUESTION. WHEN CALCULATING PROFIT, WHICH OF THESE WOULD NOT APPEAR ON THE PROFIT AND LOSS STATEMENT;
A, REVENUE; B, TAX; C, GAINS; OR D, EXPENSES?
>> WELL, ALL OF THEM ARE IMPORTANT.
>> INDEED.
>> MY FIRST PROFIT AND LOSS STATEMENT WAS FOR MY BROTHER WHEN I SOLD HIM THE CLEANING BUSINESS.
[ LAUGHTER ] PROFIT OR LOSS IS THE DIFFERENCE BETWEEN THE INCREASES IN CAPITAL ATTRIBUTABLE TO OPERATIONS OR TRADING, KNOWN AS INCOME. AND THE DECREASE IN THE OWNER’S
EQUITY ATTRIBUTABLE TO EXPENSES. SO FOR CLEGG’S CLEANING, THAT MEANS THE REVENUES, OR WEEKLY PAYMENTS FOR CLEANING, ADD UP TO $5,000, WHICH IS MY INCOME. THERE ARE NO
GAINS, BECAUSE I HAVEN’T SOLD ANYTHING OR MADE ANY MONEY FROM NON OPERATIONAL TRADING. ALL RIGHT, NEXT, THE EXPENSES, OR OUTFLOW OF ASSETS AND INCREASE IN LIABILITIES
INCURRED BY GENERATING INCOME. THE VACUUM, CLEANING PRODUCTS, TRAVEL AND ADVERTISING COSTS. ALL RIGHT, AND SO THE PROFIT EQUALS INCOME MINUS EXPENSES, WHICH MEANS I
MADE A PROFIT.
[ MUSIC ] WELL, IT’S NOT REVENUE AND GAIN, BECAUSE THEY’RE INCOME, AND IT’S NOT EXPENSES, SO IT MUST BE B, TAX.
>> ARE YOU SURE?
>> POSITIVE.
>> AND YOU ARE IN THE POSITIVE BY $25,000.
[ APPLAUSE ] CALVIN, YOU ARE NOW PLAYING FOR $50,000. HERE IS YOUR QUESTION. WHICH ONE OF THESE TRANSACTIONS WOULD INCREASE A BUSINESS’S PROFIT; A, RECEIVING CASH FROM
A TRADE DEBTOR; B, MAKING A SALE ON CREDIT; C, DEPRECIATING A NON CURRENT ASSET; OR D, REPAYMENT OF A LOAN?
>> CALVIN, THIS IS YOUR FIRST ACCOUNT. IT’S A PINE PLANTATION BUSINESS. SO YOU’LL NEED TO DO AN INCOME STATEMENT FOR THEM, AND THE INCOME’S GOING TO BE AN ACCRUED
TRANSACTION, SO THAT’S WHERE THE REVENUE IS RECOGNIZED BEFORE IT’S RECEIVED, LIKE A SALE ON CREDIT. SO THE BUSINESS HAS 10 ACRES OF PINE TREES THAT ARE EXPECTED TO
MATURE WITHIN FIVE YEARS. AND THEY’LL BE RECOGNIZING A PORTION OF THE REVENUE AS INCOME IN THIS FINANCIAL YEAR. I’LL LEAVE YOU TO IT.
[ MUSIC ]
>> WHICH ONE WOULD INCREASE PROFITS? RECEIVING CASH FROM A TRADE DEBTOR IS JUST TRADING ONE ASSET FOR ANOTHER, SO THAT WOULDN’T AFFECT PROFIT. AND IT’S NOT C,
DEPRECIATING ASSET, BECAUSE THAT WOULD DECREASE PROFIT, WHILE THE PAYMENT OF A LOAN IS JUST BALANCING AN ASSET AGAINST A LIABILITY. SO IT MUST BE B, MAKING A SALE ON
CREDIT.
>> LOCK IN B?
>> YES.
>> IS HE CORRECT FOR $50,000? YES, HE IS. WHEN WE COME BACK, WE’LL SEE IF HE CAN DOUBLE IT ON WHO WANTS TO MAKE A MILLION?
[ MUSIC ]
>> PROFIT, OR LOSS, MEASURES THE DIFFERENCE BETWEEN INCOME AND EXPENSES. EXPENSES ARE ECONOMIC OUTFLOWS OF A BUSINESS, WHICH CAUSE A DECREASE IN THE OWNER’S EQUITY.
INCOME IS THE INCREASE IN ASSETS OR REDUCTION IN LIABILITIES. INCOME IS COMPRISED OF REVENUE, WHICH IS THE ECONOMIC INFLOW AS A RESULT OF BUSINESS OPERATIONS, AND
GAINS THE ECONOMIC INFLOW FROM NON-OPERATIONAL ACTIVITIES. REVENUE CAN BE REALIZED WITH CASH OR WITH ACCRUAL TRANSACTIONS. ACCRUAL TRANSACTIONS ARE REVENUES OWED TO
THE BUSINESS.
[ MUSIC ]
>> WELCOME BACK. CALVIN CLEGG IS PLAYING FOR $100,000. HE’S GOT EVERY ANSWER RIGHT SO FAR. CAN HE KEEP GOING AND MAKE IT A MILLION? CALVIN, ARE YOU READY FOR YOUR NEXT
QUESTION?
>> YES, I THINK SO.
>> FOR $100,000, ACCORDING TO THE PRODUCTIVITY COMMISSION, WHAT PERCENTAGE OF BANKRUPTED BUSINESSES ATTRIBUTE THEIR FAILURE TO CASH FLOW OR INADEQUATE CAPITAL? IS IT
A, 10%; B, 25%; C, 40%; OR D, 80%?
[ MUSIC ]
>> PLAYING A GAME OF MONOPOLY CAN TEACH US SOMETHING ABOUT CASH FLOW. YOUR ASSETS ARE YOUR HOUSES AND HOTELS, AND THEY WILL REGISTER AS A PROFIT ON YOUR INCOME
STATEMENT. BUT IF YOU DON’T HAVE ANY CASH, YOU WON’T BE ABLE TO PAY FOR THINGS IF YOU GET INTO TROUBLE. IN A BUSINESS, YOU NEED CASH FLOW TO PAY FOR THINGS LIKE
SUPPLIES, STOCK, STAFF WAGES, FEES, REPAIRS AND INSURANCE. SO EVEN IF A BUSINESS IS MAKING A PROFIT, IT CAN STILL FAIL BECAUSE OF BAD CASH FLOW.
>> I KNOW CASH FLOW IS REALLY IMPORTANT, BUT I DON’T KNOW THE STATISTICS. I THINK I’LL TAKE A 50/50.
>> 50/50. WE’LL REMOVE TWO OF THE OPTIONS TO MAKE THINGS EASY FOR YOU. 10% OR 25%? WHICH WILL IT BE?
>> I’LL HAVE TO TAKE A GUESS AND SAY 10%.
>> ARE YOU SURE?
>> NO, BUT LOCK IT IN ANYWAY.
>> OKAY, 10% LOCKED IN. AND THE ANSWER IS 10%. YOU HAVE WON YOURSELF $100,000. ARE YOU READY TO PLAY FOR $500,000? HERE WE GO. AN OCC IS A WHAT? A, OPERATING CREDITOR
CERTIFICATE; B, OPTIMUM CASH CONTROL; C, OCCUPATIONAL COST CYCLE; OR D, OPERATIONAL CASH CYCLE? GET THIS WRONG AND YOU WALK AWAY WITH NOTHING.
>> CASH CONTROL CAN EASILY SLIP OUT OF A MANAGER’S HANDS IF CERTAIN PROCESSES AREN’T FOLLOWED. CASH SHOULD BE SAFEGUARDED AND ONLY KEPT IN SMALL QUANTITIES ON THE
PREMISES. STAFF SHOULD BE PROPERLY TRAINED TO HANDLE CASH. AND IT’S WISE TO SEPARATE THE DUTIES TO AVOID ERROR OR THEFT. CASH SHOULD BE BANKED REGULARLY, AND TAKING
SHOULD BE VERIFIED BY A CASH REGISTER ROLL, IF ONE IS USED. CASH SHOULD ALSO BE RECONCILED WITH BANK STATEMENTS. CASH FLOW STATEMENTS ARE A RECORD OF THE CASH THAT
FLOWS IN AND OUT OF THE BUSINESS. FROM THESE STATEMENTS, WE CAN ASCERTAIN THE BUSINESS’S OPERATIONAL CASH CYCLE. THIS IS THE AVERAGE TIME LAPSE BETWEEN THE OUTLAY OF
CASH FOR PURCHASES AND THE RECEIPT OF CASH FOR SALES IF BUSINESSES KNOW THEIR OPERATIONAL CASH CYCLE, AND THEY CAN PLAN FOR PERIODS WHEN DEFICITS ARE EXPECTED.
[ MUSIC ]
>> I’LL LOCK IN D, OPERATIONAL CASH CYCLE.
>> LOCK IN D. WE’LL SEE IF YOU’RE RIGHT STRAIGHT AFTER THE BREAK.
[ MUSIC ]
>> MANY BUSINESSES FAIL BECAUSE OF INADEQUATE CASH FLOW. GOOD CASH MANAGEMENT INVOLVES PREPARING CASH FLOW STATEMENTS, TAKING INTO ACCOUNT THE OPERATIONAL CASH CYCLE,
SAFEKEEPING CASH, REGULAR BANKING, SEPARATION OF CASH HANDLING DUTIES, AND RECONCILIATION.
[ MUSIC ]
>> WELCOME BACK. HAS CALVIN CLEGG JUST WON $500,000? THE ANSWER TO THE LAST QUESTION WAS D. CONGRATULATIONS, CALVIN, YOU’RE ONLY ONE QUESTION AWAY FROM $1 MILLION. HOW
ARE YOU FEELING?
>> TERRIFIED.
>> THEN LET’S GET THIS OVER WITH. HERE IS YOUR LAST QUESTION. WHAT IS AN AVERAGE SETTLEMENT PERIOD RATIO USED TO MEASURE? IS IT A, WORKING CAPITAL; B, LIQUIDITY; C,
EFFICIENCY; OR D, PROFITABILITY? HAVE A THINK ABOUT IT.
>> AVERAGE SETTLEMENT PERIOD RATIO.
[ MUSIC ]
>> HERE IS THE BALANCE SHEET, THE INCOME STATEMENT AND THE CASH FLOW STATEMENT FOR THE PINE PLANTATION.
>> EXCELLENT. BUT YOUR JOB’S NOT FINISHED YET. THESE REPORTS NEED ANALYZING. WE NEED TO KNOW HOW THE BUSINESS IS PERFORMING USING PERFORMANCE INDICATORS OR FINANCIAL
RATIOS. GRAB A SEAT AND I’LL EXPLAIN. WELL, FINANCIAL RATIOS ARE SHORTHAND SIMPLE EQUATIONS WHICH WE USE TO EXPRESS THE DIFFERENT ASPECTS OF OUR BUSINESS. SO THEY CAN
TELL US THREE THINGS; HOW PROFITABLE THE BUSINESS IS, HOW EFFICIENT IT IS, AND HOW MUCH LIQUID CAPITAL IS AVAILABLE FOR US TO USE. SO LET’S PRETEND THAT THESE ARE MY
ASSETS OVER HERE, AND THIS IS MY PROFIT FOR THE YEAR. SO THERE ARE SEVERAL RATIOS THAT I CAN USE. SO ONE OF THOSE IS CALLED THE RETURN ON ASSETS RATIO. WE SIMPLY
DIVIDE THE NET PROFIT BY THE AVERAGE TOTAL ASSETS AND EXPRESS THIS AS A PERCENTAGE. SO NEXT, OTHER PROFITABILITY RATIOS YOU CAN RESEARCH ARE THE RETURN ON OWNER’S
INVESTMENT RATIO. YOU CAN ALSO LOOK AT THE NET PROFIT MARGIN AND THE GROSS PROFIT MARGIN. NOW, LET’S LOOK AT THE EFFICIENCY OF MY BUSINESS. SO LET’S SAY THAT I’M
SELLING PAPERCLIPS. ONE THING I’D LIKE TO KNOW IS HOW LONG IT TAKES FOR MY STOCK TO TURN OVER. SO IT IS FOUND BY DIVIDING THE AVERAGE INVENTORY HELD AND THE COST OF
SALES AND EXPRESSING THIS AS A NUMBER OF DAYS. SO ANOTHER MEASUREMENT OF EFFICIENCY IS THE DEBTOR’S TURNOVER RATIO, WHICH EXPRESSES HOW LONG THE CUSTOMERS TAKE TO PAY
ME FROM THE DATE OF THE INVOICE. SO IT’S EXPRESSED AS AN AVERAGE DEBTORS DIVIDED BY CREDIT SALES. AND THEN WE HAVE MEASURES FOR LIQUIDITY. THIS IS HOW WELL THE
BUSINESS CAN MEET SHORT TERM EXPENSES WITH CASH OR ASSETS THAT CAN BE TURNED INTO CASH. SO AND THEN WE HAVE THE WORKING CAPITAL RATIO OR A CURRENT RATIO. IT’S SIMPLY
THE CURRENT ASSETS DIVIDED BY THE CURRENT LIABILITIES. YOU CAN ALSO RESEARCH THE QUICK ASSETS RATIO, THE CASH FLOW RATIO AND THE INTEREST COVER RATIO TO LEARN A LITTLE
BIT MORE ABOUT LIQUIDITY. DO YOU UNDERSTAND?
[ MUSIC ]
>> DO YOU UNDERSTAND? SHALL I REPEAT THE QUESTION?
>> I’VE JUST NEVER HEARD OF AVERAGE SETTLEMENT PERIOD BEFORE. I THINK I MIGHT PHONE A FRIEND.
>> WHO WOULD YOU LIKE TO CALL?
>> MY SUPERVISOR, DIANE.
[ PHONE RINGING ]
>> HELLO?
>> HELLO, DIANE? YOUR TRAINEE ACCOUNTANT, CALVIN CLEGG, HAS ASKED FOR YOUR HELP IN HIS FINAL QUESTION TO WIN $1 MILLION. THE QUESTION IS, WHAT IS AN AVERAGE SETTLEMENT
PERIOD RATIO USED TO MEASURE? IS IT A, WORKING CAPITAL; B, LIQUIDITY; C, EFFICIENCY; OR D, PROFITABILITY? YOU HAVE 10 SECONDS. YOUR TIME STARTS NOW.
>> THE SETTLEMENT PERIOD. WELL, THAT MUST BE, WELL, IT’S ANOTHER TERM FOR DEBTORS’ AND CREDITORS’ TURNOVER, WHICH IS A MEASURE OF
>> I’M SORRY, DIANE, YOUR TIME IS UP.
>> THE ANSWER IS C, EFFICIENCY.
>> WE’LL BE BACK RIGHT AFTER THE BREAK.
[ MUSIC ]
>> ACCOUNTANTS USE PERFORMANCE INDICATORS, OR RATIOS, TO ANALYZE FINANCIAL STATEMENTS. THE THREE AREAS THAT ARE ANALYZED ARE PROFITABILITY, EFFICIENCY AND LIQUIDITY.
SOME EXAMPLES OF RATIOS ARE THE RETURN ON ASSETS RATIO, THE DEBTOR’S TURNOVER RATIO, THE WORKING CAPITAL RATIO AND THE QUICK ASSETS RATIO.
[ MUSIC ] WELCOME BACK. YOU’RE WATCHING WHO WANTS TO MAKE A MILLION. AND TONIGHT, WE HAVE TRAINEE ACCOUNTANT, CALVIN CLEGG, AND HIS SUPERVISOR, DIANE, ON THE LINE. THE
ANSWER HE JUST GAVE FOR $1 MILLION WAS C. THE ANSWER WE WANTED, THE CORRECT ANSWER IS, C. CALVIN, YOU HAVE JUST WON $1 MILLION.
>> AFTER CALVIN MADE $1 MILLION, HE DECIDED TO BUY BACK THE CLEANING BUSINESS FROM HIS BROTHER. HE CONTRIBUTED HALF A MILLION DOLLARS AS OWNER’S EQUITY AND BOUGHT A
FLEET OF CLEANING VANS AND EQUIPMENT. AND WHAT DID HE DO WITH THE OTHER HALF A MILLION?
[ MUSIC ]

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