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  • it turns out that numbers are everywhere

  • you might say that you want a numbers

  • person but that statement does not make

  • numbers go away whether you are in

  • marketing HR supply chain or strategy

  • numbers are a key element of all

  • discussions relating to productivity and

  • performance people who understand the

  • numbers and appreciate how they are used

  • within an organization have a leg up on

  • those who just dismiss numbers is not

  • being important or understandable our

  • objective with this course is to help

  • you understand the two most common areas

  • involving numbers within a company

  • accounting and Finance you will find

  • that the numbers are just a way to

  • quantify your intuition numbers help us

  • to be systematic in our analysis numbers

  • impose a discipline on us that helps us

  • to consider and quantify all factors

  • relevant to a decision the numbers

  • assist us with our decision making it is

  • important to always remember that we

  • don't work for the numbers the numbers

  • work for us the numbers are just a tool

  • to help us make better decisions and

  • that is what we all want to do make

  • better decisions rather than fear the

  • numbers or dismiss the numbers or cop

  • out and say you're not a numbers person

  • together let us get comfortable

  • understanding and using the numbers

  • let's see how we can increase our skill

  • set by getting comfortable with the

  • disciplines and terms associated with

  • these numbers we will begin with a

  • discussion of Finance

  • what is finance let's start with a broad

  • definition finance when we're thinking

  • about organizations individuals families

  • companies governments is first about

  • identifying what things I need second

  • how do I get the money to buy those

  • things and third how do I manage those

  • things efficiently once I have them now

  • let's drill down inside a company first

  • how do I decide what things I need well

  • there are long term decisions that I

  • need to make do I need to buy some land

  • do I need to buy a building do I need to

  • buy machines that decision making

  • process is part of Finance then there

  • are short term decision

  • how much cash do I need how much

  • inventory should I have on hand making

  • those decisions as part of Finance other

  • operating items how about my level of

  • staffing do I have a research and

  • development department what about my

  • marketing budget all of these issues are

  • issues of Finance and they all require

  • money so that leads into the second area

  • of financing how do I get that money do

  • I borrow it

  • do I ask shareholders or partners to

  • pull their personal savings and put it

  • into the company so that we can use that

  • to buy the things we need or do I use

  • internally generated profits and third

  • once I have all those things that I've

  • paid for them how do I manage them

  • that's an issue of timing scheduling

  • budgets interface with my outside

  • suppliers my staff and I also need to

  • decide how to protect the things inside

  • my company I need to have controls and

  • procedures in place inside my company to

  • effectively manage the things that I

  • have now that's a broad description and

  • definition of finance but when most

  • people say finance they have a more

  • narrow set of issues in mind they are

  • only focusing on one of the three broad

  • issues how do I get the money to buy the

  • things I need how does the company get

  • the money should they borrow it should

  • they seek it from investors they have to

  • get the money from somebody outside of

  • the company so those Outsiders do they

  • want to invest in this company or do

  • they want to invest in that company and

  • there are third parties involved

  • financial institutions that put these

  • parties together a company needs to

  • borrow money you want to lend money

  • somebody's got to put the two of you

  • together so when most people talk about

  • finance realize they're just focusing on

  • this one narrow sliver of finance

  • finance broadly defined involves

  • deciding what you need to buy how you're

  • going to get the money to buy those

  • items and then how to manage those

  • things once they're inside your company

  • now let's think about what's going on

  • outside of companies with regard to

  • finance let's think about all the

  • economic activity in the world as a sea

  • an ocean with three kinds of players

  • swimming around in that ocean first

  • there are the entrepreneurs the creators

  • the doers organizations with ideas

  • objectives these are the companies

  • looking for funding they're swimming

  • around out there

  • there are also investors swimming around

  • out there

  • these are the entities individuals

  • companies who have saved money in the

  • past and are now ready to lend it or

  • invest it in somebody else

  • finally there are facilitators swimming

  • around out there specialized

  • institutions that will match up the

  • entrepreneurs who have ideas but don't

  • have money with the investors who've got

  • the money that's the economic

  • environment that we're talking about so

  • we've got the entrepreneurs who are

  • running companies we've already talked

  • about what goes on inside companies with

  • regard to finance entrepreneurs need to

  • decide what to buy how to get the money

  • to buy it and how to manage it once they

  • have it so let's think about what goes

  • on outside the company in the rest of

  • the economic sea

  • what about those investors and savers

  • what are they thinking about they're

  • looking at their investment

  • opportunities under what conditions

  • under what circumstances should they

  • provide money to entrepreneurs should

  • they lend the money should they invest

  • the money what about their portfolio of

  • investments they don't want to invest

  • everything in one company so what

  • different things should they invest in

  • then there are the facilitators there

  • are all kinds of them out there there

  • are banks there are mutual funds there

  • are private equity funds there are

  • insurance companies there are investment

  • banks who put deals together there are

  • all kinds of entities swimming around

  • out there trying to match those who need

  • money with those who have money finance

  • allows us to look at each one of these

  • entities and how they interact one with

  • another finance is identifying the

  • necessary resources for an organization

  • determining how to get the money to buy

  • those resources and then how to manage

  • those resources efficiently once you

  • have them that's the broad definition of

  • finance when we talk about finance

  • we're usually talking about just the

  • middle one determining the best way to

  • get the money to buy the needed

  • resources should I borrow the money

  • should it be invested if I'm an outside

  • investor under what circumstances under

  • what conditions should I provide that

  • capital and then finally what about

  • those financial institutions that bring

  • savers and entrepreneurs together how

  • these three groups work together is a

  • narrow definition of finance but it's

  • probably the most common but keep in

  • mind that within a company finance is

  • much bigger than just obtaining funding

  • determining if funding is needed the

  • amount of funding needed and how to

  • manage the resources associated with

  • that funding is also part of Finance

  • now let's turn our attention to

  • accounting what is accounting first

  • accounting is quantitative you knew that

  • it's numbers second accounting is

  • financial in nature that means money

  • numbers about money

  • third accounting is meant to be useful

  • it's a very practical field of study

  • well useful for what that's the fourth

  • aspect of accounting useful in making

  • decisions accounting helps you use the

  • past right now in the present to change

  • the future

  • accounting is quantitative numbers about

  • money to help people you and me make

  • better decisions

  • that's accounting now there are four

  • different types of accounting first the

  • most fundamental type of accounting is

  • bookkeeping just the routine gathering

  • of the information making sure that

  • everything gets recorded because if it

  • doesn't get recorded we'll never know

  • about it

  • so bookkeeping is the systematic

  • gathering of financial information

  • the second flavor of accounting is

  • called financial accounting this is

  • reporting to people outside your

  • organization just summary reports not

  • the details financial accounting is for

  • people who want periodic reports as to a

  • firm's performance so you prepare and

  • provide them with a report of the

  • economic resources you have and the

  • economic obligations you've incurred you

  • report as to whether you made money last

  • year did you lose money last year just

  • summary reports to people outside of

  • your company who might be thinking of

  • loaning you money or might be thinking

  • of investing in your company that's

  • called financial accounting reporting to

  • outsiders

  • now the third field of accounting is

  • managerial accounting this type of

  • accounting involves the details within a

  • company those are the detailed

  • proprietary data that individuals use

  • inside their organizations to make

  • decisions detailed decisions decisions

  • such as should I raise my prices should

  • I stop selling shirts and start selling

  • shoes should I build my factory in

  • Wyoming or should I build it in Alabama

  • those detailed decisions that business

  • people and people running organizations

  • make every day and this is information

  • that is known

  • only to those inside a company they

  • don't reveal this to outsiders it's

  • confidential information

  • that's called managerial accounting and

  • finally the fourth kind of accounting is

  • income taxes this is the accounting that

  • makes sure that you're in compliance

  • with the tax laws well those are the

  • four types of accounting bookkeeping

  • financial accounting manager early

  • accounting and income taxes both

  • accounting and finance deal with using

  • numbers to make better more informed

  • decisions the numbers certainly do not

  • drive the decisions but they provide a

  • significant input into the decision

  • making process accounting involves

  • gathering and compiling information for

  • decision makers both within the company

  • and outside of the company this

  • information is often used by those in

  • the field of finance to determine what

  • resources are needed and how best to

  • acquire and utilize those resources

  • accounting and Finance do not involve

  • magic they involve understanding our

  • objective here is to help you gain some

  • of that understanding not so that you

  • can become accountants but rather so

  • that you can understand and appreciate

  • where those numbers come from and what

  • those numbers are used for who knows

  • perhaps you'll find that numbers can

  • become your friends

  • we've talked about how accounting and

  • finance involved compiling and using

  • quantitative information and making

  • decisions how's that information

  • conveyed how do users see and digest

  • that information well within a company

  • quantitative information can take on

  • many shapes and sizes there are no rules

  • as to how information is used within a

  • company a company can use information

  • that it develops within a firm in

  • whatever way helps that company to make

  • the best decisions but once you step

  • outside of a firm there are rules

  • information used by potential investors

  • and creditors is governed by rules so

  • that information can be compared across

  • time for the same company and across

  • companies at the same point in time now

  • we won't get bogged down in how those

  • rules are created suffice it to say that

  • there is a formal rulemaking process to

  • ensure that the information given by

  • firms to those outside of the firm is

  • relevant and reliable financial

  • statements are a method in which the

  • effects of lots of transactions are

  • summarized and reported in a manner that

  • is useful to users of financial

  • statements who are standing outside the

  • company the three most common financial

  • statements are the balance sheet the

  • income statement and the statement of

  • cash flows we will look at these three

  • statements in a bit of detail as they

  • are quite common if you are evaluating a

  • competitor's financial position if you

  • are evaluating a suppliers long-term

  • viability if you are a member of a labor

  • union negotiating with a company if

  • you're assessing a customer's ability to

  • pay you will use these three financial

  • statements as part of your assessment

  • let's take a look at each of these in

  • turn

  • we will start with the mother

  • all financial statements the balance

  • sheet the balance sheet embodies the

  • accounting equation one of the greatest

  • inventions of the human mind invented in

  • Italy over 500 years ago a listing of

  • things we own assets is easy anybody can

  • list assets but the insight from the

  • accounting equation is to then also list

  • where did we get the money to buy those

  • assets the liabilities and the equities

  • now assets they're valuable resources

  • they are the items that will provide us

  • benefit in the future cash for example

  • is the asset that we can all quickly

  • identify if you look for example at the

  • balance sheet of Apple you'll see that

  • Apple had on September 27 2014 13.8

  • billion dollars in cash now that's a lot

  • of money but that's not even close to

  • being Apple's biggest asset accounts

  • receivable that's money that's owed by

  • other people to a company that's another

  • common asset continuing the Apple

  • example at the end of September 2014

  • customers old Apple almost seventeen

  • point five billion dollars Apple also

  • had inventory all those iPods iPads IMAX

  • and iphones at the end of September 2014

  • Apple had inventory totaling over two

  • billion dollars another asset land

  • buildings equipment all of these are

  • resources that a company uses in

  • accomplishing and subjective Apple had

  • twenty point six billion dollars in

  • property plant equipment but apples

  • biggest asset as of September 27 2014

  • was long-term marketable securities

  • these are the stocks and bonds of other

  • companies that Apple has purchased that

  • amount totaled over one hundred and

  • thirty billion dollars apples total

  • assets at the end of September 2014

  • totaled almost two hundred and thirty

  • two billion dollars Wow again

  • assets are resources available to a

  • company that will benefit that company

  • in the future now how does it company

  • finance its assets how did Apple finance

  • that two hundred and thirty two billion

  • dollars in assets if a company has

  • assets then that same company also has

  • to have sources of financing to buy

  • those assets

  • what are these sources well one possible

  • source are liabilities liabilities are

  • obligations to repay money or to provide

  • a service in the future

  • consider for example Walmart where does

  • Walmart get most of its inventory that's

  • the things that Walmart has on its shelf

  • to sell the you and me while suppliers

  • finance it suppliers say you can pay us

  • later we call those accounts payable

  • other liabilities Disney has borrowed

  • money on a long-term basis sometimes

  • very long term a hundred years would you

  • loan money to somebody for a hundred

  • years well maybe not everybody but you'd

  • loan money to Disney to pay you back in

  • a hundred years United Airlines has a

  • very interesting liability when you and

  • I fly on United Airlines we pay first

  • and fly later in the interim United

  • Airlines owes us a ride on a plane

  • that's an obligation turns out that's a

  • liability that's listed on United

  • Airlines balance sheet at the end of

  • 2014 that obligation to provide airplane

  • rides to people who had already paid

  • totaled over 3.7 billion dollars so

  • let's go back to Apple their biggest

  • liability was accounts payable companies

  • that they'd purchased assets from but

  • hadn't yet paid for the amount of their

  • accounts payable was thirty point two

  • billion dollars their second largest

  • liability was long-term debt totaling

  • about thirty billion dollars now you

  • might ask why would a company with

  • almost 14 billion in cash and 130

  • billion in marketable securities be

  • borrowing money but that's a discussion

  • for another day suffice it to say that

  • Apple's liabilities as of the end of

  • September 2014

  • total to 120 billion dollars now the

  • second source of financing to buy assets

  • is owner's equity money provided to the

  • company by owners owners can do this in

  • two general ways they can take money out

  • of their pocket and invest it in the

  • business we call this paid in capital

  • that's the first way that owners invest

  • in their company a second way that

  • owners invest in the company is by

  • leaving profits of the company in the

  • business we call these retained earnings

  • the profits of a business belong to the

  • owners the owners can take the

  • profits out and use them to buy

  • groceries or to buy a boat or whatever

  • else they want to do or the owners can

  • say let's put those profits back into

  • the business

  • we call those retained earnings paid in

  • capital and retained earnings are the

  • amount of money that are provided to the

  • company by the owners to then buy assets

  • in the case of Apple owners have

  • invested about twenty three point three

  • billion dollars into the business that's

  • paid in capital and they have elected to

  • leave in the business since the business

  • was started about eighty nine billion

  • dollars to review remember that Apple

  • had assets of two hundred thirty two

  • billion dollars well how did they

  • finance those assets a hundred and

  • twenty billion dollars worth were funded

  • through liabilities and the remainder

  • were financed by owners to the tune of

  • about a hundred and twelve million

  • dollars now the first thing to note is

  • that they call this financial statement

  • a balance sheet for a reason it balances

  • the accounting equation requires assets

  • to equal liabilities plus owner's equity

  • it has to balance by definition the

  • accounting equation always holds always

  • we can look at a couple of other

  • companies to show how their balance

  • sheet balances consider the following

  • these three companies United Airlines

  • General Motors in Google vary in size

  • and they vary in the degree to which

  • they finance their assets with

  • liabilities but they all have one thing

  • in common their assets exactly equal

  • their liabilities plus their owner's

  • equity even though these are

  • sophisticated companies selling products

  • that are quite innovative and

  • technologically advanced they still

  • follow that same accounting equation

  • that was invented by the Italians over

  • 500 years ago assets equal liabilities

  • plus equity check it for each one and

  • you'll see that they add up they always

  • add up

  • the second primary financial statement

  • is the income statement the income

  • statement tells us revenues minus

  • expenses and that equals net income we

  • use the term revenues and expenses all

  • the time so let's make sure we know what

  • these words mean in an accounting

  • context revenue means the amount of

  • assets generated in doing business and

  • different companies generate assets in

  • different ways Walmart for example

  • generates assets by putting things on

  • shelves that you and I buy we pay

  • Walmart more for the inventory than they

  • themselves paid for it that's how

  • Walmart creates assets Microsoft creates

  • assets by creating software and hardware

  • that you and I then buy and we pay

  • Microsoft for those things Disney has a

  • consumer products they have cruises they

  • have theme parks we pay to use those

  • things or to buy those products and

  • that's how Disney generates assets

  • revenue is the amount of assets

  • generated in doing business hopefully

  • the assets generated are less than the

  • assets consumed expenses are the amount

  • of assets consumed in doing business for

  • example Microsoft consumes assets by

  • paying programmers and by paying for

  • equipment Walmart consumes assets by

  • buying the inventory that they then sell

  • the you and me and then paying rent by

  • having buildings depreciate by paying

  • its employees McDonald's consumes

  • resources by buying food buying paper by

  • renting facilities in each case the

  • revenues hopefully are more than the

  • expenses that are consumed in generating

  • business all of this is put together in

  • the income statement net income equals

  • revenues minus expenses now net income

  • is a very sophisticated economic measure

  • it's the net amount of assets generated

  • by a business through its business

  • operations this is the income statement

  • now let's look at the income statement

  • for some companies of which you've heard

  • Facebook Google Microsoft and Apple all

  • of these companies have income

  • statements that they released to the

  • public on a regular basis now take a

  • look at these first of all you see a

  • difference in scale Apple is so much

  • larger than Facebook in fact Facebook is

  • the smallest company on this list and

  • terms of Revenue yet we talk about

  • Facebook so much this illustrates an

  • important point the financial statements

  • are only one measure of a company's

  • performance a very important measure but

  • only one measure now why do we talk

  • about Facebook so often because for

  • Facebook its operations now are only a

  • small fraction of what we think they're

  • going to be in the future

  • Facebook is expected to grow

  • substantially in the future so we talk a

  • lot about them now the point with the

  • income statement is this a company

  • increases its net assets through

  • profitable operations you can see that

  • for each of these four companies they've

  • all been very profitable as a result

  • their net assets increase year after

  • year

  • the third primary financial statement is

  • the statement of cash flows conceptually

  • the statement of cash flows is quite

  • simple cash in cash out the inside of

  • accountants is to separate those cash

  • flows into three categories operating

  • activities investing activities and

  • financing activities those three

  • categories of cash flows are what are

  • reported in the statement of cash flows

  • now operating activities are what

  • companies do every single day they

  • collect cash from customers they pay

  • cash to buy inventory they pay cash to

  • employees for rent for advertising for

  • research and development all of those

  • things are operating activities think of

  • operating activities as the things that

  • their business does every single day and

  • hopefully a company would generate cash

  • from its operating activities you would

  • hope that a business would be collecting

  • more cash than it spends on a daily

  • basis

  • the second category in the statement of

  • cash flows is investing activities

  • investing means investing in the

  • productive capacity of the business

  • buying machines buying land buying

  • buildings those are investing activities

  • in contrast to operating activities

  • which happen every single day investing

  • activities happen occasionally

  • you don't buy land and buildings every

  • single day you do that on occasion

  • operating activities are things that a

  • business does every day

  • investing activities investing in the

  • productive capacity of the business

  • happen occasionally the third category

  • in the statement of cash flows is

  • financing activities and that is exactly

  • what it sounds like financing borrowing

  • money repaying those loans getting cash

  • or investors paying dividends to

  • investors getting the capital or

  • financing to buy the assets that a

  • business needs now a way to think of the

  • statement of cash flows is with

  • financing activities on getting the

  • financing that is the capital to buy the

  • assets the investing activities to then

  • conduct the operations the operating

  • activities these are the things that our

  • business does the statement of cash

  • flows is built around operating

  • investing and financing activities let's

  • look at examples of the statement of

  • cash flows for three companies about

  • which you may have heard coca-cola Exxon

  • mo

  • and Walmart first thing I want you to

  • look at is well look at the statement of

  • cash flows for ExxonMobil particularly

  • look at their investing activities

  • billions upon billions of dollars of

  • investing activities investing in the

  • productive capacity of these businesses

  • this business needs larger machines and

  • buildings and equipment and lots of land

  • and you see that reflected in the

  • investing cash outflows of ExxonMobil

  • these are often called capital

  • expenditures or capex now I want you to

  • look at the statement of cash flows for

  • coca-cola and Walmart we call these cash

  • cows the reason we call them cash cows

  • is their operations generate more than

  • enough cash to pay for all of their

  • investing activities with cash leftover

  • they're generating a lot of cash

  • wouldn't you like to be a personal cash

  • cow where your daily cash flows were

  • enough to pay for all your cars and your

  • houses and your land and everything else

  • you needed to buy in cash

  • that's coca-cola that's Walmart and

  • that's ExxonMobil now let's step back

  • and remind ourselves why an

  • understanding of these three financial

  • statements is important if you are ever

  • in a position of negotiating with

  • another company and find yourself

  • wondering about the company's long-term

  • viability you will want to know a little

  • something about their financial position

  • well their financial position is

  • summarized quite nicely with using these

  • three financial statements these three

  • financial statements may not tell you

  • everything about a company's future but

  • they do tell you a lot

  • in this section we will discuss how

  • common external financial reports are

  • used by those who are standing on the

  • outside of a company and trying to

  • assess the financial viability on the

  • inside of a company of course it would

  • be preferable if we could just get

  • inside the company to do our analysis

  • but companies do not like outsiders

  • poking around on the inside of their

  • company there's just too much

  • proprietary information that they do not

  • want exposed to outsiders things like

  • cost structures pricing margins and R&D

  • efforts to name a few we must make do

  • with the information that is available

  • another point to keep in mind is that

  • the analysis techniques that we will

  • practice on the external financial

  • statements can be developed and applied

  • within a firm using proprietary firm

  • specific information in other words we

  • will practice the techniques on commonly

  • available information and you can

  • develop unique techniques within your

  • company for analyzing firm specific

  • information so let's begin first of all

  • let's ask the question what is financial

  • ratio analysis we'll begin our

  • discussions by looking at a company most

  • of us are familiar with Ford Motor

  • Company the car company in 2014 they

  • reported income of 3.2 billion dollars

  • is that a lot at December 31st 2014 they

  • reported total assets of 208 point five

  • billion dollars is that a lot and what

  • they do with those assets at the end of

  • December 2014 they had liabilities of a

  • hundred and eighty three point three

  • billion dollars is that a lot and what

  • did they use that money for to answer

  • these and other questions we'll need to

  • carefully analyze Ford's financial

  • statements that brings us to financial

  • ratio analysis which is simply the

  • examination of relationships among

  • financial statement numbers we're going

  • to do a lot of dividing one number by

  • another to draw our conclusions when it

  • comes to ratio analysis we're going to

  • do two types one we're going to compare

  • the same company across time to see how

  • the company is performed over time and

  • secondly at the same point in time we're

  • going to compare across companies

  • for example let's continue with Ford in

  • 2014 they had return on sales of 2.2

  • percent return on sales is simply net

  • income divided by sales which is a

  • measure of how much profit they earned

  • per dollar in 2014

  • 2.2 percent in 2013 they had a return on

  • sales of four point nine percent the

  • obvious question why how did that happen

  • now comparing forward to General Motors

  • during 2014 General Motors had a return

  • on sales of 2.6 percent Ford again 2.2

  • percent again why what has happened to

  • Ford's profitability from 2013 to 2014

  • and during 2014

  • why is General Motors more profitable

  • than Ford those are good questions and

  • we're going to answer them now when it

  • comes to financial ratio analysis I like

  • to borrow a quote from Winston Churchill

  • he said the following the further

  • backward you look the further forward

  • you can see we analyzed financial

  • statements to tell us if a company has

  • done well or poorly in the past and to

  • help us see how the company might do in

  • the future when it comes to financial

  • ratio analysis there's a four step

  • process in this course we're going to

  • introduce you to step one the DuPont

  • framework to breakdown return on equity

  • into its component parts so let's do

  • that next

  • return equity is a general overall

  • measure of how well a firm is doing the

  • DuPont framework brakes return on equity

  • down into three parts profitability

  • efficiency and leverage let's use an

  • example to illustrate we have uncertain

  • balance sheet and their income statement

  • what can we conclude by looking at this

  • for starters we can see that they had

  • total assets of fourteen thousand five

  • hundred dollars sales of twenty thousand

  • dollars and income of seven hundred

  • dollars is that good is that bad it's

  • hard to tell so let's compare them with

  • benchmark company what can we conclude

  • by looking at benchmark and uncertain

  • side by side well the first thing we

  • notice is benchmark is bigger and if we

  • do a little mental math we can conclude

  • well it looks like their net incomes

  • higher relative to their sales but just

  • a raw comparison of benchmarks financial

  • statements with uncertain spine an shil

  • statements that's tough to do there has

  • got to be a way to compare these two

  • different companies of different sizes

  • so we're going to begin with our first

  • financial ratio my favorite and most

  • people's favorite return on equity

  • return on equity is computed by dividing

  • net income by stockholders equity it's a

  • measure of the amount of profit earned

  • per dollar of investment and it's

  • affectionately known as our OE return on

  • equity our OE now let's compare

  • uncertain and benchmarks our OE as you

  • can see the return on equity for

  • uncertain was nine point three percent

  • compare that with benchmark at twenty

  • point three percent

  • what does that nine point three percent

  • mean well it means for every $100 that's

  • been invested by uncertain Zoners those

  • owners earned a return of nine dollars

  • and 30 cents in the most recent year is

  • that good is that bad well it's

  • certainly not as good as benchmark but

  • nine point three percent by itself what

  • does that tell us well in general with

  • respect to return on equity or our OE

  • greater than twenty percent is very good

  • less than 10 percent nuts are good and

  • typically companies are between ten and

  • twenty percent

  • between 10 and 20 percent is normal so

  • in the case of uncertain that 9.3% well

  • that's not good as an example let's take

  • a look at some companies with which

  • we're all familiar it's no surprise that

  • Apple and Microsoft have very good

  • return on equities no surprises at all

  • in the case of GAAP a retail clothing

  • chain their return on equity in 2014 was

  • a stunning forty two point three percent

  • above both Apple and Microsoft Walmart

  • at 19 percent finds itself in the normal

  • range and you can see for both Ford and

  • General Motors that they are at twelve

  • point nine percent and 11.1%

  • respectively at the lower end of the

  • normal range when it comes to return on

  • equity it is a general overall measure

  • of a company's performance for a given

  • period of time and it is the foundation

  • for one of the most amazing creations in

  • accounting history the DuPont framework

  • okay as we saw uncertain how to return

  • on equity of 9.3 percent not good

  • benchmark had a return on equity of

  • 20.3% very good now anybody can see that

  • benchmark is higher than uncertain when

  • it comes to return on equity turns out

  • we can now either be a problem pointer

  • or a problem solver anybody can see that

  • uncertain has a problem what we want to

  • know is why do they have a problem and

  • that brings us in all its glory to the

  • DuPont framework now the DuPont

  • framework has three components

  • profitability efficiency and leverage

  • let's start with leverage because that's

  • the thing we do first when it comes to

  • leverage that's an indication of how

  • much money have we borrowed to purchase

  • assets and why do we purchase assets we

  • purchase assets in hopes of generating

  • sales the leverage measure tells us of

  • our assets how many were acquired with

  • the equity that's been put into the

  • company we've borrowed to buy it gives

  • us a measure of how much we've borrowed

  • to buy assets and why do we buy assets

  • to generate sales that's what the

  • efficiency ratio is measuring we buy

  • assets to generate sales the more sales

  • we can generate per dollar of assets the

  • better and why do we want sales that

  • leads us to our profitability measure

  • the more sales we have the higher our

  • income is going to be so first of all we

  • borrow money to buy assets we buy assets

  • to generate sales we generate sales to

  • generate income our return on equity

  • measure tells us how much income would

  • did we generate given a fixed amount of

  • stockholders equity that's been invested

  • by the owners in the firm

  • now with that framework let's take a

  • look at uncertain vs. benchmark and use

  • the DuPont framework to identify not

  • only how uncertain is done but why they

  • have performed poorly relative to

  • benchmark so we can see the two

  • company's return on equity and the

  • DuPont framework ratios here uncertain

  • with 9.3 percent return on equity

  • benchmark with 20 point three percent

  • and we can

  • also see the profitability measures the

  • efficiency measures and the leverage

  • measures for uncertain and benchmark to

  • review we look at leverage efficiency

  • and profitability for uncertain and

  • benchmark and the first thing we notice

  • is that leverage is the same for both

  • companies

  • so in explaining the difference in

  • return on equity between uncertain and

  • benchmarks it can't be attributed to

  • leverage so then we look at efficiency

  • and we find out that uncertain generates

  • a dollar and 38 cents in sales for every

  • dollars worth of assets it has compared

  • to benchmark which generates a dollar

  • and 70 cents in sales for every dollars

  • worth of assets they have then we look

  • at profitability when it comes to

  • profitability uncertain is generating 3

  • dollars and 50 cents in profit for every

  • hundred dollars in sales compared to

  • benchmark which is generating 6 dollars

  • and 20 cents in profit for every hundred

  • dollars worth of sales so why is

  • benchmarks return on equity so much

  • higher than uncertain profitability and

  • efficiency benchmark is much better at

  • generating sales with its assets and

  • generating earnings with the sales that

  • it has so now do we have any other

  • questions well when it comes to

  • efficiency which specific assets are

  • being used inefficiently by uncertain

  • which expenses are too high which would

  • account for their lower profitability we

  • want to know the answer to those

  • questions and we would do further

  • analysis to get there

  • okay we've now completed step one using

  • the DuPont framework to break down

  • return on equity into its component

  • parts now what well it turns out that

  • the numbers can tell you what has

  • happened additional analysis can shed

  • light on why things happen the numbers

  • as we're going to find sell them provide

  • the answers to questions the numbers

  • point you in the direction of the next

  • question and eventually we're going to

  • end up talking to an individual so to

  • review the DuPont framework analysis is

  • the first step we do that first we take

  • return on equity and break it down into

  • a profitability efficiency and leverage

  • the second step in our analysis would be

  • to prepare common sized financial

  • statements common size financial

  • statements allow us to compare companies

  • of different sizes both across time or

  • at the same point in time across

  • companies step two would be common size

  • financial statements based on that

  • analysis we then have additional ratios

  • we could use we have profitability

  • ratios we have efficiency ratios and we

  • have leverage ratios as we saw with Ford

  • versus General Motors we had differences

  • relating to efficiency GM was more

  • efficient at using assets to generate

  • sales well we can then go and analyze

  • individual assets to see which assets

  • are generating more sales and which

  • assets are not in addition we saw that

  • with Ford and GM GM was more profitable

  • there are ratios that allow us to drill

  • down to find out specifically where we

  • might be missing on profitability

  • where's the difference between Ford and

  • General Motors when it comes to

  • profitability with a little further

  • analysis we could answer that question

  • the first three steps are simply doing

  • analysis with available information to

  • lead us to the next clue we drill down a

  • little more and a little more for

  • example we didn't need to drill down

  • with leverage because we saw that Ford

  • was much more highly leveraged than with

  • General Motors we don't have additional

  • questions there but if we did there are

  • ratios related to leverage that we could

  • look at all of this analysis eventually

  • leads us to the right person who can

  • tell us why we are different from our

  • competitor or why we were different

  • from last year we do this analysis to

  • get us to the right person to ask the

  • right question that's where we're headed

  • with all this now as I said before the

  • objective with this course is not to run

  • through the entire menu of financial

  • ratio tools that one can use to analyze

  • the numbers if you want more of that go

  • visit our course on understanding

  • financial ratios

  • our primary objective here was to show

  • that a careful analysis of the numbers

  • can allow us to draw certain conclusions

  • about the operations of a business we

  • have used publicly available information

  • to do that but you can do a similar

  • analysis within the firm that is

  • available only to you the point is this

  • a careful analysis of numbers across

  • time can allow us to identify issues

  • that deserve further attention you do

  • not need to be a numbers person to do

  • that

  • everyone numbers person or not knows

  • that cash is the lifeblood of a business

  • without cash you will not be in business

  • for very long you can have a great

  • marketing plan you can have a great

  • location you can have a great product or

  • service but if you don't turn your cash

  • into more cash you will not be in

  • business for very long to begin we'll

  • talk first about a company's operating

  • cycle how long it takes from when a

  • company buys inventory and then turns

  • that inventory into a receivable and

  • then returns that receivable into cash

  • if the operating cycle is too long

  • things get pretty tough pretty quick for

  • a company in other words if my cash is

  • tied up in other assets receivables in

  • inventory that it's not available for me

  • to utilize in the business remember when

  • we are talking about finance we are

  • talking about identifying those

  • resources that we need determining the

  • best way to get the money to buy those

  • resources and then managing those

  • resources effectively to do that I need

  • detailed timely information in this

  • section we're going to talk about

  • short-term financial management we are

  • going to illustrate that using the

  • operating cycle of a wholesale building

  • supply company you will notice in this

  • diagram that we've got various points on

  • the clock

  • we begin with cash we take that cash and

  • we have to purchase inventory so we have

  • to have relationships with our suppliers

  • we have got to have suppliers that we

  • can count on to get us what we need when

  • we need it

  • once we've purchased that inventory we

  • now have to manage our inventory the

  • last thing we want is not enough

  • inventory the worst thing that can

  • happen to a business is to run out of

  • inventory when a contractor comes in and

  • needs sheetrock we've got to have it we

  • don't want to ever run out of inventory

  • but then we don't want too much

  • inventory we've got to have what they

  • need when they need it then we will have

  • customers come in to make the purchase

  • they will want to buy stuff from us well

  • we've got to manage relationships with

  • our customers we will have large

  • customers we will have small customers

  • we will have customers we like and we

  • will have customers that just are our

  • favorites we've got to ensure that we

  • have a system to manage those

  • relationships you will note that once we

  • make the sale then we end up with a

  • receivable we have got to manage our

  • receivables as well to ensure that we

  • have prompt collections we may provide

  • our contractors with terms but if we

  • don't send them a bill they're just not

  • going to magically pay us we have got to

  • manage our receivables to ensure that

  • this operating cycle this conversion

  • from inventory to receivables to cash

  • works and that we eventually get our

  • cash in a timely fashion we are going to

  • have to manage this operating cycle

  • continuously and we will need

  • information to do that in this chapter

  • we are going to talk about managing our

  • cash numbers person or not we need to

  • watch cash flow the objective of a

  • business is not to have a lot of

  • inventory the objective of a business is

  • not to have a lot of people owe us money

  • the objective is to manage our inventory

  • and our receivables so that we convert

  • our inventory into cash as quickly as is

  • reasonably possible

  • so let's begin by talking about cash

  • management how to manage the cash we

  • have why should we have any cash at all

  • as we know cash is a low yielding asset

  • you don't make a lot of return on cash

  • so you don't want to have too much but

  • then you don't want to have too little

  • either well why have cash at all well it

  • turns out that bills have to be paid in

  • cash employees have to be paid in cash

  • rent has to be paid in cash insurance

  • has to be paid in cash we've got to

  • manage our cash to ensure that we have

  • it when we need it

  • that requires computers that require

  • staff that requires sophisticated

  • projections to ensure that we can

  • forecast are we going to have enough

  • cash when we need it a cash shortfall

  • would be inconvenient and potentially

  • costly for example if payroll is due on

  • Friday and it turns out that you don't

  • have the cash there the consequences are

  • going to be tragic so we have to make

  • sure we have sufficient cash why not

  • have a lot well as I said earlier cash

  • is a low yielding asset to have cash

  • sitting in your savings account you're

  • not to going to get a very large return

  • on that the opportunity cost of holding

  • cash can be very high so to ensure we

  • have not too much and not too little

  • there are tools that we have to manage

  • our cash one common tool is a cash

  • budget we can carefully plan and solve

  • cashflow problems in advance it turns

  • out over time we can predict with some

  • degree of certainty when will our

  • customers pay us we can predict with

  • some degree of certainty when are we

  • going to have to pay our suppliers and

  • what we want to do is identify well in

  • advance when are we going to need cash

  • we don't need to guess we can determine

  • ahead of time by making a cash budget so

  • a cash budget allows us to determine

  • when are we going to have shortfalls of

  • cash and when are we going to have

  • excesses in cash and then we can have

  • strategies to ensure we're ready for

  • both of these eventualities

  • okay we just talked about cash

  • management now let's talk about

  • receivables management recall that

  • receivables are the amounts of money

  • owed to us by customers we want to

  • manage our receivables to ensure that

  • they turn into cash but let's ask the

  • question why would anybody have

  • receivables in the first place why not

  • just sell for cash well it turns out

  • credit sales are a marketing technique

  • it turns out if we will offer credit we

  • will get more sales if I'm offering you

  • a product and you have to pay cash here

  • and my competitor down the road is

  • allowing you to pay in 30 days for the

  • same product you'll go down there

  • although the things being equal

  • now if credit sales increase sales why

  • not have for credit to everyone well it

  • turns out if you offer credit to anyone

  • and everyone there will be a lot of

  • people who won't pay you you'll have bad

  • debts associated with that and so it's a

  • trade-off I'll increase my sales but

  • I'll have people who won't pay me I've

  • got to measure that trade-off to ensure

  • that those increased sales are worth it

  • I've got to be careful who I extend

  • credit to in addition if you're going to

  • get into the credit business you got to

  • keep track of that very rarely will

  • someone come in and say I know how are

  • your money but I don't know how much

  • will you tell me and will you take my

  • money they will send you money when you

  • send them a bill so you've got to keep

  • track of who owes you and how much they

  • owe and you've got to send them a bill

  • to ensure that they pay you in addition

  • by tying up money into receivables that

  • is an opportunity lost it turns out if

  • you had had that cash instead you can

  • invest it

  • so there's another part of the trade off

  • for example Boeing in 2014 had

  • accountable of seven point seven billion

  • dollars that is customers owed them

  • seven point seven billion dollars at

  • year-end if they had that seven point

  • seven they could have invested it and

  • earned a return on it but I'm sure

  • they've done the calculation that

  • offering credit increased their sales

  • and more than makes up for any implicit

  • interest cost that they've lost now when

  • it comes to determining who do we offer

  • credit to companies have to manage what

  • their standards are going to be many

  • companies are careful who they offer

  • credit to to ensure that they receive

  • payment and reduce their bad debts

  • how long are you going to offer credit

  • are people going to pay you in 30 days

  • 60 days 90 days if they pay early will

  • you offer a discount if they pay late

  • will you charge interest those are

  • decisions when it comes to managing

  • receivables that have to be made and if

  • they don't pay you what do your practice

  • is going to be to ensure that eventually

  • you do collect your receivables all of

  • those things have to be determined when

  • you're managing receivables now what

  • starts this off inventory we buy

  • inventory and we turn it into a

  • receivable that receivable is eventually

  • turned into cash when it comes to

  • inventory how are we going to manage our

  • inventory to ensure that we have the

  • right amount of inventory well why have

  • inventory at all well it turns out if

  • somebody walks into your store and you

  • don't have the product they will go

  • somewhere else and they may not come

  • back companies carry inventory to ensure

  • that when a customer needs inventory

  • they can find it at your store well then

  • why not just have a lot of inventory why

  • not make sure we never run out of

  • inventory well it turns out there are

  • costs associated with inventory as well

  • if our money is tied up in inventory

  • it's not available to be tied up

  • anywhere else we can't do anything with

  • that money if we've already got it tied

  • up in inventory we can't buy equipment

  • we can't expand our building if our

  • money's tied up in inventory so we don't

  • want to have too much when it comes to

  • inventory we've got to implement the

  • Goldilocks principle not too much and

  • not too little when it comes to

  • inventory we want to make sure it's just

  • right so again why is this important to

  • you regardless of your position in an

  • organization cash is still King

  • decisions that you make perhaps far away

  • from the front lines of a business can

  • push cash further away or draw closer to

  • collection virtually every decision in a

  • business has cashflow implications and

  • remember that cash is the lifeblood of a

  • business those who can see beyond their

  • own area of responsibility and recognize

  • the cash flow implications to the

  • business of decisions that they make are

  • more valuable than those who don't

  • again you don't have to become a numbers

  • person but it is helpful to the business

  • and to you if you can appreciate the

  • effect of your decisions on the numbers

  • of the business particularly the cash

  • flow numbers

  • what can be so hard about pricing a

  • product don't you just figure out what

  • your costs are and then add some sort of

  • markup for profit oh that it were that

  • easy

  • if your price is too high regardless of

  • your cost someone in the market will

  • underpriced you assuming that the

  • quality of product or service is similar

  • in many cases you will be a price taker

  • and you will have to manage your costs

  • so that you can earn a profit given a

  • certain price is determined by the

  • market now let me say that again in most

  • instances you don't price your product

  • to cover your costs instead you

  • determine if given a certain market

  • price your cost structure is such that

  • you can earn a profit

  • the biggest mistake small business

  • owners make in product pricing is not

  • considering and covering all of their

  • costs when entering a market now it is

  • true that when you are initially trying

  • to penetrate a market you may be willing

  • to lose a little money to gain market

  • share but that strategy is not

  • sustainable over time over the long term

  • you must cover all your cost all your

  • costs now let's consider a really simple

  • example to illustrate a very complex

  • point it's summer time and I'm going

  • into the snow cone business you know

  • finely crushed ice that is flavored

  • perfect for those hot summer days I have

  • figured that on average the paper cone

  • costs about 3 cents per snow cone the

  • ice and the snow cone costs about 2

  • cents per snow cone that's 5 cents per

  • cone oh and let's not forget about the

  • flavoring I estimate that on average

  • those flavors will cost about 45 cents

  • per cone so the cost of a snow cone is

  • about 50 cents each and I figure that on

  • those hot summer days I can sell a snow

  • cone for $2 each after all that's the

  • going rate at other snow cone shacks

  • that means I will make a dollar fifty

  • per snow cone that sounds like a money

  • machine to me but not so fast to this

  • point I have only considered my variable

  • cost those costs that vary depending on

  • the number of cones I produce another

  • way to think about it is that these

  • costs stay the same for each cone they

  • vary

  • in direct proportion to the number of

  • cones I sell the more cones sold the

  • higher the cost of cups the cost of ice

  • and the cost of flavoring but what about

  • my fixed cost those costs that are fixed

  • whether I sell one snow cone or a

  • thousand costs like the machine to crush

  • the ice the snow cone shack to house my

  • equipment the bottle is holding the

  • flavors and then there are my employees

  • they get paid whether I have one

  • customer or a hundred customers these

  • costs are incurred regardless of the

  • number of customers in other words these

  • costs are fixed and these fixed costs

  • have to be covered so the dollar fifty

  • that I initially thought of as profit is

  • actually a term called contribution

  • margin contribution margin is the

  • difference between the selling price $2

  • per snow cone in this example and my

  • variable costs 50 cents

  • the contribution margin contributes to

  • cover my fixed costs once my fixed costs

  • are covered then each subsequent sale is

  • contributing a dollar 50 towards profits

  • but until my fixed costs are covered by

  • the cumulative contribution margin I'm

  • not making any profits these fixed costs

  • are often considered overhead costs and

  • overhead costs must be covered now why

  • are they called overhead costs well look

  • up many of those costs are the costs

  • over your head the building the lights

  • the other utilities and they all have to

  • be covered have you ever taken your car

  • and to get the oil changed you get 4

  • quarts of oil and a new oil filter and

  • someone takes 15 minutes to drain your

  • oil and replace it and it costs you 50

  • bucks for quarts of oil at about $3 per

  • quart and a new oil filter for five

  • dollars and fifteen minutes of someone's

  • time and you get charged $50

  • someone is making some money there but

  • wait what about the mechanics equipment

  • the building the computer system to

  • process payments and track your car's

  • history the other overhead items all

  • those costs have to be covered and if

  • they are not all covered then this

  • business is not going to be in business

  • for very long now back to the snow cone

  • business

  • if I am not making enough money on the

  • sno-cones I'm selling then I will just

  • raise the price remember there are snow

  • cone shacks all over if your price gets

  • too high then your customers become

  • someone else's customers they will vote

  • with their feet often you cannot just

  • set your price and assume people will

  • pay what you are asking it is a

  • competitive environment out there

  • whether you are selling snow cones

  • changing oil and cars or selling

  • software on the Internet it is very rare

  • that one can simply ignore market forces

  • in charge what they want the market is

  • too competitive for that more often than

  • not companies are price takers you must

  • take the price that the market is

  • offering and then determine if your cost

  • structure is competitive and when you

  • are considering your cost structure you

  • have to consider all of your costs

  • in the previous video we talked about

  • the necessity of considering all your

  • costs when trying to determine if you

  • can compete in a market okay so now the

  • big question can we be profitable given

  • a market price of two dollars per

  • snowcone that's a tough question to

  • answer and it's also the wrong question

  • to ask but if we're determined to remain

  • a not numbers person our entire life

  • those are the types of questions we will

  • be asking the wrong questions the right

  • question to ask is how many people must

  • come for us to be profitable clearly if

  • a million people stop by and buy snow

  • cones we will be profitable if only ten

  • people stop by then we will have a

  • problem and it turns out we can

  • calculate how many people will need to

  • stop by for us to what is called

  • breakeven we can compute our break-even

  • point that is the point at which we

  • exactly cover our fixed costs in other

  • words we haven't made money and we

  • haven't lost money we've broken even so

  • how do we do that well we now need to

  • track our fixed costs recall that we

  • need machinery to crush the ice we need

  • containers for our flavors we need a

  • structure to house our business and

  • store our ice and we need to pay

  • employees for simplicity's sake we will

  • assume that these are all of our fixed

  • costs let's assume that these fixed

  • costs totaled $3,000 per month

  • recall that our contribution margin per

  • sale was a dollar fifty if we divide our

  • contribution margin into our fixed costs

  • we are able to compute our break-even

  • point we are able to compute the number

  • of sno-cones we will need to sell to

  • break-even in this instance we divide

  • $3,000 by a dollar fifty with the result

  • being two thousand sno-cones we need to

  • sell two thousand snow cones to exactly

  • cover our fixed costs rather than ask

  • the question can we be profitable

  • selling snow cones at $2 each a better

  • question is at $2 per snow cone will we

  • be able to sell 2,000 each month two

  • thousand snow cones per month means we

  • will need to sell on average 67 snow

  • cones each day assuming 30 days in a

  • month

  • that we are open every day assuming we

  • are open eight hours per day will we be

  • able to sell on average about 8.4

  • sno-cones each and every hour we are

  • open some hours we may sell more and

  • some hours we may sell less but on

  • average can we sell 8.4 sno-cones per

  • hour that is a nice number to know

  • before you decide to get into the

  • snowcone business now you can go sit

  • across the street from your nearest

  • competitor and watch how many customers

  • they have each hour if you observe that

  • they have 20 customers per hour then

  • this might be a business you want to get

  • into if they service on average about

  • five customers per hour you might want

  • to rethink this business opportunity and

  • isn't it nice to know this information

  • before you rent the building and the

  • machine to crush the ice and before you

  • buy the flavor containers and hire

  • employees can this business be

  • profitable well that depends on how many

  • customers you can expect and we can

  • compute the number of customers we will

  • need through a careful analysis of our

  • fixed and variable costs but wait no

  • business is started with the objective

  • of simply breaking even you don't open

  • the doors of a new business hoping that

  • you make nothing you start a new

  • business hoping to make a profit can we

  • build a target profit into our

  • computations we sure can let's assume

  • we're getting into the business with the

  • intent of generating a profit of $2,000

  • per month you simply treat that number

  • similar to a fixed cost in other words

  • now our contribution margin needs to

  • cover our fixed costs of $3,000 per

  • month and a desired profit of $2,000 per

  • month for a total of $5,000 per month we

  • divide this $5,000 by our contribution

  • margin of a dollar fifty per sno-cone

  • and the result is 3333 in other words to

  • generate a target profit of $2,000 we

  • will need to sell 3333 sno-cones each

  • and every month or a hundred and eleven

  • per day or given an eight-hour day about

  • fourteen sno-cones on average per hour

  • can we start this business and generate

  • a profit of $2,000 per month

  • numbers person would say I hope so I

  • think so

  • probably but with a little effort and

  • using a few numbers we can quantify our

  • costs and ask a better question can we

  • sell an average of 14 snow cones each

  • hour if the answer to that is yes then

  • you are well on your way to running a

  • profitable business

  • nobody likes to talk about budgeting

  • especially individuals who consider

  • themselves non numbers people budgeting

  • is for the accounts to do and to worry

  • about let the people who are good with

  • the numbers worry about the numbers let

  • them worry about budgeting well that's

  • one way to think about it another way to

  • think about it is this those who

  • demonstrate that they are good stewards

  • over a few things will typically be

  • given the opportunity to grow and

  • develop to become good stewards over

  • many things as we said in a previous

  • module cash is the lifeblood of a

  • business individuals who are good

  • stewards over the lifeblood of the

  • business are valuable and will generally

  • be given more responsible opportunities

  • so let's talk about budgeting step one

  • when it comes to budgeting is to write

  • your budget down another way to think

  • about a budget is just to think of it as

  • a plan a map and the plan needs to be in

  • writing how will you know if you

  • achieved your plan if it's not written

  • down now there are various types of

  • budgets some budgets involve inflows and

  • outflows for example a budget for an

  • entire company will involve cash

  • collections and cash expenditures a

  • budget for a department within a company

  • may only involve expenditures step 2

  • when it comes to budgeting is to

  • identify those areas for which you are

  • responsible and which you control

  • responsibility accounting generally

  • holds individuals accountable only for

  • those inflows and outflows over which

  • they have control let's use a simple

  • example to illustrate the effective use

  • of budgeting let's suppose that I am the

  • purchasing agent for a company that

  • manufactures wood tables my job is to

  • purchase the wood that goes into the

  • table tops what then would I be

  • responsible for well it makes sense to

  • me that I should be responsible for the

  • price paid for the wood as well as for

  • the quality of the wood that is

  • purchased if poor quality wood is

  • purchased and that wood cannot be used

  • in the production of the tables that is

  • my fault and I should be held

  • accountable in addition it is my job to

  • negotiate the best possible price on the

  • quality wood purchases those are the two

  • items

  • that ought to be considered as I prepare

  • my budget the price of the wood

  • purchased and the amount of waste and

  • spoilage relating to poor quality wood

  • step three in the budgeting process is

  • to quantify expected results that is to

  • forecast or budget quantities for the

  • budget period let's say a month in this

  • case the production forecast for the

  • upcoming month indicates that the

  • company will produce 500 tables the

  • company's standard is that 15 board feet

  • going to a table and that the price is

  • $4 per board foot doing the math

  • indicates that I will need to acquire

  • 7500 board feet of wood at a cost of

  • $30,000 to keep things simple let's

  • assume that I have no beginning or

  • ending inventory of wood I just buy what

  • I need for that month's production my

  • budget is as simple as that

  • you will note that my budget doesn't

  • just deal with dollars in this case I am

  • responsible for materials usage as well

  • this is a quantitative number that tells

  • me something about the efficiency with

  • which assets are used in this case wood

  • the fourth step in budgeting is to

  • compare actual results to the budget

  • let's assume that production forecast

  • was right on and that exactly 500 tables

  • were produced you can see here that we

  • actually purchased 7700 board feet to

  • produce those 500 tables at a cost of 4

  • dollars and 25 cents per board foot from

  • this analysis it looks like I overspent

  • by two thousand seven hundred

  • twenty-five dollars for the month and I

  • should be responsible for explaining how

  • that two thousand seven hundred

  • twenty-five dollars came about and that

  • leads us to the fifth step we need to

  • ask questions to determine why the

  • deviations from the plan occurred did we

  • need two hundred more board feet because

  • I purchased lower quality wood or was it

  • because those involved in the production

  • process were inefficient I want to know

  • the answer to that question was this my

  • problem or was the overage the result of

  • someone else's doing also I paid 25

  • cents more per board foot than I had

  • planned what happened there was it poor

  • planning on my part or have prices

  • increased to the point where the new

  • normal is now going to be four dollars

  • and 25 cents per board foot I want to

  • know the answer to that question

  • you can see with this simple example

  • that I can now use the numbers to ask

  • questions that need to be answered and I

  • can only ask these questions because I

  • had a plan I made a budget a budget

  • allows us to take a look into the future

  • and make our best guess and when we get

  • into the future we can then look back

  • and see how our actual results compared

  • to what we had planned once we identify

  • the differences we can then start asking

  • questions

  • but without a plan without a budget all

  • we can do is wonder what happened

  • let's review the steps associated with a

  • simple budgeting process step 1

  • write your budget down I like the quote

  • a goal unwritten is just a wish if our

  • budget isn't in writing we might as well

  • just cross our fingers close our eyes

  • and hope for the best

  • step 2 identify those areas for which

  • you are responsible in which you control

  • it's not fair and that means generally

  • that it's not good business to have

  • someone be accountable and answerable

  • for something over which they have no

  • control step 3 is to quantify expected

  • results this is the budget or the plan

  • those quantities may be in dollars as

  • was the case with the price per board

  • foot in our example or they may be in

  • units as was the case with the number of

  • board feet to be purchased a budget is

  • not necessarily about money it is about

  • responsibility if you are responsible

  • for the money then your budget should

  • reflect the money if you are responsible

  • for quantities then your budget should

  • reflect those quantities step 4 is to

  • compare actual results to the budget you

  • should be able to identify deviations

  • from the budget those are the items of

  • interest we need to know more about

  • those deviations and that leads us to

  • the final step in the budgeting process

  • step 5

  • ask questions to determine why the

  • deviations from the plan occurred there

  • may be legitimate reasons for variances

  • from the plan and then again those

  • deviations may be the result of poor

  • planning or poor execution this final

  • step in the budgeting process highlights

  • a point we have made throughout this

  • course the numbers often don't provide

  • the answers instead they identify where

  • we need to go to ask the next question

  • the numbers assist us in getting to the

  • bottom of things but the numbers aren't

  • the bottom of things people are at the

  • bottom of things it's the people who

  • make things happen

  • the numbers just help us get to the

  • right people

  • even numbers people can be scared of

  • income taxes taxes make us nervous

  • because we're not sure we understand all

  • the tax implications of our business

  • decisions it is of critical importance

  • to engage a professional when in doubt

  • but with that said an overview of the

  • purpose of the income tax system can

  • take some of the edge off so what is an

  • income tax and income tax is a required

  • payment to a government based on the

  • amount of a person's income or a

  • company's profit now that seems like

  • such a simple statement but there's so

  • much controversy and intrigue right

  • there in that simple statement for

  • example to what government the

  • government where I live the government

  • wire and the money or the government of

  • which I'm a citizen so that needs to be

  • decided in income tax accounting income

  • taxes are based on what based on a

  • straight percentage of taxable income

  • based on an increasing percentage that

  • leads us to the next obvious question

  • what is taxable income how is income or

  • profit defined are there allowable

  • expenses that can be subtracted in the

  • computation of that income now income

  • taxes are an important tax but not the

  • only tax but computing our income taxes

  • is what makes most of us especially

  • nervous why because the income tax code

  • regulations interpretations and

  • legislative history in the United States

  • occupy seventy three thousand nine

  • hundred and fifty four pages as of the

  • end of 2013 so we will spend a little

  • time talking about income tax terms and

  • concepts now we don't all need to be tax

  • experts but we should all be familiar

  • with basic income tax issues tax

  • brackets tax rates and the difference

  • between tax deductions and tax credits

  • to name a few again our objective here

  • is not to make you tax experts but to

  • provide information to make you a more

  • informed decision maker

  • now we're going to talk about a simple

  • income tax system we're going to use a

  • lot of terms for example we're going to

  • go through and define each one of these

  • a tax rate and a tax bracket what's the

  • difference between those two we're going

  • to talk about these terms and illustrate

  • these terms using a simple tax system

  • now in this simple tax system we have

  • the following criteria for income from 0

  • to $50 you're not going to pay any tax

  • no income tax at all for all income

  • above $50 the income tax rate is 50% so

  • in this simple tax system how much

  • income tax would you pay if you made $50

  • or 51 dollars or $100 now for all income

  • over $50 you've got to pay a rate of 50%

  • so this is going to make our calculation

  • very simple again this has all the

  • elements of the tax systems of the

  • United States and the European Union and

  • Hong Kong and China and everywhere else

  • we'll use this to represent the tax

  • systems around the world we'll answer

  • these questions under this tax system

  • how much would you pay if you made $50

  • what if you made $51 what if you made

  • $100 let's do the computation in each

  • one of these three cases first of all if

  • you make $50 you don't pay any income

  • tax under this system the first $50 is

  • tax free so that's a pretty easy

  • computation to do all right but what if

  • you make $51 okay again for the first

  • $50 you still pay no taxes that 50 first

  • dollar you're going to pay at a tax rate

  • of 50% so your total tax that you're

  • going to pay is 50 cents this

  • illustrates the important notion of the

  • tax bracket you'll sometimes hear people

  • complain I got a raise so now I'm in the

  • next tax bracket well that's kind of a

  • naive comment and I'll show you why the

  • first tax bracket in this case is from 0

  • to $50 and the rate on this first $50 is

  • always zero no matter how much you make

  • ever so when you make the 51st dollar

  • you go up into that next tax bracket

  • where your income is taxed at a rate of

  • 50% that

  • rate is not applied retroactively li you

  • don't have to go back and pay 50 percent

  • on the first $50 the first fifty dollars

  • is never taxed and the rate is always

  • zero that's the first tax bracket the

  • second tax bracket in this simple

  • example is everything over $50 and at

  • the second tax bracket yes the tax rate

  • is 50 percent but let's think should we

  • be sad that we got a raise in this case

  • we went from making $50 to $51 has that

  • cost us any money well no it does not

  • cost us because when I make $50 I have

  • the $50 and I don't pay any tax if I

  • make $51 yes it's true that I now have

  • to pay half of that 51st dollar in tax

  • so I have to pay 50 cents in tax but I

  • get to keep half of the 51st dollar so

  • that I now have 50 dollars and 50 cents

  • going to the next tax bracket doesn't

  • cost you any money it just means that

  • you have to pay a different tax rate on

  • the extra income that you're going to

  • make so don't be afraid of making more

  • money and going into the next tax

  • bracket that is a cause for celebration

  • okay we've talked about tax brackets now

  • let's talk about tax rates under this

  • simple tax system how much tax do you

  • pay if you make $100 well again the

  • first $50 is never taxed at all so the

  • tax that you pay on that is 0 the second

  • $50 is taxed at the rate of 50% so

  • you're going to pay a total of $25 in

  • tax if your taxable income is a hundred

  • this allows us to discuss two important

  • concepts the average tax rate and the

  • marginal tax rate the average tax rate

  • is simply the tax that you owe 25

  • dollars in this case divided by how much

  • you've made $100 in this case 25 dollars

  • divided by a hundred dollars that's 25

  • percent that's the average tax rate and

  • it's a very intuitive notion what's the

  • average tax rate for all taxpayers in

  • the United States it's somewhere between

  • 17 percent and 20 percent that's the

  • average tax rate

  • the tax that they have to pay / the

  • amount that they make in this case it's

  • 25% that's the average tax rate if you

  • make $100 economists say that the more

  • important rate than the average tax rate

  • is the marginal tax rate the marginal

  • tax rate is the rate I'm going to pay on

  • the next dollar that I make in this case

  • if you make $100 your average tax rate

  • is 25% your marginal tax rate is 50%

  • that is if I work a little harder and

  • make another dollar fifty percent of

  • that is going to pay for income taxes

  • tax brackets tax rates these and other

  • factors influence individuals and

  • businesses when making financial

  • decisions we should always consider the

  • tax implications of those decisions

  • so let me ask you a question which would

  • you prefer a tax deduction or a tax

  • credit well by the end of this chapter

  • hopefully you'll be able to answer that

  • question now recall in our previous

  • example we took our taxable income and

  • multiplied it by our tax rate to

  • determine how much in tax we owed well

  • what's the impact of a tax deduction in

  • our simple tax system let's again assume

  • we made $100 remember the first $50 is

  • never taxed the second $50 would be

  • taxed at the 50% rate so you're going to

  • pay 25 dollars in tax total now let's

  • say of that hundred dollars you decide

  • to spend ten dollars in a way that the

  • government favors perhaps you spend that

  • ten dollars as a charitable contribution

  • or you spend that ten dollars paying

  • mortgage interest on your home so the

  • government says yep we want to encourage

  • that behavior that's a good way to spend

  • 10 dollars then you're going to get a

  • tax deduction for that ten dollars so

  • how does that tax deduction enter into

  • your payment of taxes well now you have

  • to compute your taxable income you've

  • made $100 but ten dollars of that was

  • spent in a special way which is tax

  • deductible so your taxable income is

  • only $90 the first 50 dollars is still

  • tax-free now the second $40 is taxed at

  • the 50 percent rate so you're only going

  • to pay twenty dollars in tax so you see

  • here that the tax deduction of ten

  • dollars reduces your income tax from $25

  • to $20 after you subtract the tax

  • deduction the effect is that tax

  • deductions reduce your taxable income

  • again what are tax deductions their

  • expenditures by individuals that the

  • government favors and wants to encourage

  • now if I have a business and I make $100

  • but I then use ten dollars of that to

  • pay wages to my employees or pay

  • electricity on my building or pay

  • property taxes these are tax deductions

  • any legitimate business expense is going

  • to qualify as a tax deduction and reduce

  • my taxable income and as a result reduce

  • my taxes now let's contrast

  • deduction with a tax credit in the case

  • of a tax deduction remember that that

  • reduced our taxable income what's the

  • difference between a tax deduction and a

  • tax credit well a tax credit directly

  • reduces your taxes let's go back to our

  • same example you make $100 in our system

  • the first $50 you pay no tax

  • the second $50 you pay the rate of 50%

  • so you're going to end up again paying

  • $25 in taxes that's great now let's say

  • that you pay 10 of those dollars in a

  • very favored way according to the

  • government maybe you spend the $10

  • increasing the energy efficiency of your

  • home you put solar panels on the roof

  • you did something that the government

  • really wants to encourage in this case

  • they're not going to give you a tax

  • deduction they're going to give you a

  • tax credit so how does the tax credit

  • differ from a tax deduction when you

  • compute your tax remember we pay no tax

  • on the first $50 on the second $50 our

  • tax rate is 50% so you're going to owe

  • 50% of that $50 or $25 but if the

  • government says we're going to give you

  • a tax credit on that $10 expenditure

  • what they're going to allow you to do is

  • to reduce your $25 in taxes down to $15

  • a tax credit directly reduces the amount

  • of taxes you owe so which is better the

  • tax deduction or the tax credit well we

  • see that the $10 tax credit reduced my

  • income taxes from $25 down to $15 if it

  • was a tax deduction it reduced my taxes

  • from $25 down to $20 the tax deduction

  • reduces my taxes by $5 so if somebody

  • gave you your choice if you want a $10

  • tax deduction or a $10 tax credit you

  • show them how wise you are you take the

  • tax credit when it comes to income taxes

  • they can make even the status of Hearts

  • a little nervous so if you're not a

  • numbers person you're not alone when it

  • comes to income taxes but truth be told

  • the basic concepts behind income taxes

  • are easy to understand

  • different tax rates different tax

  • that's the difference between a tax

  • deduction and a tax credit we can

  • understand those ideas when it comes to

  • the details of completing a tax return

  • that can get tough but our objective

  • here has been to help us become

  • comfortable with terms and concepts

  • hopefully we were able to do exactly

  • that

  • you

  • well we made it we've been introduced to

  • some of the basics of accounting and

  • Finance and we've lived to tell about it

  • so what should you do next first

  • appreciate that numbers are tools they

  • are not to be feared they're to be used

  • numbers can assist you in becoming a

  • better manager in whatever area of the

  • business you function you can use

  • numbers to your advantage and

  • supply-chain Human Resources strategy or

  • wherever you find yourself in a business

  • second have the courage to use numbers

  • in your job there are ways to apply the

  • concepts we've talked about you just

  • need to think about the appropriate

  • application third don't think too big

  • moderation in all things identify a

  • couple of areas where numbers might help

  • you in monitoring progress evaluating

  • performance or assessing productivity

  • and start using numbers to assist you

  • fourth you might want to know more maybe

  • you feel like you're operating your

  • business blind your profitability seems

  • low but you can't figure out why then

  • you need some exposure to some simple

  • techniques of financial analysis at the

  • end of the day please remember that it's

  • always about people numbers can help us

  • but numbers aren't the answer people are

  • the answer

  • never forget regardless of what we do

  • for a living we are in the people

  • business

  • you

it turns out that numbers are everywhere

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A2 初級

金融101,金融概述、基礎知識和最佳實踐。 (finance 101, finance overview, basics, and best practices)

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    林宜悉 發佈於 2021 年 01 月 14 日
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