Prelims/The Finance Manual 28/6/02 11:57 am Page i The Finance Manual for Non-Financial Managers Prelims/The Finance Manual 28/6/02 11:57 am Page ii About the Authors PAUL MCKOENis a Fellow of the Chartered Institute of Management Accountants. After reading a finance degree, he joined Ford Motor Company where he spent eleven years in a variety of roles. Now Finance Director of Vertex, the Business Process Outsourcing company created by United Utilities, he is based in Cheshire. This is his first book and is inspired by all those marketing, operational and engineering managers who have patiently shared their technical expertise in exchange for help with financial issues. LEO GOUGH is a financial journalist. His other books include How the Stock Market Really Works and Offshore Investment. The Institute of Management (IM) is at the forefront of management development and best management practice. The Institute embraces all levels of management from students to chief executives. It provides a unique portfolio of services for all managers, enabling them to develop skills and achieve management excellence. If you would like to hear more about the benefits of membership, please write to Department P, Institute of Management, Cottingham Road, Corby NN17 1TT. This series is commissioned by the Institute of Management Foundation. Prelims/The Finance Manual 28/6/02 11:57 am Page iii SMARTER SOLUTIONS The finance pack The Finance Manual for Non-Financial Managers The power to make confident financial decisions PAUL McKOEN and LEO GOUGH London • New York • Toronto • Sydney • Tokyo • Singapore Madrid • Mexico City • Munich • Paris Prelims/The Finance Manual 28/6/02 11:57 am Page iv PEARSON EDUCATION LIMITED Head Office: Edinburgh Gate Harlow CM20 2JE Tel: +44 (0)1279 623623 Fax: +44 (0)1279 431059 London Office: 128 Long Acre London WC2E 9AN Tel: +44 (0)20 7447 2000 Fax: +44 (0)20 7447 2170 www.business-minds.com First published in Great Britain 1997 © Pearson Education Limited 2000 The right of Paul McKoen and Leo Gough to be identified as Authors of this Work has been asserted by them in accordance with the Copyright, Designs, and Patents Act 1988. ISBN 0 273 64493 9 British Library Cataloguing in Publication Data ACIP catalogue record for this book can be obtained from the British Library. 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Prelims/The Finance Manual 28/6/02 11:57 am Page v Contents 1 Reporting to the outside world 1 Company background 1 The framework 3 The report 5 The financial statements 6 The profit and loss account 8 The balance sheet 13 The cash flow statement 19 Published accounts and the stock market 21 2 Analysing accounts 27 Analysing company accounts 27 Ratio analysis 28 Applying ratios in credit control 36 Corporate governance 40 Auditors 43 3 The basics of accounting 51 Double entry bookkeeping – the debits and the credits 51 Accounting records 54 Basic principles 60 v Prelims/The Finance Manual 28/6/02 11:57 am Page vi CONTENTS 4 Accounting within the organisation 63 Internal versus external accounts 63 The control cycle 66 Structuring the plan 68 Making budgets effective 69 Cost centres 73 Profit centres 74 Measuring performance 78 5 Costing 87 Introduction 87 Cost – some definitions 88 Traditional (absorption) costing 92 Standard costing 94 Activity based costing 98 Sales versus inventory 101 Accounting for throughput 102 Costing – some general thoughts 103 6 Pricing 105 Introduction 105 Competitive position 107 Product revisions 109 Return on sales 110 The ‘Special Value Programme’ (SVP) 114 General points on pricing 118 7 Project analysis 119 What is project analysis? 119 The basic tools 122 Payback 122 Internal Rate of Return (IRR) and Discounted Cash Flow (DCF) 124 Some more advanced considerations 131 vi Prelims/The Finance Manual 28/6/02 11:57 am Page vii CONTENTS WACC – the Weighted Average Cost of Capital 134 Cashflows in perpetuity 136 8 Organisational control 139 Introduction 139 Internal control 142 Fraud – a general profile 144 Organisational control – whose responsibility? 146 9 Corporate taxation 151 Tax – a strategy 152 The main taxes on companies 154 Capital allowances 160 The taxation of multinationals 160 Double taxation treaties 161 Transfer pricing 162 Using offshore centres and tax havens 168 Holding companies in Holland 176 Company structure 179 Summary 183 10 Financing 185 The balance sheet 186 The cash flow cycle 188 Forms of financing 190 Overdrafts and loans 191 Bonds 194 Credit terms 198 Financing of specific assets 200 Equity financing 203 vii Prelims/The Finance Manual 28/6/02 11:57 am Page viii CONTENTS 11 Acquisitions 211 Introduction 211 Acquisitions – the strategic view 212 What makes companies vulnerable to bids? 214 Accounting implications 218 Accounting policies 224 Bids and the stock market 227 12 Risk and risk management 235 Risk analysis 235 Environmental/strategic risk 236 Financial risk 239 The forward contract 242 Derivatives 246 Financial futures – hedging versus speculation 248 Other financial risks 249 Longer-term risk 250 The risk/reward relationship and the stock market 251 The ‘equity risk’ of a listed company 252 Conclusion 255 Appendix A Financial controls – who, where, when and how 257 Appendix B Some numerical tools 269 Appendix C The Greenbury report 285 Appendix D Present value tables 289 Glossary 291 Index 299 viii Prelims/The Finance Manual 28/6/02 11:57 am Page ix The MCI Middle If you are studying for one of the NVQs on which the MCI standards are based, this book can help. Here’s how some of the topics in this book relate to particular units. Middle Management Standards Unit 1 Initiate and implement change and improvement in services, products and systems Chapter 4. Accounting withinthe organisation 63 Chapter 8. Organisational control 139 Element 1.1 Identify opportunities for improvements in services, products and systems Chapter 4. Accounting withinthe organisation 63 Chapter 7. Project analysis 119 Element 1.2 Evaluate proposed changes for benefits and disadvantages Chapter 7. Project analysis 119 Appendix B. Some numerical tools 269 Unit 2 Monitor, maintain and improve service and product delivery Element 2.1 Establish and maintain the supply of resources into the organisation/ department Chapter 5. Costing 87 Element 2.2 Establish and agree customer requirements Chapter 6. Pricing 105 ix