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The Fast-Track MBA Series Co-published with PricewaterhouseCoopers Consultant Editors John Kind, Director, Human Resource Consulting, PricewaterhouseCoopers David Megginson, Associate Head, Sheffield Business School THE FAST-TRACK MBA SERIES represents an innovative and refreshingly different approach to presenting core subjects in a typical MBA syllabus. The practical, action-oriented style is intended to involve the reader in self-assessment and participation. Ideal for managers wanting to renew or develop their management capabilities, the books in THE FAST-TRACK MBA SERIES rapidly give readers a sound knowledge of all aspects of business and management that will boost both self-confidence and career prospects whether they have time to take an MBA or not. For those fortunate enough to take an MBA, the Series will provide a solid grounding in the subjects to be studied. Managers and students worldwide will find this series an exciting and challenging alternative to the usual study texts and management guides. Titles already available in this series are: I I I I I I I I I I Strategic Management (Robert Grant & James Craig) Problem Solving and Decision Making (Graham Wilson) Human Resource Management (Barry Cushway) Macroeconomics (Keith Wade & Francis Breedon) Innovation and Creativity (Jonne Ceserani & Peter Greatwood) Leadership (Philip Sadler) Ethics in Organizations (David J Murray) Human Resource Development (David Megginson, Jennifer JoyMatthews & Paul Banfield) Organizational Behavior and Design, second edition (Barry Cushway & Derek Lodge) Operations Management (Donald Waters) The Series Editors John Kind is a director in the human resource consulting practice of PricewaterhouseCoopers and specializes in management training. He has wide experience of designing and presenting business education programmes in various parts of the world for clients such as BAA, Bass, British Petroleum, DHL and Scottish Amicable Life Assurance Society. He is a visiting lecturer at Henley Management College and holds an MBA from the Manchester Business School and an honours degree in Economics from the University of Lancaster. David Megginson is a writer and researcher on self-development and the manager as developer. He has written A Manager’s Guide to Coaching, Self-development: A Facilitator’s Guide, Mentoring in Action, Human Resource Development in the Fast-track MBA series, The Line Manager as Developer and Learning for Success. He consults and researches in blue chip companies, and public and voluntary organizations. He is chairman of the European Mentoring Centre and an elected Council member of AMED, and has been Associate Head of Sheffield Business School and a National Assessor for the National Training Awards. PricewaterhouseCoopers is a leading provider of professional services, including accountancy and audit, tax and management consultancy. It is the world’s largest professional services practice. Accounting and Finance for Managers John Kind Published in association with PricewaterhouseCoopers DEDICATION In memory of Michael Davies. First published 1999 Apart from any fair dealing for the purposes of research or private study, or criticism or review, as permitted under the Copyright, Designs and Patents Act 1988, this publication may only be reproduced, stored or transmitted, in any form or by any means, with the prior permission in writing of the publishers, or in the case of reprographic reproduction in accordance with the terms and licences issued by the CLA. Enquiries concerning reproduction outside these terms should be sent to the publishers at the undermentioned addresses: Kogan Page Limited 120 Pentonville Road London N1 9JN UK Kogan Page Limited 163 Central Avenue, Suite 4 Dover NH 03820 USA © John Kind, 1999 The right of John Kind to be identified as the author of this work has been asserted by him in accordance with the Copyright, Designs and Patents Act 1988. British Library Cataloguing in Publication Data A CIP record for this book is available from the British Library. ISBN 0 7494 2891 0 Typeset by Saxon Graphics Ltd, Derby Printed and bound in Great Britain by Clays Ltd, St Ives plc Contents Acknowledgements Introduction viii 1 PART I The Financial Reporting Environment and an Introduction to Financial Statements 1 Financial Reporting Introduction Stakeholders The regulatory framework Summary 5 5 5 6 10 2 An Introduction to the Profit and Loss Account Definition Example 11 11 12 3 An Introduction to the Balance Sheet Definition Example Summary 14 14 14 19 4 An Introduction to the Cash Flow Statement Definition Example The relationships between profit and loss accounts, balance sheets and cash flow statements Summary 20 20 20 PART II 5 21 22 Financial Statements in More Detail The Profit and Loss Account in More Detail Introduction Depreciation Revenue expenditure and capital expenditure Cost of sales and stock Format of a profit and loss account Taxation Provisions Example Summary 25 25 25 27 28 28 30 31 32 36 vi Contents 6 The Balance Sheet in More Detail Introduction Example Historical cost accounting Fixed assets Current assets Current liabilities Working capital Capital employed Financing Summary 38 38 38 39 40 41 43 43 43 44 46 7 The Cash Flow Statement in More Detail Introduction Example Cash ‘self-sufficiency’ Summary 47 47 49 52 53 PART III Financial Analysis 8 The Analysis and Interpretation of Financial Statements Introduction Financial objectives Profitability Financial position Summary of financial performance indicators Performance improvement plan Summary 57 57 57 58 62 71 71 75 9 Investors’ Performance Measures Introduction Shareholder return Market capitalization Book value per share Price/earnings ratio Dividend yield Dividend cover Summary 76 76 76 78 78 79 80 80 81 PART IV Management Accounting 10 The Use of Management Accounting Information for Decision-making Purposes Introduction Costs Costing and costing systems Summary 85 85 85 100 113 Contents vii 11 Budgetary Control Introduction Budgetary control Preparing the budget Flexible budgeting Zero-based budgeting Budget management Summary 114 114 114 116 118 119 119 120 12 Investment Appraisal Introduction Project appraisal techniques Capital rationing Discounted payback period Important issues to consider Business case presentations Summary 122 122 123 128 129 130 139 141 Appendix A Glossary of Important Finance and Accounting Terms 143 Appendix B Double-entry Bookkeeping 159 Appendix C Present Value Table 164 Reference 166 Further Reading 166 Index 167 Acknowledgements I wish to thank the following organizations for permission to reproduce information from their annual reports and other publications: BAA, BP, Coca-Cola, Datastream, The Economist, The Financial Times, Marks & Spencer, J Sainsbury, The Sunday Times and Unilever. Sara Arnold of Secret Genius in Winchester has done most of the hard work by typing the manuscript. Sara, thanks a million! I am extremely grateful to Graham Mott, the author of the first edition, and all the executives for whom I have presented financial training programmes during the past 15 years. Without their inspiration, this book would not have been written. John Kind Introduction The purpose of this book is to provide a straightforward but thorough introduction to accounting and finance for executives and managers who are studying these subjects, formally, for the first time. It is an entry-level text to be used before moving on to more advanced material. A high degree of practicality and relevance are introduced with a strong ‘real world’ flavour supported by examples from leading international companies. The glossary of terms is designed to be as comprehensive as possible so that readers can obtain clear guidance at a time when they most need it. The book is arranged in four parts. The first, ‘The Financial Reporting Environment and an Introduction to Financial Statements’, sets the external context within which financial statements are prepared and explains their meaning and significance. The second part, ‘Financial Statements in More Detail’, looks at the published reports of Unilever. It provides an in-depth review of profit and loss accounts, balance sheets and cash flow statements using reallife examples from a major international business. The third part, ‘Financial Analysis’, concentrates on the use of financial indicators to assess both the strengths and weaknesses of a business and to gain an insight into how financial performance might be improved. The fourth part, ‘Management Accounting’, covers the use of management information for decision-making purposes, as well as budgetary control and investment appraisal (the financial evaluation of capital investment projects).