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ffirs.qxd 11/28/05 1:36 PM Page iii Accounting and Finance for Your Small Business Second Edition STEVEN M. BRAGG AND E. JAMES BURTON John Wiley & Sons, Inc. ffirs.qxd 12/16/05 10:39 AM Page iv This book is printed on acid-free paper.
∞ Copyright © 2006 by PricewaterhouseCoopers. PricewaterhouseCoopers refers to the individual member firms of the worldwide PricewaterhouseCoopers organization. All rights reserved. Published by John Wiley & Sons, Inc., Hoboken, New Jersey. Published simultaneously in Canada. No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, scanning, or otherwise, except as permitted under Section 107 or 108 of the 1976 United States Copyright Act, without either the prior written permission of the Publisher, or authorization through payment of the appropriate per-copy fee to the Copyright Clearance Center, Inc., 222 Rosewood Drive, Danvers, MA 01923, 978-750-8400, fax 978-646-8600, or on the web at www.copyright.com. Requests to the Publisher for permission should be addressed to the Permissions Department, John Wiley & Sons, Inc., 111 River Street, Hoboken, NJ 07030, 201-748-6011, fax 201-748-6008, or online at http://www.wiley.com/go/permissions. Limit of Liability/Disclaimer of Warranty: While the publisher and author have used their best efforts in preparing this book, they make no representations or warranties with respect to the accuracy or completeness of the contents of this book and specifically disclaim any implied warranties of merchantability or fitness for a particular purpose. No warranty may be created or extended by sales representatives or written sales materials. The advice and strategies contained herein may not be suitable for your situation. You should consult with a professional where appropriate. Neither the publisher nor author shall be liable for any loss of profit or any other commercial damages, including but not limited to special, incidental, consequential, or other damages. For general information on our other products and services, or technical support, please contact our Customer Care Department within the United States at 800-762-2974, outside the United States at 317-572-3993 or fax 317-572-4002. Wiley also publishes its books in a variety of electronic formats. Some content that appears in print may not be available in electronic books. For more information about Wiley products, visit our Web site at http://www.wiley.com. Library of Congress Cataloging-in-Publication Data Bragg, Steven M. . Accounting and Finance for your small business / Steven M. Bragg.—2nd ed. p. cm. Rev. ed. of: Accounting and Finance for your small business / E. James Burton, Steven M. Bragg. 2001. Includes index. ISBN-13: 978-0-471-77156-2(cloth) ISBN-10: 0-471-77156-2 (cloth) 1. Industrial management—Handbooks, manuals, etc. 2. Business enterprises—Finance— handbooks, manuals etc. 3. Small Business—Management. 4. New business enterprises— Management. I. Burton, E. James. Accounting and finance for your small business. II. Title. HD31.B852 2006 658—dc22 2005056956 Printed in the United States of America 10 9 8 7 6 5 4 3 2 1 ffirs.qxd 11/28/05 1:36 PM Page v To the Gove family, who have run the West Newbury town library for two generations and who taught the Bragg family to love books ffirs.qxd 11/28/05 1:36 PM Page vi ffirs.qxd 11/28/05 1:36 PM Page vii About the Authors S teven Bragg, CPA, CMA, CIA, CPIM, has been the chief financial officer or controller of four companies, as well as a consulting manager at Ernst & Young and auditor at Deloitte & Touche. He received a Master’s degree in finance from Bentley College, an MBA from Babson College, and a Bachelor’s degree in Economics from the University of Maine. He has been the two-time president of the Colorado Mountain Club, is an avid alpine skier and mountain biker, and is a certified master diver. Mr. Bragg resides in Centennial, Colorado. He has published the following books through John Wiley & Sons: Accounting and Finance for Your Small Business Accounting Best Practices Accounting Reference Desktop Billing and Collections Best Practices Business Ratios and Formulas Controller’s Guide to Costing Controller’s Guide to Planning and Controlling Operations Controller’s Guide: Roles and Responsibilities for the New Controller Controllership Cost Accounting Design and Maintenance of Accounting Manuals Essentials of Payroll vii ffirs.qxd 11/28/05 1:36 PM Page viii About the Authors Fast Close Financial Analysis GAAP Guide GAAP Implementation Guide Inventory Accounting Inventory Best Practices Just-in-Time Accounting Managing Explosive Corporate Growth Outsourcing Payroll Accounting Payroll Best Practices Sales and Operations for Your Small Business The Controller’s Function The New CFO Financial Leadership Manual The Ultimate Accountants’ Reference Also: Advanced Accounting Systems (Institute of Internal Auditors) Run the Rockies (CMC Press) Subscribe to Steve’s free best practices newsletter at www.stevebragg.com E. James Burton, Ph.D., CPA, CFE, is dean of the College of Business and a full professor of accounting at Middle Tennessee State University. He has founded, owned, managed, and sold a number of businesses in a variety of areas from service to manufacturing. He received a Bachelor of Arts degree from MacMurray College in economics/business, a Master of Business Administration degree from Murray State University in management, and a Ph.D. in accountancy from the University of Illinois at Urbana-Champaign. In addition to over 50 journal articles, he has written Total Business Planning: A Step-by-Step Guide with Forms that has continued through three editions and translation into Norwegian. He resides in Murfreesboro, Tennessee. viii ftoc.qxd 11/28/05 1:37 PM Page ix Contents Preface Section I Preparing to Operate the Business Chapter 1 Budgeting for Operations xiii 1 3 Definition or Purpose of an Operating Budget Signs of Budget Ineffectiveness Improvements to the Budgeting System Responsibility Accounting Budget Tracking and Maintenance The System of Interlocking Budgets Need for Budget Updating Summary 3 4 6 9 21 25 35 36 Chapter 2 Investing in Long-Term Assets and Capital Budgeting 39 Definitions Overview and Use of Capital Budgeting Life Cycles Capital Budgeting Sequence Producing Numbers to Get Dollars, the Use of Forms, and the Capital Budgeting Model Miscellaneous Considerations Product Discontinuance Bailout 40 41 42 43 48 65 66 68 ix ftoc.qxd 11/28/05 1:37 PM Page x Contents Summary Appendix: Examples and Comparison of Calculations 69 70 Chapter 3 Basic Control Systems 77 The Need for Control Systems Types of Fraud Key Controls When to Eliminate Controls Summary 77 79 81 97 99 Section II Operating the Business x 101 Chapter 4 Cash Flow Concerns 103 Cash What to Do with Excess Cash Cash Flows Introduction to Cash Flow Budgets Indications of Cash Flow Problems Managing Cash Preparation of the Cash Budget Disbursements Net Cash Flow and Cash Balances Exceptions to Expected Cash Flows Summary Appendix: Cash Flow Example 103 105 108 112 112 113 126 127 130 131 132 133 Chapter 5 Financing 143 New Businesses Zero Working Capital and Zero Fixed Assets Types of Financing Private Placement of Stock Swapping Stock for Expenses Stock Warrants Stock Subscriptions How to Obtain a Bank Loan Sources of Debt Financing Types of Loan Arrangements Restrictions on Loans Conditions That a Borrower Should Seek Summary 143 144 148 157 158 159 159 160 167 168 171 173 175 ftoc.qxd 11/28/05 1:37 PM Page xi Contents Section III Evaluating the Operations of the Business 177 Chapter 6 Performance Measurement Systems 179 Financial Ratios Types of Financial Ratios Using Performance Measurements for Predictions Operating Ratios Other Ratios The Balanced Scorecard Summary 180 182 193 196 202 204 207 Chapter 7 Financial Analysis 209 Risk Analysis Capacity Utilization Breakeven Analysis Summary 209 215 222 229 Chapter 8 Taxes and Risk Management 231 Controlling Tax Liabilities Risk Management Insurance Types of Insurance Companies Claims Administration Summary 232 237 245 249 250 252 Chapter 9 Reporting 255 Federal Government Requirements State Government Requirements Local Government Requirements Creditors Equity Holders Management Reports Summary 255 262 267 268 269 269 286 Index 289 xi ftoc.qxd 11/28/05 1:37 PM Page xii