08/04/20231

What financial managers wish non-financial staff understood

Finance for Non-Financial Managers

idea deluge 2

Fundamental accounting concepts

3idea deluge

Owner’s Equity Assets Liabilities

The accounting equation

This will be the case after every single transaction

4idea deluge

What is an asset?

It’s an asset!

We bought it

We receive revenue for doing

scans

Something we own or use that should generate income.

5idea deluge

What is a liability?

Owe money as we bought on credit

Purchase nurses uniforms on credit We are going to

pay

Something we owe because of something we did and we are going to have to pay.

It’s a liability

6idea deluge

What is Owner’s Equity?

The residual interest in the assets of the entity after deducting all its liabilities.

Is increased by: Revenue and capital contributions

Is decreased by: Expenses and drawings/ dividends

Owner’s Equity Assets Liabilities

7idea deluge

Income and expenses

Income: Any increase in equity resulting from increases in assets or decreases in liabilities

Expense: Any decrease in equity resulting from decreases in assets or increases in liabilities

idea deluge

Accounting equation example

1. The department receives a grant (in cash) of $20,000

2. The department incurs expenses of $1,000

3. The department pays employees’ salaries of $5,000

4. The department pays the creditors.

8

Owner’s Equity Assets Liabilities

1 Revenue +$20k Cash +$20k

2 Expenses -$1k Creditors +$1k

3 Expenses - $5k Cash -$5k

4 Cash -$1k Creditors -$1k

9idea deluge

Overview of the accounting equation

Assets Liabilities

Buildings Accounts Receivable Computer Equipment Motor Vehicles

Accounts Payable Accruals Bank Overdraft Long-term Debt

Revenue Expenses

Government funding Interest received Private Donations

Staff Salaries Consumables Electricity Consultants (not always)

Owner’s Equity Assets Liabilities

10idea deluge

Accrual accounting

Financial reports are prepared on an accrual basis.

Expenses and revenue are recorded when they are incurred or earned, not when cash is paid or received.

11idea deluge

Accrual accounting example

Example: Purchase of medical supplies1. Supplies are ordered on the 30 September.2. They are delivered on the 24 October.3. Cash paid for the supplies on the 25 November.

September October November

Goods ordered

Goods received

Pay creditor

12idea deluge

Accrual accounting example

When the goods are ordered – there is no transaction

When the goods were received, the expense was recognised

The cash was only paid later, the transaction affecting only the cash balance and the accounts payable / creditor balance.

September October November

Goods ordered

Goods received

Pay creditor

13idea deluge

Cash flow vs revenue

Cash flow is the physical cash received or paid out in the running of the business.

Revenue and expenses may be recognised when there has been no cash flow. Cash may also be received / paid with no revenue /expense recognition.

Revenue

Cash

14idea deluge

OPEX and CAPEX

Capital expenditure (CAPEX) Operational expenditure (OPEX)

Initially captured in the balance sheet

Initially captured in the income statement

Recognised as an expense of a number of years

Recognised as an expense in the year of expenditure

Is an asset Is an expense

The matching principle features again, as a key determinant in whether an expenditure item is OPEX or CAPEX.

15idea deluge

Capital expenditure (CAPEX)

What expenditure should be capitalised?Expenditure that is expected to provide benefits to an organisation over a number of years (e.g. an MRI scanner operates for years)

Implications Capitalised expenditure eventually needs to be expensed. This is

done a little bit every year until the asset is no longer useful. The accounting term for this is depreciation.

Profit for the period is relatively higher as only a portion of the cost is recorded as an expense not the whole cost of the asset.

Examples of expenditure that can be capitalised:MRI scanners, X-ray machines, computing equipment and motor vehicles (in other words – assets).

16idea deluge

Operational Expenditure (OPEX)

What expenditure should be expensed immediately? Expenditure that provides benefits in the short term (e.g. staff

salaries represent the services provided in the past fortnight). Expenditure which has minimal benefit (e.g. stationery). Organisations will often have a policy of expensing costs below a

certain amount (e.g. all computer equipment costs below $5,000 are expensed).

Implications Operational expenditure has an immediate impact on the profit. It reduces an organisation’s profit in the period in which the

expenditure is incurred.

Examples of operational expenditure:Staff salaries, Medical consumables, Travel costs

17idea deluge

Depreciation

Capital expenditure is recorded as an expense a portion at a time over the life of the asset, rather than a one-off when it is purchased.

Example: New x-ray machine purchased

Value: $100,000

Useful life: 5 years

Annual Depreciation Expense ($100,000/5 = $20,000)

$20,000 $20,000$20,000$20,000 $20,000Device

Purchased

Yr 1 Yr 5Yr 4Yr 3Yr 2

18idea deluge

Depreciation and matching

Why is the cost spread across 5 years?

The device’s useful life is the time it is expected to be able to be used to provide patient care.

Allocating the cost over the useful life is a way of matching the cost of the asset to the benefit it provides (i.e. it’s ability to provide patient care).

After this 5 year period, the device could be:

Obsolete (replaced by improved technology) and/or

Not working anymore (cannot be used to treat patients).

Implication

At the end of five years the device’s value in the Balance Sheet will be zero (fully depreciated), reflecting one/both of the above Scenarios.

Useful life is generally determined by industry standards, professional judgment or the useful life stated by the device’s manufacturer.

idea deluge 19

Financial management

20idea deluge

Importance of financial managementBenefits of effective financial management Sufficient funds to provide high quality health care Effective resource allocation Front-line staff can focus more on patients Ability to invest in modern equipment

Consequences of not effectively managing financials

Consistently incurring cost overruns

Inability to provide quality patient care on a daily basis

Inability to invest in new equipment

Reflects poorly on the department/division’s reputation

21idea deluge

Who is responsible?

Primary responsibility

CFO has ultimate responsibility for financial management within an organisation. The CFO will delegate responsibility and maintain the control environment.

Delegated responsibility

Business Unit Financial managers, Cost Centre Managers, Planning Managers, Reporting Managers, Accounts Payable Managers, Accounts Receivable Managers.

Inidvidual responsibility

All employees.

22idea deluge

How are you responsible?

Completing tasks and deliverables for the finance team

Adhering to policies and procedures

Complying with internal controls

23idea deluge

Examples of decisions with financial implications

Allocation of staff – if the hospital is understaffed and employees are required to work overtime, expenses will increase and cash will decrease which could lead to costs going over budget.

• Investigate why costs were higher during the month than budgeted – if there is a large supplies cost perhaps a number of unscheduled surgeries took place that month.

• Consider whether the department/ division will need to upgrade its equipment to meet future patient requirements.

• Determine the correct amount of housekeeping supplies / medications / stationery / consumables. This is working capital management and impacts on cash management.

• Determine to follow internal controls to reduce risk (and when in certain circumstances to breach those controls).

24idea deluge

Working capital

Working capital = current assets – current liabilities

Current assets - cash, accounts receivable, inventory.

Current liabilities - accounts payable, short term loans and debt.

Changes in working capital have a direct effect on cashflow .

Working Capital

Current Assets

Current Liabilities

25idea deluge

Working capital management

To manage working capital properly it is important that orders are promptly processed, charts are processed accurately and invoices are sent to the finance department in a timely fashion.

This is very important when it comes to managing cash flow.

Cash Inventory Accounts receivabl

e

Accounts payable

Working capital

Starting position

5 5 0 1 9

Purchase inventory

4 6 0 1 9

Sell inventory

4 5 2 1 10

Collect debt

6 5 0 1 10

26idea deluge

Ordering too much inventory

It is clear that a lot of our cash is tied up in inventory. We nearly ran out of cash in this example.

It is important to manage working capital due to the direct impact on cash.

Cash Inventory Accounts receivabl

e

Accounts payable

Working capital

Starting position

5 5 0 1 9

Purchase inventory

1 9 0 1 9

Sell inventory

1 8 2 1 10

Collect debt

3 8 0 1 10

idea deluge 27

Financial reports and KPI’s

28idea deluge

Types of financial reports

The three main financial reports are :

• Profit and loss : Revenue and costs for a particular period.

• Balance sheet: Assets and liability position at a point in time.

• Cash flow statement: Cash inflows and outflows for a particular period.

30 June

Balance sheetPoint in time

Profit & loss and Cash flow statement

1 July

Information for the whole period

Together, these three reports give the overall picture of the financial health of a company. A single report can give a quick look at the performance, but one section might be performing well whilst another is failing.

29idea deluge

Profit and loss

The main report we will focus on is the profit and loss statement as this gives a breakdown of revenues and expenses – something you may have some control over.

In your role you probably have more control over costs as opposed to revenue. Some cost reports you may receive are:

• Staff costs (e.g. salaries, casual staff wages).

• Medical staff costs (e.g. bandages and scrubs).

• Costs for using medical equipment (e.g. specialised equipment used for operations) .

30idea deluge

Interpreting cost reports

2010 2009

Actual Budget Variance Actual Budget Variance

Employee expenses 213,250 206,000 7,250 209,000 201,000 8,000

Medical supplies 161,240 158,000 3,240 157,000 160,000 -3,000

Travel costs 74,560 80,000 -5,440 81,000 80,000 1,000

TOTAL 449,050 444,000 5,050 447,000 441,000 6,000

What are the key findings from this cost report?

• Employee expenses exceed budget. Why?

• Medical supplies exceed budget. Why?

•Travel costs have decreased. Why?

31idea deluge

Key performance indicators (KPIs)

KPI’s help define and measure progress toward organisational goals.

They are quantifiable measurements, agreed to beforehand, and reflect the critical success factors of an organisation.

They will differ depending on the organisation. For example:

• An IT company may have the percentage of its income that comes from return customers.

•A school may focus KPI’s on graduation rates of its students.

• A Customer Service Department may have percentage of customer calls answered in the first minute as one of its KPI’s.

KPI’s give departments and employees an area to focus on as it is known that performing well within these indicators is what the company values.

32idea deluge

Understanding performance managementKey performance indicators (KPI) are a useful tool for managing performance.

Example of potential health care KPI’s:

KPI What it is measuring

Patient Numbers per Month

Measures whether a hospital is treating the number of patient’s it aims to care for.

Average Emergency Response Time per Week

Measures how long it takes for hospital staff to provide emergency treatments for patients.

Re-Investment ($) per Year

Measures the amount of capital expenditure on new equipment.

33idea deluge

•Specific

•It must be clear whether the KPI was achieved

S

•Measurable

•KPI needs to be able to quantifiable

M

•Agreed Upon

•KPI needs the support of the staff member being measured

A

•Realistic

•KPI needs to be achievable

R

•Time-bound

•KPI needs to be measured within a specific time period

T

KPI’s should be SMART

34idea deluge

Budgets

35idea deluge

Understanding Budgets

A budget is a report that outlines the future resource allocation in an organisation.

Budgets can be used to:Identify if there are sufficient staff to attend to future patient

numbers. Determine if existing funds are sufficient to cover future

expenditure. Identify if there will be excess capacity that can filled by

accepting patients from overcrowded hospitals.

Future events Making decisions today on how to resource future events

Resource allocation

Determining how to allocate staff, assets, liabilities, revenues and expenses to meet organisational objectives.

36idea deluge

Budgeting can help in identifying the following issues:

Shortfalls in funding (i.e. private patient fee no longer covers an operation’s costs).

Shortfalls in staff numbers/hours (i.e. not enough staff to attend to patients).

Shortfalls in physical capacity (i.e. overcrowded hospital rooms).

Excess staff and/or excess physical capacity (i.e. too many staff/rooms).

Benefits of budgeting

Identify Shortfalls or Excess Resources

Prepare an advanced response for shortfalls

or excess resources

Plan for sustainable, high quality health care

37idea deluge

What is the cost of budgeting?

Be careful to ensure that the costs involved in preparing budgets do not exceed the potential benefits.

Try to avoid:

r Spending significant time discussing the budget

r Not using the budget to make decisions

r Making the budget source information 100% accurate

r Spending significant funds employing support staff to compile and report budgetary information

Cost of budgeting

38idea deluge

Types of Budgets

Organisations use multiple types of budgets to assist in decision making.

Cost budget Lists the forecast costs for the upcoming period

Revenue budget Outline the forecasted income for the upcoming period.

Staff budget Highlights the forecasted allocation of FTE staff for the upcoming period.

Investment budget Explains the forecasted re-investment of funds for the upcoming period.

39idea deluge

Cost behaviour

When it comes to a budget, it is incredibly important to understand the difference between fixed and variable costs.

40idea deluge

Cost behaviour

Fixed costs: Costs you would incur even if hospital has no patients.

Example : If there weren’t any patients in the hospital there would still be some electricity costs, salary expenses and insurance expenses.

41idea deluge

Cost behaviour

Variable costs: Costs that increase or decrease in relation to a cost driver (such as patients in the hospital).

Example : If a hospital is at capacity, more staff are required to care for patients. Wages increase, linen cleaning increases and meal expenses increase.

42idea deluge

Cost behaviour

Cost drivers: Cost drivers are factors or events that have a direct or indirect impact on the cost of a specific activity. 

Example : The cost of running an MRI machine depends on: number of hours it runs, number of employees needed to run the machine and number of patients tested. The unit cost refers to the cost of each additional scan.

43idea deluge

Fixed vs variable

Allocate the following costs to either a fixed or variable cost:

•Full time staff wages

•Casual staff wages

•Overtime

•Depreciation

•Travel costs

•Medical waste disposal

•Insurance

•Electricity

•Laundry costs

•Cleaning costs

44idea deluge

Example : Budget review

What risks does this budget present?

What potentially invalid assumption is being made in this budget?

What additional questions would you ask?

Quarterly Cost BudgetJanuary – March 2011

January February March

Staff Costs 13,037,215 11,547,588 12,456,888

Medical Consumables 4,044,808 1,065,152 1,090,433

Medical Waste Disposal 3,036,853 1,517,938 2,887,122

Laundry and Cleaning Costs 169,240 693,559 244,677

Monthly Total 20,288,116 14,824,237 16,679,120

Funds Available 20,300,000 13,200,000 16,700,000

Variance 11,884 -1,624,237 20,880

45idea deluge

How to draw up a budget

1. Involve employees who will be responsible for the budget or who have information which will help you prepare them.

2. Collect historical information and forecasts.

3. Use historical information, and any changes in operations or prices, to budget for overheads and other fixed costs.

4. Consider the cost drivers to budget for variable costs.

5. Identify any non-operational cashflows (taxes and financing)

6. Consider the timing of all income and expenditure items.

7.  Ensure your budgets contain enough information to let you monitor the key performance indicators you use to manage the business.

8. Agree the budget with the individuals who will be responsible and be prepared to amend it if your assumptions are unrealistic.

9. Regularly update budgets as actual figures become available and circumstances change.

46idea deluge

Questions?

Contact me at chrismelck@gmail.com