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Loughborough University
Understanding Financial Management
Understanding Financial Management –ILM level 5
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Learning objectives – to understand:
The purpose of a set of accounts
The jargon used by accounts
The principles on which accounts are based
Understanding Financial Management –ILM level 5
 Learning objectives – to understand:
 The purpose of the main financial documents
 The main sources of finance into
Loughborough University
 The types of expenditure
 Why cash flow is so important
 Sources of financial information
 Capital funding
 Performance indicators
Timetable – Day One
 A general introduction to Finance
 Understand the purpose of accounting standards and the
regulatory framework
 Understand 4 key accounting policies
 Understand two methods for calculating depreciation
 Identify a range of financial objectives
 Understand how a business is financed
 Identify key sources of finance for an organisation
Timetable – Day One
 Understand the relationship between the 3 main financial
statements and apply them: cash flow forecast, profit and
loss statement, balance sheet
 Understand the relationship between the 3 main financial
statements and apply them: cash flow forecast, profit and
loss statement, balance sheet continued
 Cash flow forecasting
 Look at the Financial Statements of Loughborough University
Timetable – Day Two
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Apply ratio analysis
Financial and Management Accounting
Understand the budgetary process and budgetary control
Consider the challenges facing Loughborough University
Consider the Economic climate in which we operate
RASCAL
Develop measures to populate a balanced scorecard
Financial Governance at Loughborough University
Review and discuss the module assignment
Work Based assignment
 Title: Understanding financial management
 Purpose: to develop a greater understanding of
financial management within the organisation
together with the tools and techniques used in
your role as a middle manager at
Loughborough
 3 parts:
 Explain finance within the context of
Loughborough
Work Cased Assignment – cont’d
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Explain the role and value of management
accounting
 Explain the purpose of budgets and
budgetary control
 Suggested word count: 1,500 to 2,000
 Submission date: 19th December
 Deadline for feedback from your tutor: 12th
December
So this is accounts
 What is the answer ?
So this is accounts
 What is the answer ?
 Zero
So this is accounts
 What is the purpose of a set of accounts?
So this is accounts
 What is the purpose of a set of accounts?
 give a true and fair view of the state of the
group’s and University’s affairs as at 31 July
2013 and of its surplus for the year then
ended
 It is a BSc here!
Why do we do accounts
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To support business decisions
To identify trends
To explore opportunities
To use financial information to understand
what is happening in a business
Lets start at the very beginning
 Cash Accounting
 Double Entry Book keeping
 Trial Balance
Lets start at the very beginning
 Debits
o Assets
o Expenses
o Profits / Surpluses
 Credits
o Liabilities
o Income
o Losses / Deficits
A Page from an Accounting Ledger
 Is the balance good news or bad news?
Why are there rules to accounting?
 There are many users of a set of accounts
 Who would use Loughborough University’s
Financial Statements
Accounting and Financial Reporting Standards
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About consistency across organisations
UK GAAP
Companies Act 2006
Statement of Recommended Practise
Financial Reporting Standards
All change - New rules from 15/16
GO
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Accounting Principles
C
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ACCOUNTING
POLICIES
Accounting Principles - Consistency
 Depreciation – use of the straight line method
each year, rather than reducing balance one
year and straight line the next.
 When deciding on the treatment of any item,
looking at what has been done before is
justifiable as it provides consistency
 Potential Flaw – Could be consistently bad!
Accounting Principles - Accruals
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Recognition of income on research grants
Recognition of income from endowments
Accounting for goods or services received
Depreciation
Deferred Grants
Accounting Principles - Prudence
 Accounting of Retirements
 Recognition of losses on a contract
 Where a range of potential costs are possible,
selecting the “worst case scenario” if no
reliable estimation exists.
Accounting Principles – Going Concern
 The assumption that a business will continue
in existence for an indefinite period.
 Impairment of assets  Giving up economic benefit – UPP Halls
Depreciation
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Most fixed assets reduce in value over their
lifespan – think of your own ‘assets’
 Deducted from the fixed assets annually in
the Balance Sheet
 Charged as an expense in the Profit and
Loss Account
 2 methods:
1. Straight line method
2. Reducing balance method
Depreciation – Straight Line
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The Straight Line Method: takes the original cost of
the asset and deducts the same fixed amount each
year, eg.
A machine costs £10,000
There is no expected residual value at the end of its
forecast 5 year lifespan. (Residual Value means
how much the asset will be worth and for how much
it is expected to be sold at the end of its useful life
within the business.)
Depreciation will be £2,000 per year leaving a
residual value of £0.
Depreciation - Example
Year
 Cost
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1
2
3
4
5
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10,000
10,000
10,000
10,000
10,000
 Accumulated
Depreciation
 Book
Value
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£
2,000
4,000
6,000
8,000
10,000
£
8,000
6,000
4,000
2,000
0
Depreciation – The Reducing Balance
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The Reducing Balance Method: takes the original
cost of the asset and reduces it by a fixed % each
year
This method is used where the asset is expected to
depreciate more heavily in the earlier years of its
use.
Activity: (complete the table below)
A new vehicle costs £12,000
It is decided that it will depreciate at a rate of 25%
per year
Depreciation - Example
Year
Cost
£
1
12,000
Accumulated
Depreciation
£
3,000
2
12,000
5,250
3
12,000
4
12,000
5
12,000
Book Value
£
9,000
6,750
2,847
Depreciation Question
 The Finance Office purchase a super duper
photocopier costing £24,000 on the 1st
August. The University accounts for
depreciation on a straight line basis with an
expected life of 4 years. After three years, on
the 1st August, the Finance Office sells the
photocopier to the College for £5,000.
 Required - Calculate the accounting entries
resulting from this transaction.
Depreciation Question
Year
£
Cost
£
Accumulated
Depreciation
£
Book Value
£
Depreciation Answer
Year
Cost
£
1
Accumulated Book Value
Depreciation
£
£
24,000
6,000
18,000
2
24,000
6,000
12,000
3
24,000
6,000
6,000
• In Year 4, the book value of £6,000 would be written back to the
I&E Account and show as expenditure. However, this would be
matched by the receipt of £5,000 from the college. These two
amounts would be netted against each other to produce a “loss on
disposal” of £1k.
• If the proceeds had been more than the £6k net book value then a
“profit on disposal” would have been generated.
Repair or Fixed Asset
 Broken Window?
 Broken Window on the top floor of the
Towers?
 Additional Teaching Room on the side of
Edward Herbert?
 Roof Repair to Schofield?
Financial Objectives
maximisation
of return on
capital
employed
survival
maximisation
of profit
long-term
stability
growth
security
What are the Financial objectives for LU?
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The Business Cycle – Where can a business get funds
 Your Own – Share Capital
 Someone Else’s – Debt or Loans
 From the profits of the business – Retained
Profits / Reserves
The Business Cycle – How can it use those funds
 Fixed Assets
 Working Capital
 Investments
Sources of Funds
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Ordinary Shares
Rights Issue
Preference Shares
Debentures
Debt
Sources of Money for LU
 We have no share capital
 We borrow from banks
 We have retained reserves
 We use third party funders e.g. UPP
What makes up a set of financial statements?
 Statement of principle accounting policies
 3 main statements  Income and Expenditure account
 Balance sheet
 Cash flow incl STRGL
 Notes to the accounts
What makes up a set of financial statements?
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List of officers and staff
Providers of financial services
Operating and financial review
Statement of corporate governance
Responsibilities of Council
Auditors report to Council
Income and Expenditure account – what does it tell us?
 Designed to answer the sustainability
question
 Brings together all the income and
expenditure related to routine operations
including subsidiary companies
 It excludes capital items like new buildings,
equipment and grants
 It reports the total of income and expenditure
for a financial year
Income and Expenditure account – what does it tell us?
 It is based on costs committed not cash paid
and income earned not just cash received
 It includes depreciation – spreads the cost of
a capital investment over its useful life
 Exceptional items
 If income exceeds expenditure a surplus
results
 What surplus is enough?
Income and Expenditure Account
 Why does Loughborough University need to
make a surplus?
Income and Expenditure account
 To invest in new capital assets
 Because our income is volatile
 Because our income is more volatile than our
expenditure
 To be able to capitalise on opportunities
Income and Expenditure Account
 Exercise in your workbooks
Balance sheet – what does it tell us?
 Picture at a point in time of what the institution
is worth
 Report of what we own
 What we owe
 What we are owed
 Indicator of ability to withstand a difficult period
or capacity for development
Total recognised Gains and Losses
 Catches changes in the valuation of assets or
liabilities which have not gone through the
Income & Expenditure account
Balance Sheet
 Exercise in your work books
Cash Flow – Why is this so important
 The lifeblood of the organisation
 The cashflow forecast shows the cashflow of the business on a
month-by-month basis
 Shows the real money situation:
 actual timing of cash outflows (cash and creditors)
 actual timing of cash inflows (cash and debtors)
 Variance Analysis
Key Points:
 Cash is not Profit
 Profit is not Cash
 Depreciation is not cash
 For the period ended …..
 No cash – no business!
Cash Flow – Why is this so important
No business goes bust
through a lack of profits
All businesses go bust
through a LACK OF CASH!
Cash flow statement– what does it show?
 Cash flow statement explains how your cash has been
managed during the financial year
 Takes out the non cash items - Net cash inflow from
operating activities
 Shows affect of interest both payable and receivable Returns on investments and the servicing of finance
 Separates out new investments - Capital expenditure
and financial investment
 Discloses movement on loans - Financing
 Net increase/decrease in cash
Cash/Net liquidity
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Short term deposits
Cash at bank
Loans <1 year
Loans >1year
 Total
2012/13
£’000
24,505
51,801
(2,016)
(70,953)
2011/12
£’000
22,505
24,012
(1,541)
(53,072)
3,337
(8,096)
Analysis of Income
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Funding Council Grants
Academic Fees
Research Grants
Other income
Investment Income
 Total Income
2012/13
£’000
2011/12
£’000
56,967
88,633
39,147
58,880
1,313
66,624
70,726
38,670
60,330
1,407
244,940
237,757
Academic fees and support grants
2012/13
£’000
2011/12
£’000
 Home and EU Students
57,944
(65%)
41,067
 International Students
30,689
(35%)
29,659
 Total
88,633
70,726
(60%)
(40%)
Analysis of Expenditure
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Staff Costs
Depreciation
Other Operating Expenses
Interest Payable
Total Expenditure
2012/13
£’000
2011/12
£’000
124,303
17,700
91,412
3,416
236,831
122,777
15,221
91,719
2,235
231,952
Staff costs
2012/13
£’000
2011/12
£’000
101,345
100,713
 Social Security
7,898
7,831
 Pension costs
14,958
14,093
102
140
 Wages & Salaries
 Restructuring costs
 Total
124,303
122,777
Surplus retained within reserves
 Surplus on continuing operations
 Tax
 Specific Endowments
 Retained within reserves
2012/13
£’000
2011/12
£’000
8,109
5,805
12
183
12
40
8,309
5,857
Financial Statements 2012/13
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Successful year
£8.3m surplus after exceptional items
£ 8.1m operating surplus
Liquidity good though moved to net debt
Cash used to finance assets
Balance sheet: Assets
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Tangible assets
Benefit re College of Art & Design
Investments
Long Term Loans
Endowments
Stocks & Debtors
Cash
 Total
2012/13
£’000
2011/12
£’000
302,723
(2,364)
214
145
2,803
18,376
76,306
300,380
(2,497)
242
173
2,687
18,241
46,517
398,203
365,743
Balance sheet: Liabilities
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Creditors < 1 Year *
Creditors > 1 Year
Provisions
Pension Liability
 Total
2012/13
£’000
2011/12
£’000
(73,902)
(70,953)
(1,922)
(47,187)
(69,761)
(53,072)
(1,964)
(47,618)
(193,964)
(172,415)
* Includes unapplied deferred capital grants and research payments
received on account
Balance sheet: Assets and liabilities represented by:
2012/13
£’000
 Deferred Capital Grants
 Endowments
 Reserves
 Total
101,932
2,803
101,504
206,239
2011/12
£’000
102,134
2,687
88,507
193,328
Movement in Pension Reserve
2012/13
£’000
Opening Reserve
Movement for year
Closing Reserve
(47,618)
2,431
(45,187)
2011/12
£’000
(28,902)
(18,716)
(47,618)
Review of the Day
 Any Questions?
 Please bring calculators tomorrow
Ratio Analysis
Financial ratios enable you to compare:
 the current performance of the organisation or
operation with past performance
 the performance of one organisation with that
of another organisation (preferably in the
same industry)
 the size of the organisation doesn’t matter too
much because ratios cancel out size
differences
Ratio Analysis
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Ratios can be split into three areas
Liquidity Ratios
Profitability Ratios
Efficiency Ratios
Liquidity Ratios
Liquidity (indicates how well equipped the
business is to pay its short-term debts)
Ratios:
 Current ratio
 Liquidity ratio
Liquidity Ratios Calculation
Current Ratio
Current Assets
Current Liabilities
eg. 2 :1
=
£50,000 / 25,000
=
2:1
The recommended current ratio is 2.1
Liquid Ratio
Current Assets (excluding stock)
Current Liabilities
eg. 1:1
Current assets (excluding Stock) / Current liabilities
eg.
30,000 / 25,000 = 1.2:1
The recommended liquid ratio is 1:1.
Profitability Ratios
Profitability (shows the degree of success with
which the business is trading)
Ratios:
 Gross profit/sales
 Net profit/sales
 ROCE
Profitability Ratios Calculation
Gross Profit Ratio:
Gross Profit
x 100
Sales Revenue
eg. 10%
Means that gross profit is 10% of the total value of sales
Net Profit Ratio:
Net Profit
x 100
Sales Revenue
eg. 6%
Means that net profit is 6% of the total value of sales.
Return on Capital Employed (ROCE):
Net Profit
x 100 eg. 20%
Total Assets less Current Liabilities
•Compares inputs (capital invested) with outputs (profits)
•Shows the return on funds employed within the business and the effectiveness with
which they have been employed
Efficiency Ratios
Use of Assets (shows how effectively the
assets are being utilised)
Ratios:
 Sales/fixed assets
 Debtor Payment Time
 Creditor Payment Time
Efficiency Ratios Calculation
Sales to Fixed Assets:
Sales
eg. 3 times
Fixed Assets
Debtor Payment Time:
Debtors / credit sales for the year (multiplied by) the time period (eg.
365 days)
= debtor collection time in days
Creditor Payment Time:
Creditors / Credit Purchases (multipled by) the time period (eg. 365
days)
= creditor payment time in days
Ratio Analysis
 Please do the exercise in your workbook
Ratio Analysis
 We have prepared another example
Financial Accounting Vs Management Accounting
Issue
Governed by
Financial
Company law,
SSAPs
Management
Managers’
needs
Users
Time
External
Past and present
Emphasis
Accuracy
Data
Money
Internal
Present and
future
Decisionmaking
Money or
units of
performance
Budgeting
 Budgeting is used in organisations of all types
to assist in the development and co-ordination
of plans, to communicate these plans to those
who are responsible for carrying them out, to
secure co-operation of managers at all levels,
and as a standard against which results can
be compared.
The Budget Setting Process
 Budgeting is part of the short-term planning process.
 A painstaking process, involving the co-operation and flexibility
of all the budget holders who may well have to modify their
budgets in the light of both external and internal factors.
 Many drafts may have to be prepared before the final set of
budgets is established.
 The outcome of the budgeting process is a master budget
comprising:
 Projected balance sheet
 Projected profit and loss account
 Projected cashflow
The Budget Setting ProcessThe Budget Setting Process
 These will be supported by a series of
operating budgets for each cost area, eg.
labour budget, materials budget, sales
expense budget.
 It is vital to apportion responsibility for each
budget, in the form of a cost centre, which is
responsible for the monitoring and control of
costs.
What Stops us achieving our budgets
 Important to analyse the limiting factors, ie.
those factors which may put barriers in the
way of the organisation achieving its
objectives.
These are the:
 External limiting factors (over which the
organisation has no direct control)
 Internal limiting factors (over which the
business has considerable control)
Group Exercise
Working in groups, consider possible examples
of limiting factors within the higher education
sector and make a list under the following
headings. Please split these between annual
and longer term
 External Limiting Factors:
 Internal Limiting Factors:
Flexed Budgets
 These are used where forecast demand and actual
demand are different. By ‘flexing’ the budget, it is
possible to get a much more realistic analysis of
budgetary performance. The purpose of a flexed
budget, therefore, is to account for changes in the
budget variables and, consequently, to assess real
budgetary performance.
 For example, the training budget in your workbook, for
January, was forecast for 5,000 delegates.
 If you look at the following slide how would you
evaluate budgetary performance?
Non flexed budget
Forecast
5,000 delegates
£
Actual:
4,000 delegates
£
Variance
£
Support Staff
10,000
8,300
1,700 FAV
T. Workbooks
1,000
840
160 FAV
Training Staff
15,000
13,200
1,800 FAV
D. Workbooks
2,000
1,900
100 FAV
Venues
4,400
3,500
900 FAV
Catering
1,600
1,600
0
Hotel Expenses
2,400
2,400
0
Other Materials
1,800
1,400
400 FAV
700
720
20 ADV
38,900
33,860
5,040 FAV
Services
Total
Flexed Budgets
 As you can see the actual expenditure in all but 3 items, was less
than forecast expenditure. The net variance is actually just over
£5,000 less than forecast. We need to investigate why it is so
much less.
 On investigation, we find that the forecast was based upon 5,000
staff going through training. In reality, however, there were only
4,000 delegates. In order to get a real picture of budgetary
performance we can use a technique called ‘flexing’, so that we
can create a flexed budget.
Flexed Budgets
Activity: Complete the flexed budget on page 38 of your workbook
by using the formula below. The flexed budget for ‘support staff’
has been done for you.
 Step 1:
 Step 2:
Find the flexed % = 4,000/5,000 x 100 = 80%
Calculate the flexed figures: (example – ‘Support Staff’):
10,000/100 x 80 = 8,000
 Step 3: Compare the actual figures with the flexed figures to find
the
variation from the flexed budget: (example –
‘Support Staff’)
8,300 – 8,000 = +300 = £300 adverse oversp
Flexed Budgets (these are the 3 cols you should select)
Actual:
4,000 delegates
£
£
Support Staff
8,300
T. Workbooks
840
Training Staff
13,200
D. Workbooks
1,900
Venues
3,500
Catering
1,600
Hotel Expenses
2,400
Other Materials
1,400
Services
Total
Flexed Budget:
4,000 delegates
720
33,860
Variation from
Flexed Budget
£
8,000
300
Variance Analysis – Training Budget
Forecast
Actual:
£
Support Staff
Variance
£
£
10,000
8,300
1,700 fav
1,000
840
160 fav
15,000
13,200
1,800 fav
Workbooks
2,000
1,900
100 fav
Venues
4,400
3,500
900 fav
Catering
1,600
1,600
0
Hotel Expenses
2,400
2,400
0
Other Materials
1,800
1,400
400 fav
700
720
20 adv
38,900
33,860
5,040 fav
Workbooks
Training Staff
Services
Total
Flexed Budgets
 Discuss in Groups that advantages and
disadvantages of flexed budgets
 How else can you flex budgets?
Budgetary Control
This is concerned with:
 Monitoring budgeted against actual figures
 Analysing and investigating variances both
positive and negative
 Re-budgeting where necessary
Now a word from our sponsor
Economic Challenges
 What do you think are the major economic
challenges facing Loughborough University ?
 What has changed in the last few years?
RASCAL
 Resource Allocation System and Cost
Apportionment at Loughborough
 It how we fund the academic Schools
RASCAL Principles
 It is an income streamed model
 All income is distributed
 All costs are distributed
 The budgeted Surplus is distributed as a cost
 Therefore it adds up to zero
RASCAL – Indirect Charges
 Replace COMA
 Include the Community Charge
 Now one driver People
 People = Staff + Students
RASCAL – Cross Subsidy
 It is an income streamed model
 All home undergraduates are charged £9,000
 We wish to remain a mixed University
 We cross subsidise home undergraduate
teaching based on national TRAC T data
The Budget Process at Loughborough
 The process begins with the five year plan
 Discussions on the overall budget take place
at Operations and ALT before business plans
are produced
 These are informed by the Development
Plans
 Areas for investment are highlighted
The Budget Process at Loughborough
 Detailed plans are assessed with Schools to
ensure that they are deliverable
 Result is assessed by operations Committee
and new investments are approved
 Budget for the year is agreed by Council and
Finance Committee
Budgetary control at Loughborough
 Performance against budget is assessed
quarterly
 Meetings take place between the Dean and
the DVC
 All areas of expenditure and grant or
consultancy income are assessed
 New forecasts for the year end are agreed
 The overall University budget is updated to
reflect changes
Budgetary control at Loughborough
 LU has a history of performing better than
budget
 Is this good or bad?
The Balanced Scorecard
 A methodology for producing a
comprehensive set of measures to assess the
success of an organisation
 Makes use of non financial measures
 Also known as KPI’s
Performance indicators
 Need to ensure financial security but how?
 Look at KPI’s for your institution
 Banking covenants
 Total funds to exceed £50m
 Total borrowing costs not to exceed 5% of total
consolidate income
 HEFCE Financial Memorandum
 Maximum 4% annualised servicing costs
 No deficits
 Are you inline with other institutions?
Sustainability Reporting
 We have been asked by HEFCE to produce a
report on Financial Sustainability for 2012/13
 We were one of the pilot institutions producing
this report
 Here is the example we gave to Council
Financial Governance at Loughborough
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HEFCE – Financial Memorandum
Audit Committee
Finance Committee
Operations Committee
External Audit
Internal Audit
Sources of financial information
 HEI websites
 Funding Council websites – summary of
financial forecasts from all HEI’s, summary of
grant allocations to each HEI, various areas of
guidance for each institution
 Pension fund websites
 Within institutions themselves
 HEIDI
 Thank you and goodnight!