Monday, December 11, 2017    

Improving the Health of Your Business With Cost-Cutting & Operational Efficiency

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Understanding your money leverages your competitive advantage; provides necessary reporting mechanisms to react quickly yet strategically to market changes.

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Your Money

Your Money

Getting deep inside the numbers generated in your organization can lead to many cost savings. We'll examine your Chart of Accounts, Reporting functions, Taxes and Financial Ratios. These are the vital statistics of your business much like blood pressure and heartrate are to your body.
Chart of Accounts

Chart of Accounts

What is a Chart of Accounts? It is the numbering system used to categorize transactions in your accounting system. The Chart of Accounts is a common system that people understand, much like a card catalog is a way of organizing books in a library. When Your Business is Alive! takes a look at the Chart of Accounts, we frequently find non-fiction books mixed in with biographies and magazines in the reference section. Only instead of the librarian getting upset, it is often the IRS. In fact, the government has a Sample Chart of Accounts

Here is a simple example:

Series Series Title Example Accounts
10000 Assets Cash, A/R, Inventory, Pre-paid Rent, Equipment
20000 Liabilities Accounts Payable, Salaries Payable, Loans, Depreciation on Machinery
30000 Owner’s Equity Owner Capital, Owner Drawing, Income Summary
40000 Income Sales, Sales Discounts, Rental Property
50000 COGS (COSS) Direct Materials, Direct Labor, Shipping, Advertising
60000 Indirect Expenses (G&A) Vacation/Holiday/Sick Leave, 401K, Payroll Taxes, Insurance
70000 Other Income Interest Income from a Savings Acct
80000 Other Expenses Interest Expense (Credit Card, Loan), Depreciation
90000 Other Gain(Loss) on Sale of Assets, State/Federal Income Tax

Using this Chart of Accounts, we would number an account for an asset like office equipment somewhere between 10000 and 19999.

So what happens if your Chart of Accounts is messed up or worse, you don't have one at all? Well, all the numbers your business relies on may be out of whack as a consequence.

For example, Your Business is Alive! has arrived at a business, looked at the income statement and found negative cost of goods sold (COGS). What did the negative COGS do to that company? It over-stated their income. Of course the IRS welcomed the extra tax revenue... to the tune of $30-40K! The owners of the business weren't quite so excited. How did this happen? This was a family business. At one point they decided they needed help and hired a receptionist / book keeper / secretary all-in-one.

Was the negative COGS this person's fault? Or did the problem lie with the accountant who prepared the tax returns? We looked further for answers. This company did machine fabrication in a job shop. They took material, transformed it, and then re-sold it. Let's call the material iron. Now, everyone in the shop, owners, engineers, even customers all referred to the finished product as iron too. What's the big deal? They used iron as the name for multiple accounts in their accounting system. Because they didn't number the accounts, they had an income account and a COGS account both named the same.

You can probably guess the rest, their all-in-one hire was responsible for entering purchase orders and invoices into the accounting system. Sometimes material purchases went into income and sometimes finished product sales went into COGS. Because they had not established a good Chart of Accounts they vastly overstated their income and cost themselves big money at tax time.

Thus examining the Chart of Accounts isn't an "option" for a small business advisor, it is a necessity. This one area frequently produces big gains for our clients.


Reporting

Reports

What information do you need to be successful in your business and does your current reporting deliver it? What about your employees; does your reporting structure give them the tools they need at every level of your organization? We help you determine what information every employee in your business needs and find a way to deliver it. There are a myriad of different reports that could improve your business like sales reports, estimates, scheduling and productivity breakdowns, and utilization rates.

For the business owner, the income statement and budget are the cornerstones of reporting. The income statement is otherwise known as a profit and loss statement. If you choose not to review it and take the attitude that "there is money in the bank, I am good to go", Your Business is Alive! will ask you, "where are you going?" and "when are you going to know you have arrived at your goal?". If you are not analyzing this report, you are not going to get you where you want, when you want, or how you want to get there. In fact, your competitors may get there first.

Budget and forecasts are another type of reporting that is crucial to the health of your business. Seasonality can play a large part in production schedules. Are you properly accounting for it in your forecasts? Even if your products or services are in demand year round, you need a solid budget and a plan for periodic follow up. We can help you create budgets and forecasts and even more importantly, we can train your staff to perform this task as well. Our custom designed variance reports will let you quickly identify and respond to undesirable numbers.

Are the reports you need found only on your accounting system? Phrased like that, the answer is obvious. Let’s think about what other reports are useful. What about efficiency? What about time and motion (T&M) studies? Knowing your set-up costs and machine down times is quite important. If you’re willing to make a large capital expenditure for equipment, you need to review the output rate, the efficiency of those repairing the machines, and what the economic production rate (EPR) is for your company. How much does it cost you per hour when your machine is down?


Taxes

Taxes

Owning your own business makes filing taxes even more complicated. To help you, Your Business is Alive! has put together the following guidelines. Always, always double check the sources though. Your Business is Alive! is not responsible for the tax timeliness or forms. Consult your CPA and attorney.

FEDERAL TAXES
Due Quarterly. Form 941. Whether the business makes money or not, this is a mandatory form. As far as the IRS is concerned, this is just as important as filing yearly. Federal Form 941

Annual taxes are due April 15th, providing the 15th is not a weekend or holiday. Extensions can be filed. It is the business owner(s) responsibility to insure that this has been done. Remember, filing for an extension has penalties. If taxes are due, you will also need to pay interest on that amount. In other words, plan with your CPA.

FRANCHISE TAXES (MARGIN TAX)
Your state may require franchise taxes. Constitutionally, franchise taxes are illegal. Therefore, the revised name is "margin" tax. If your business started after 10/04/2009, the taxes are annual and are due May 15th unless the 15th is a weekend or holiday. Then they are due the next business day. In Texas, the forms for these taxes are Form 05-163 Annual and Form 05-102. You can get more information here.

SALES TAXES
Not all items your business sells, services, manufactures, or assembles are allowed to be taxed. You will need to check with your individual state. In Texas, the deadline is calendar quarterly. It is 20th of the month following the calendar quarter end unless the 20th is a weekend or holiday. Then the deadline is the following business day. The forms for Texas headquartered businesses are Form 01-114 and Form 01-116. You can get more infomation here.


Financial Ratios

Financial Ratios

The overhead absorption rate (OAR) is a key component in pricing your product and/or service. It does not include the profit. It is the portion of mark-up that is needed to cover all other costs that are not COGS, aka, direct costs. Costs not associated with the COGS are formally called indirect costs. They include all overhead costs plus interest expenses. From the income statement, you need the COGS and the indirect costs.

Overhead Absorption Rate = Indirect Costs / Direct Costs

Once the overhead absorption rate is calculated, it is then multiplied by the direct costs and added to the price. In other words, for every dollar of direct costs, there is X added for indirect costs.

Let’s talk about profit. Profit is what we see at the bottom of the income statement. If we don’t include the overhead absorption rate in the calculation, then there is a loss. Competition is tough and who doesn’t want a profit? Therefore, we need to know our business. For example, grocery store owners wanting a 20% profit are being unreasonable. 8% is usually the top, and most supermarkets are around 5% profit. Know your business or you will price yourself out.

Here is a sample calculation of OAR:

COGS $4,000,000
Indirect Expenses $2,000,000
Overhead Absorption Rate $2,000,000 / 4,000,000 = .5 or 50%

Now, let’s look at a unit of product (or service) sold over a period. We say over a period because we know that one shipment of raw materials may be priced at $100/unit and the next shipment, it may be $99.975/unit. Economics, right?

Once we have calculated the overhead absorption rate, we add it to the direct costs. This is known as a breakeven point. (Profit has not yet been added.)

Direct Costs $10,000
Overhead Absorption Rate 50%
Overhead Absorption Factor $10,000 * 50% = $5,000
Breakeven Point $10,000 + 5000 = $15,000

For simplicity, let’s say that a 10% profit is normal for your industry. We know that 100% represents the total price for the product (or service). Therefore, 100% - 90% is the amount of money in the breakeven figure, or $15,000. What does our customer want to know? The final price that he/she is going to pay, of course.

Profit 10%
Breakeven / 90% = Total Price 15,000 / 90% = $16,667

How much $ should be in the bank for the company? $16,667 – 15,000 = $1,667.

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