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Audit | Tax | Advisory | Financial Advice
IDENTIFYING YOUR BUSINESS RISKS
Aaron Robertson
Audit | Tax | Advisory | Financial Advice 2
Identifying your Business Risks
IT
HR
OH&S
Asset Protection
Bank
FamilySuccessionATO
Marketin
g Lifestyle
Creditors
Finances
Contamination
Environment
Closures
BenchmarksLogistics
Business Value
GlobalLegal
Estate Planning
DISASTER MITIGATION
AccidentsBusiness Sale
Audit | Tax | Advisory | Financial Advice 3
Way too many hats…
OH& S Human ResourcesIT FamilySuccession Business ValueLogistics GrowthSales Asset ProtectionMarketing LegalFinance CustomersSeasons BankingNature CreditorsDebtors ClosuresKey motivational speakerNeeds a break…!!
Audit | Tax | Advisory | Financial Advice 4
…and still need to drive the business forward
Audit | Tax | Advisory | Financial Advice 5
Identifying your Business Risks
Narrow it down for today:
• Financial Risk
• Identifying and reducing risk in your business
Audit | Tax | Advisory | Financial Advice 6
Financial Risk
This can be identified – it’s in the numbers
Needs to be based on information that is timely and accurate or its value will be:OldOf little valueMisleading
and often – too late
Audit | Tax | Advisory | Financial Advice 7
Financial Risk
What should be measured?
Key business ratios:• Profitability• Solvency/Liquidity• Efficiency• Performance• Gearing
(Measure what the bank measures)
Audit | Tax | Advisory | Financial Advice 8
Financial Risk
Profitability
Revenue Trends – aim for growth??!!
Return on Sales (%) – net profit earned per $ of sales revenue (ie. how many sales $’s stick!!)
Gross Profit to Sales (%) - important to look at the trend as it will give an indication of where you margins are heading (prices as compared to your main variable costs) A decline can indicate pricing competition, rising direct costs, inefficiency (waste)
Return on Assets (%) – ultimate measure of profitability as it shows the profit yield per $ of asset used in the business
Risk Highlighted: Performance of the business relative to its sales and value of its assets/equity used or invested.
Audit | Tax | Advisory | Financial Advice 9
Profitability – Return on Sales
Audit | Tax | Advisory | Financial Advice 10
Profitability – Gross Profit to Sales
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Profitability – Return on Assets
Audit | Tax | Advisory | Financial Advice 12
Financial RiskSolvency/LiquidityCurrent Ratio – the extent of funds that are available from Current Assets to cover Current Liabilities. The higher the ratio the better. Ratio of 2:1 is desirable. (Shellfish industry can be high due to weighting and value of stock)
Quick Ratio – reflects the amount of liquid assets available to cover current liabilities. Aim for 1:1
More aggressive than the above calculation (ie. excludes stock).
Current Liabilities to Net Assets (%) – identifies the amount due to creditors in the short term (1 year) as a %age of the owners equity. Reflects funds creditors have a risk relative to the owners investment. A %age > 80% would be of concern.
Total Liabilities to Net Assets (%) – the higher this %age the less protection for creditors. Identifies the relative size of the long term debt which may burden a business with interest.
Fixed Assets to Net Assets (%) – level of Fixed Assets relative to the owners equity. Being too high (> 75%) indicates a business may be vulnerable to ‘environmental’ changes as a high proportion of funds are tied up in long term assets (not easily convertible to cash).
Risk Highlighted: Ability to meet debts in the short term
Audit | Tax | Advisory | Financial Advice 13
Current Ratio
Audit | Tax | Advisory | Financial Advice 14
Quick Ratio
Audit | Tax | Advisory | Financial Advice 15
Financial RiskEfficiency – Working CapitalCollection Period (days) – days taken to collect cash from your Accounts Receivable. Should align with your collection terms!
Accounts Payable Days – days taken to pay creditors. Should align with general payment terms.
Inventory Days – days working capital is tied up as inventory. Will be a large number of days in the shellfish industry.
Sales to Stock Ratio – shows how fast inventory is being turned into sales. A higher ratio is better as suggests a quick turnover and conversion to cash. Shellfish industry will generally have a low ratio!
Can indicate being understocked.
Assets to Sales Ratio (%)– Shows how productive your assets are in terms of generating sales. If high can suggest that not aggressive enough in use of its assets, however if low could be putting too much pressure on its assets (exposes risk if any assets fail at a critical time).
Creditors to Sales (%) – shows how the business is paying its creditors. A lower ratio is a healthy situation and a high (or increasing ratio) indicates creditors are being used to excessively finance the business.
Risk Highlighted: Ability to manage short term assets (working capital) which directly effect cashflow.
Audit | Tax | Advisory | Financial Advice 16
Collection Days
Audit | Tax | Advisory | Financial Advice 17
Accounts Payable Days
Audit | Tax | Advisory | Financial Advice 18
Inventory Days
Audit | Tax | Advisory | Financial Advice 19
Financial RiskPerformance Efficiency
Return on Assets – net profit yield generated from the assets.
Return on Equity – the ultimate measure of how well a business is performing from an owners perspective. One of the main drivers of business value.
Return on Capital – Gives a better indication of a businesses performance because it is not effected by the debt/equity capital structure (ie. its the return before any recognition of interest or debt structure).
Risk Highlighted: highlights effectiveness of overall business management (as reflects management of the income and expenses (to get profit), the efficiency of asset use and the use of debt).
Audit | Tax | Advisory | Financial Advice 20
Return on Assets
Audit | Tax | Advisory | Financial Advice 21
Return on Equity
Audit | Tax | Advisory | Financial Advice 22
Return on Capital
Audit | Tax | Advisory | Financial Advice 23
Financial Risk
GearingInterest Coverage – number of times interest payments are covered by net profit (before tax and interest). Shows the ability to meet interest bills and service debt. (Aim for 1.5x or better)
Debt to Equity - the extent to which a business finances its operations. The riskier the business the less that is lent.
Sales to Debt – bank indications are that preference is for debt not to exceed 2 – 3 times turnover.
Debt to Total Assets (%) – familiar ratio. Depending on industry, range would be 40% to 60% debt funding. The risker the industry the lower this ratio.
(Note: Bank will involve personal assets in this calculation)
Shellfish industry – will come down to cashflow and the ability to service debt… (making your sales $ stick!!)
Risk Highlighted: key bank indicators. Highlights level of debt and the ability to pay.
Audit | Tax | Advisory | Financial Advice 24
Interest Coverage
Audit | Tax | Advisory | Financial Advice 25
Debt to Equity
Audit | Tax | Advisory | Financial Advice 26
What's wrong with this detail??
It’s historical – We are looking backwards
A guide to the future only
Not at Market Value
If it’s all you have a present…
…still a good starting point
Audit | Tax | Advisory | Financial Advice 27
Audit | Tax | Advisory | Financial Advice 28
Financial Risk cont
Planning/Budgeting/ForecastingFrom any position the only way to identify risk going forward is to plan:
• Use historical as a guide and a comparison• Use key drivers to model your situation – estimated seasonality, timings, stock
coming on, prices etc• Use variables that you know exist at present – interest rates, softened demand
etc
• 3 way budgets – banks are beginning to require…• P&L; Cashflow and Balance Sheet
Audit | Tax | Advisory | Financial Advice 29
Financial Risk cont
Planning/Budgeting/Forecasting
• It is a tool to reduce risk – less surprises• Shows financiers good fiscal practise especially when
• Comparing and explaining actual to budget• Reforecasting• Look beyond one year• Action plan for any gaps (in cashflow)
• Budgets should be ‘rolling’ plans – always looking 12 months out (or more)• If not, as a financial year ticks by, your budget shortens to a point where it is only a 1 month
budget.
• The above is the ideal – however keep it as simple or as complicated as you like – Just have that ‘plan’!
Audit | Tax | Advisory | Financial Advice 30
Planning/Budgeting/Forecasting…don’t stop there
Audit | Tax | Advisory | Financial Advice 31
Sounds hard to get all this information? Spreadsheets, double handling of information – here’s a glimpse of the future…
Cloud Accounting Package
Diagnostics & Reporting Tools
Add ons (sales/inventory)
Budget System
3 Ways
Data Entry
Risk reduction: ‘live’ accurate information at your fingertips
Audit | Tax | Advisory | Financial Advice 32
Business Risk
Basics in place:
• Best practice• Systems & Procedures• Adequate Insurance(s) – business/key person/family• Right business structure (will change and grow with the business)• Limit family directors• Limit personal guarantees
• Know your bank account…
Family
Family Trust
Company 1
Company 2
SMSF
Property Trust
Audit | Tax | Advisory | Financial Advice 33
Business Risk cont
The ‘business plan’ will cover key elements of risk• A liquid / live document that is reviewed and updated by the management team
(at least annually)• Considers all aspects of the business – marketing/sales/OH&S/HR• SWOT analysis• Risk analysis• Includes the budget (as above)
Involve the key team members.Allocate tasks and keep everyone timely and accountable.Attend to in prioritised and achievable sizes.Benefit > Cost
Audit | Tax | Advisory | Financial Advice 34
Business Risk cont
Have your business ‘ready to sell’…even if your not going to
Why?• Usually when you sell it needs to be in the best possible shape
• Sharpens the books• Do ‘Due Diligence’ on your own business:
• Use checklists across various aspects of the business• Looks vigourously at the important areas – people, systems, OH&S, profitability
• Build an action plan around this (similar to the business plan above)
Audit | Tax | Advisory | Financial Advice 35
Business Risk contHire in specialist help
• Set the scope, get them in, keep accountable, action results, get them out…• Fresh independent view
Use your team involved• Hold a wealth of knowledge• Internal eyes and ears
Have a business manager• Gets issues and admin off the owners desk to look the big picture• Accountable around the business plan
Benchmark business to industry• Industry margins• Cost of production• Industry returns
Get away from the business – Stand back and view• Can’t see the wood for the trees…
Audit | Tax | Advisory | Financial Advice 36
Business Risk
IN SUMMARY
• Review current position• Plan and Identify …plan budget due diligence• Prioritise, and action• Get help
Now, not later….could be too late?!
Audit | Tax | Advisory | Financial Advice
Three things serial Client Choice Award winners do extraordinarily well…
1. Everyone in the firm knows that customers/clients come first
2. Regard people as being as important as their clients
3. Consistency. Consistency. Consistency.
© 2014 Beaton Capital 37
Audit | Tax | Advisory | Financial Advice 38
While all reasonable care is taken in the preparation of this presentation, to the extent allowed by legislation Crowe Horwath (Aust) Pty Ltd accept no liability whatsoever for reliance on it.
All opinions, conclusions, forecasts or recommendations are reasonably held at the time of compilation but are subject to change without notice by Crowe Horwath (Aust) Pty Ltd. Crowe Horwath (Aust) Pty Ltd assumes no obligation to update this presentation after it has been issued.
You should seek professional advice before acting on any material.
Liability limited by a scheme approved under Professional Standards Legislation (other than for the acts or omissions of financial services licensees) in each State or Territory other than Tasmania.
The title 'partner' within Crowe Horwath conveys that the person is a senior member within their respective division, and is among the group of persons who have the day-to-day and strategic responsibility for the services it provides to clients and client relationships. However, the only part of the Crowe Horwath organisation which is conducted by a partnership is the auditing business. The other professional services offered by Crowe Horwath business are conducted by a publicly-listed organisation and/or its subsidiaries. If a person has the title of 'partner' in any of those other professional services of the business, he or she is not in fact an owner or part owner of the Crowe Horwath business via a partnership structure (but may be a shareholder in the publicly-listed organisation), and is not personally liable for the provision of services.
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Disclaimer
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