1. Otto Ch 1, Slide 1 Copyright 2004 The McGraw-Hill Companies, Inc. Permission required for reproduction or display. ACCT 200A Financial Accounting: A New Perspective Dr. Joseph Otto

2. CHAPTER 1 Introduction to a Business

3. Otto Ch 1, Slide 3 STARTING NEW BUSINESS: Initial Motivation Susan Newman wants to: Do what she loves Turn a hobby into a business Make full use of her college education Interact with customers CARDS & MEMORABILIA UNLIMITED Nature of business Retail sales of sports cards & collectibles New business Sole proprietorship

4. Otto Ch 1, Slide 4 PLANNING A NEW BUSINESS: Research the Industry Interview industry personnel Research internet

5. Otto Ch 1, Slide 5 MARKETING STRATEGY: Four Factors (4 P’s) Product: good or service Price: cost of good or service Promotion: communication with customers Place: market where buyers meet sellers

6. Otto Ch 1, Slide 6 PLANNING A NEW BUSINESS: Four Factors (4 P’s) Product Sports cards & collectibles Price Identify suppliers Promotion Advertising, website, etc. Place

7. Otto Ch 1, Slide 7 PLANNING A NEW BUSINESS: Other Considerations Target market: Hobbyist, Investor Register name of business for protection Find suppliers Manufacturers Wholesalers Retailers, dealers Consumers

8. Otto Ch 1, Slide 8 PLANNING A NEW BUSINESS: Location Absence of competition High concentration potential customers Space Cost

9. Otto Ch 1, Slide 9 PLANNING A NEW BUSINESS: Choose Form of Business Sole proprietorship- Single owner Partnership – 2 or more owners Corporation- Ownership through stock

10. Otto Ch 1, Slide 10 FINANCING NEW BUSINESS: Estimating Costs ItemLow costHigh cost Equipment$10,000 Inventory 12,500 15,500 Rent Totals 1,188 $23,688 1,463 $26,963

11. Otto Ch 1, Slide 11 FINANCING NEW BUSINESS: Sources of Funding Personal savings - $14,000 Money from uncle - $30,000 Bank loan - ???

12. Otto Ch 1, Slide 12 FINANCING NEW BUSINESS: Apply for Bank Loan Business versus personal loan Personal loan information required

13. Otto Ch 1, Slide 13 FINANCING NEW BUSINESS: Bank Loan Approval Collateral Things of valued pledged by borrower Subordinated liability Debt repaid after other debt Secured liability Debt backed with collateral

14. Otto Ch 1, Slide 14 FINANCING NEW BUSINESS: Business Plan Written document; decision-making tool Specifics of business Goods & services Marketing plan Analysis of industry Operating plan Estimate of revenues, expenses, cash flows

15. Otto Ch 1, Slide 15 USER FOCUS Writing a Business Plan Decision making tool to make choices Includes specifics about a business Description of goods, services Marketing Industry analysis Operating plan Estimates of revenues, expenses, cash flows

16. Otto Ch 1, Slide 16 OPERATING BUDGET DEFINED Future-oriented plan expressed in financial terms Balance sheet Future assets, liabilities Income statement Future operating results

17. Otto Ch 1, Slide 17 PREPARE OPERATING BUDGET: Sales Revenue Gather information from Other retailers Experts-a CPA Calculate estimate # items sold * (average cost + markup)

18. Otto Ch 1, Slide 18 OPERATING BUDGET: Estimating Revenues Estimate Cost of goods sold Quantity goods sold x Ave. unit cost Cost of goods sold x $40,000 * Markup = 1.60 = Estimated Revenue $64,000

19. Otto Ch 1, Slide 19 PREPARE OPERATING BUDGET: Expenses Gather information from Other retailers Experts-a CPA Calculate estimate # items sold * average cost Rent, rent related costs Equipment Other

20. Otto Ch 1, Slide 20 OPERATING BUDGET: Estimating Expenses Inventory (Cost of Goods Sold) $40,000 Rent (1 year) Rent related 12,000 2,700 Other Equipment 1,300 10,000 Total expenses$66,000

21. Otto Ch 1, Slide 21 CMU Operating Budget For year ending 12/31/1 Sales revenue ($40,000*1.6) Expenses: Cost of goods sold Rent Rent related Equipment Other Net Income $64,000 40,000 12,000 2,700 10,000 1,300 66,000

22. Otto Ch 1, Slide 22 DISTINGUISH COSTS FROM EXPENSES Expense: used up in the operating period Cost has future useful life Divide benefits over future operating periods

23. Otto Ch 1, Slide 23 ALLOCATING COSTS TO EXPENSES Cost allocation example: Equipment Expected useful life: Benefits 5 operating periods Depreciation Allocating cost over 5 periods $10,000/5 = $2,000

24. Otto Ch 1, Slide 24 OPERATING BUDGET: Corrected Expenses Inventory (Cost of Goods Sold) $40,000 Rent (1 year) Rent related 12,000 2,700 Other Depreciation 1,300 2,000 Total expenses$58,000

25. Otto Ch 1, Slide 25 CMU Corrected Operating Budget For year ending 12/31/1 Sales revenue ($40,000*1.6) Expenses: Cost of goods sold 40,000 Rent 12,000 Rent related 2,700 Depreciation 2,000 Other 1,300 Net Income $64,000 $58,000 $6,000

26. Otto Ch 1, Slide 26 OPERATING BUDGET: What If? What if more products were sold? Create operating budget based on $55,000 cost of goods sold

27. Otto Ch 1, Slide 27 CMU Operating Budget What if? Sales revenue ($55,000*1.60) Expenses: Cost of goods sold $55,000 All other expenses 18,000 Net income $88,000 73,000 $15,000

28. Otto Ch 1, Slide 28 OPERATING BUDGET: What If? What if fewer products were sold? Create operating budget based on $35,000 cost of goods sold

29. Otto Ch 1, Slide 29 CMU Operating Budget What if? Sales revenue ($35,000*1.60) Expenses: Cost of goods sold $35,000 All other expenses 18,000 Net income $56,000 53,000 $ 3,000

30. Otto Ch 1, Slide 30 OPERATING BUDGET: More Analysis Compare the 3 operating budgets. Why did “All other expenses” remain the same ($18,000) when the number, cost of products sold changed? Answer: CMU will have to buy more product but will not have to rent more space or buy more equipment.

31. Otto Ch 1, Slide 31 WHAT IS ACCOUNTING? Accounting Is a measurement & reporting information system Helps users make business decisions Communicates information about financial activities

32. Otto Ch 1, Slide 32 HOW IS ACCOUNTING USED IN BUSINESS? Credit decisions Lending, leasing Investment decisions Sales estimates imply inventory purchases

33. Otto Ch 1, Slide 33 FINANCIAL vs. MANAGERIAL ACCOUNTING Financial accounting Process of collecting, measuring, processing, communicating financial effects of business transactions for external users Managerial accounting Process of collecting, measuring, processing, communicating quantitative & qualitative information for internal use of management

34. Otto Ch 1, Slide 34 FORECASTING SUCCESS WITH REWARDS Financial rewards Return on investment Return on equity Nonfinancial rewards

35. Otto Ch 1, Slide 35 FORECASTING SUCCESS: Return on Investment Measures rate of return on investment Investment is owner’s equity investment ROE = Net Income/Equity

36. Otto Ch 1, Slide 36 FORECASTING SUCCESS: Return on Investment Example ROE = Net Income/Equity $6,000/$30,000 20% What other investment alternatives provide a 20% rate of return?

37. Otto Ch 1, Slide 37 INTERNAL CALCULATION OF ROE: CMU Requires adjustment for opportunity cost* (Net Income – Opportunity Cost)/Equity ($6,000 - $27,000)/$30,000 Consideration: profit does not make up for lost salary *Cost of salary given up

38. Otto Ch 1, Slide 38 NONFINANCIAL REWARDS Apply learning from college Learn new things Importance of accounting Trade-offs Risk-to-reward Be your own boss

39. Otto Ch 1, Slide 39 LEARNING LANGUAGE OF BUSINESS Test your understanding Limited liability Financing Lease, collateral Balance sheet Assets, depreciation Income statement Revenues, expenses, cost of goods sold, net income Budget

40. APPENDIX 1-1 CMU Business Plan

41. Otto Ch 1, Slide 41 CMU Business Plan Executive summary Current market environment Objective Management Market analysis Description of CMU

42. Otto Ch 1, Slide 42 CMU Business Plan (cont.) Marketing strategy Financials Conclusion

43. Otto Ch 1, Slide 43 CMU Current Market Environment Product demand has increased Manufacturers thriving Market growing Market conditions in Phoenix ripe for new business Phoenix Democrat (newspaper) Personal research

44. Otto Ch 1, Slide 44 CMU Objective Become leading seller of trading cards & sports memorabilia in Phoenix area by Targeting customers & providing unique products, services Having choice location & latest technology Having strong advertising, promotion Using financial management tools, techniques

45. Otto Ch 1, Slide 45 CMU Management Sole proprietorship Owner only employee Owner has degree in business administration

46. Otto Ch 1, Slide 46 CMU Market Analysis Targeted customers Collectors Focus group To determine habits of collectors Competition 11 stores within 40 mile radius All significantly different in size & specialization Use of technology to give customers inventory access

47. Otto Ch 1, Slide 47 CMU Marketing Strategy Advertising & promotion Newspaper stories Fliers Press releases Trade shows

48. Otto Ch 1, Slide 48 CMU Financials Resources Bank loan application Operating budget (projected income statement) ROE Projected as 20% for first year Sales projected to increase by 25% each of Years 2 - 5

49. Otto Ch 1, Slide 49 CMU Corrected Operating Budget For year ending 12/31/1 Sales revenue ($40,000*1.6) Expenses: Cost of goods sold 40,000 Rent 12,000 Rent related 2,700 Depreciation 2,000 Other 1,300 Net Income $64,000 $58,000 $6,000

50. Otto Ch 1, Slide 50 Assign #1 Questions, pg. 34 - #4, 5, 8, 11, 20 Assign #2 Reinforcement Exercises, pg. 35-38 - #3, 4, 6 Critical Thinking Problems, pg. 38-40 - #1, 2, 3.

51. Otto Ch 1, Slide 51 Assign #3 Read chapter 9 - pg. 394-405