MDDP Slides Day 1 Mike Mytton by liaoxiuli4

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									Understanding the risks and
returns of a project

MDDP, Surrey University – October 2004
Week 1.
The plan
Week 1.
 Why make projections?
 The basic accounting statements
 The mechanics of the model
Week 2
 Making sense of the results
 Measuring the value…and understanding
  the risks
Why do we want to make
projections?
To establish:
 The “value” of a project or existing business
  and hence to compare it to other ways we
  can use the money
 The funding requirements
 The risks
 …and to integrate the work of accountants,
  markets specialists, engineers, investors –
  so that each can see the “whole”
The way accountants see things
                     Profit & loss account
                     - revenues

 Cash flows          - costs

 -before finance     - profits
 & tax
 - after finance &
 tax                 Balance sheet
                     -assets
                     - liabilities
                     - shareholders capital
The profit and loss account
 The company’s performance over a
  particular period of time
 Costs and revenues are intended to be
  comparable or matching
The different levels of profit
       Revenues
(less) Cost of sales……….Gross margin

(less) Overheads………….EBIT

(less) Financial charges…..Pre-tax profit

(less) Tax…………………Net profit

(EBITDA = Earnings before interest and depreciation)
The balance sheet
 The company’s position at a particular
  point in time
 …what we own (or, what we have spent our
  money on)
 … and how they were paid for (the “capital
  employed”).
The five key categories and the
way they balance
 Fixed assets
                                    ASSETS
 (plus) Current assets
 (less) Current liabilities
 (less) Long term liabilities        LIABILITIES
 (equals) Shareholders funds

But there are many different presentation…..
Cash flows
 The actual money received from sales
 (less) the actual money spent on operating
  costs
 (less) the actual money spent on fixed
  assets such as new equipment
Cash flows and the profit and
loss account
P&L             Adjustments               Cash flow

Revenues        - increase in debtors     Money received from
                                          sales

Cost of sales   + increase in stocks      Money spent on
Overheads       - increase in creditors   operating costs

Depreciation    - depreciation            Money spent on fixed
                + capital expenditure     assets

EBIT                                      Net cash flow
Working capital: the “float” of
money needed to run the business
 Debtors (what our customers owe to us)
 (plus) Stocks (money tied up in the
  production and selling process)
 (less) Trade creditors (what we owe to our
  suppliers)
    Another look at working capital

             Creditors


                                    Materials paid for




         RM stocks           FP stocks                   Debtors



Materials bought   Goods produced             Goods sold      Goods paid for
Building a cash flow model

 Stage 1: cash flows before finance and tax
 Stage 2: cash flows after finance and tax
 Stage 3: adding the accounts
Model 1. Cash flows before
finance and tax
                       Suppliers

                             Money spent on
                             operating costs and
                             capital items
  The                    The
“owner”                company
          Difference
                             Money received
                             from sales revenues


                       Customers
The elements of the cash flows

          Sales revenues
   (less) Operating costs
   (less) Increases in working capital
   (less) Capital expenditure

(equals) Net cash flow before finance and tax
Revenues
 Sales volumes
 Sales prices
Operating costs – a check list
Mainly…
 Materials and energy (mainly variable)
 Labour (mainly fixed)

But don’t forget…
 Maintenance (mixture of fixed and variable)
 Marketing and administrative overheads (mainly
  fixed)

Note: Depreciation is an accounting concept – it is not a cash item. We
  shall deal with it later.
Calculating working capital
requirements
 Debtors           D1 = X days of     D2 = Y days of
                   revenues           revenues
 Stocks            S1 = A days of     S2 = B days of
                   costs              costs
 Creditors         C1 = J days of     C2 = K days of
                   costs              costs
 Total working     W 1 = D 1 + S1 –   W2 = D2 + S2 – C2
 capital           C1
 Increase in                          W2 – W1
 working capital
Capital expenditure – a check list
Mainly….
 Plant and equipment
 Buildings and land

But don’t forget…
 Design costs
 Pre-operating expenses
 Further capital expenditure after start up?
Model 2. Cash flows after
finance and tax
                       Suppliers
                              Operating costs
                              Investments
                                              tax
                                                    Government
  The                    The
“owner”                company
                                                    Principal &
          Difference                                interest
                             Sales revenues
                                                         Banks

                       Customers
The elements of the cash flows

             Sales revenues
    (less)   Operating costs
    (less)   Increases in working capital
    (less)   Capital expenditure
    (less)   Tax
    (plus)   Loan draw-downs
    (less)   Loan repayments
    (less)   Interest

(equals) Net cash flow after finance and tax
The net cash flow after finance
will be smoother….
  20
  15
  10
   5
   0
  -5
 -10
 -15
 -20
 -25
 -30
       1   2        3          4            5   6

           Before finance   After finance
To calculate taxable profit…

We need:
 Depreciation
 And interest payments
Calculating depreciation….

                 Last year               This year

  Fixed assets                                100
  O/bal
  (plus)                                       10
  Investments
  (less)                     =10% x (100+10) = 11
  Depreciation
  Fixed assets        100     = 100 + 10 - 11 = 99
  C/bal
Calculating interest….
                Last year                This year

 Loan O/bal                                   100

 (plus)                                        10
 Drawdowns
 (less)                                         0
 Repayments
 Loan C/bal          100      = 100 + 10 - 0 = 110

 Interest due               =8% x (100 +110) /2 =
                                              8.4
Calculating tax…
Taxable profit =
  Revenues
  (less) operating costs (incl. depreciation)
  (less) Interest due

And tax =
(If profit is positive): profit x tax rate
(If profit is negative): zero
With negative profits carried forward…
A simple way of calculating
tax…
               Last year (0)     This year (1)


Cum. profit CP0                  CP1 = CP0 + P1


Cum. Tax       CT0 = If (CP0 >   CT1 = If (CP0 > 0,
due            0, CP0 x R, 0)    CP0 x R, 0)
Tax due this                     If (CT1 > CT0,
year                             (CT1 – CT0), 0)
Model 3. The real (accounting!)
world – adding the accounts
                        Suppliers
                                Operating costs
                                Investments
               Dividends                        tax
                                                      Government
Shareholders                 The
                           company
               Equity                                 Principal &
                                                      interest
                               Sales revenues
                                                           Banks

                           Customers
The purpose of adding the
accounts

 To communicate!
 To make sure we have included everything
 To allow the accounting aspects of the
  company or project to be understood, e.g.:
  – Interest cover
  – Gearing
Next week!

 What do the results mean? How do we use
  them?



Before then, please try to look at the sample model and make
  sure you understand it. We will have a time for questions.

								
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