Social Enterprise Learning Toolkit (Financial Analysis Module)

Social Enterprise
p
Learning Modules:

Financial Analysis

Social Enterprise Learning Modules

Social enterprises are businesses operated by non-profit organizations for the dual purpose of generating income through sales
and achieving a social outcome. Social enterprises blend social and financial objectives.

Their success requires a unique set of governance, management and operation tools, and skills and resources that utilize,
adapt and integrate from both the traditional business and non-profit sectors.

The Social Enterprise Learning Modules, included in this toolkit, cover the basic elements that a person or organization should
pursue and understand if they are going to participate as a board member, manager, paid staff or volunteer at a social
enterprise.
enterprise

While the Social Enterprise Learning Modules can stand alone, it is very important to always keep in mind the need to integrate
the various components, and to realize that they are dynamic and evolving areas of learning and practice.

The PowerPoint presentation covers basic p
p principles and discussion p
p points; p
; pursuing the recommended resources and links will
g
take you much further into the depth and detail of each area:

• Governance
• Leadership
• Business Operations
• Products and Markets
• Sales and Customer Relations
• Financial Analysis
• Risk Analysis

1
© 2011 KPMG LLP, a Canadian limited liability partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.

Overview of Financial Analysis Module

Introduction
– Importance of financial analysis
– Cultural integration
– Identifying financial goals
– Identifying financial roles
Budgeting & Monitoring
– Budgeting – expenses
– Budgeting – revenues
– Monitoring the budget
Financial Analysis
– Income statement
– Statement of Cash Flows
– Balance sheet
– Ratios

2

Importance of Financial Analysis

• Provides information to form a basis for management decisions
g
• Overall, it will affect the following areas of the organization:
– Sustainability
– Efficiency
– Effectiveness

4

Cultural Integration

• Shift to sales and profits
p
• Independence from the not-for-profit organization
– Formalize the relationship
– Clear and separate reporting
– Think like a business

5

Identification of Financial Goals

• Standard business  profitability
p y
• Social enterprise financial goals could be:
– Self-sufficiency
– Profitability
– Contribution

6

Identification of Financial Roles (cont’d)

• Important to identify roles, responsibilities and accountabilities
p y , p
• Identification to be done in conjunction with allocation of tasks
• Segregate the duties of preparing financial information and reviewing the financial
information
– For example:
 A bookkeeper – preparer of financial information
 An accounting manager – reviewer of financial information
g g

7

Budget and Forecast

What it is:
– An important p of the p
p part planning and forecasting p
g g process
– A key document that translates plans into money
– Estimate (informed guess)
– A document that is updated and reviewed based on new information (
p (with p p
proper
approval from the Board of Directors)
What it is NOT:
– A copy of last year’s + 10%
– Administrative work
– Optimistic and unrealistic picture

Budget becomes more accurate through the years

Break the budget for coming year into a monthly budget

9

Steps to Preparing a Budget

1. Align the budget with the Chart of Accounts for Revenue and Expense
2. List items on which you spend money
y p y
3. Estimate the unit cost of the line items, then annual costs
4. List likely sources of income
5. Identify any drivers for variable revenues and expenses
6. Prepare budget format
7. Add in notes to explain items and key assumptions
8.
8 Obtain feedback
9. Finalize the budget

NOTE: If your social enterprise does not operate as a separate entity from your Not For
Profit, consider setting up your social enterprise as a separate subsidiary or department
for budgeting purposes

10

Determine True Expenses

Expenses:
• Fixed versus Variable
• Direct versus In-direct
• In-Kind/Hidden Expenses
– Allocation of these expenses

11

EXAMPLE – ABC Thrift Store Inc. (Fixed & Variable Expenses)

Please complete “Handout #1 Worksheet – Budget for ABC Thrift Store Inc.”, using the following
information below.

1. ABC uses a portion of the building owned by its NPO parent to run the store, but
p g y p
does not pay for this space. The portion ABC rents is 10% of the total building.
The rental expense for the entire building is $150,000 per year.
2. ABC incurs supplies expense (i.e., purchase of shopping bags and price tags) of
$5,000 per year.
y
3. ABC incurs cleaning/maintenance expense of $2,000 per year.
4. ABC sorts all donated goods as received, which costs approximately $200 per
month.
5. ABC incurs utilities expense of $5,000 per year.
6. ABC incurs the following salary expenses:
• One manager is in charge of operating ABC Thrift Store. The manager’s
annual salary (including benefits) is $40,000.
• There are two part-time sales associates. Their hours vary depending on
the season; however, their hours and salary equate to one associate working
working at all times when ABC is operating, paid $10/hour (including
benefits).
7. ABC operates 8 hours a day and for 30 days per month.

12

Determine True Revenues and Cost of Goods Sold

Revenues
• Recurring versus One-time
g
• Other Revenues – revenues not obtained directly from operations such as rental income or
the sale of an asset

Cost of Goods Sold (COGS)
• Refers to the inventory costs of those goods that a business has sold during a particular
period

13

EXAMPLE – ABC Thrift Store Inc. (Revenue & Cost of Goods Sold)

Please complete “Handout #1 Worksheet – Budget for ABC Thrift Store Inc.” using the following
information below.

1. ABC Thrift Store sells 3 products – T-shirts, Dresses and Jeans
2. For T-shirts:
• ABC receives a donation for the t-shirts with an “in-kind value” (assumed price)
of $5 each if purchased
• ABC will receive1,200 t-shirts per month, and expects to sell 1,000 t-shirts per month
3. For Dresses:
• ABC pays $ 0 eac for the dresses
C $10 each o t e d esses
• ABC will buy 700 dresses per month, and expects to sell 500 dresses per month
4. For Jeans:
• ABC pays $7.50 each for the jeans
• ABC will buy 400 jeans per month and expects to sell 300 jeans per month
month,
5. ABC marks up its products 100%

14

Budget Exercise Review

Answers on “Handout #2 Answer Key Worksheet Budget for ABC Thrift Store Inc.”

Discussion points:
Di i i t
• What is the budget telling us?
• Seasonality versus average monthly budget
• Donated items: value assigned because if removed, it would be an expense to the social
enterprise
• Inventory: inventory remains on the balance sheet until sold at which point it is expensed

15

Budgeting Year to Year

Amount Current
last year Increment year budget
Revenue
T-shirt 120,000 10% 132,000
Dresses 120,000 9% 130,800
Jeans 54,000 -50% 27,000

Expense
Cost of Sales
T-shirt 60,000 5% 63,000
Dresses 60,000 9% 65,400
Jeans 27,000 -50% 13,500

Salaries 70,000 3% 72,100
Rent 15,000 3% 15,450
Utilities 5,000 2% 5,100
Maintenance ,
2,000 3% 2,060
,
Supplies 5,000 0% 5,000
Sorting cost 2,400 5% 2,520

16

Monitoring the budget

Refer to “Handout #3 – Variance Analysis for ABC Thrift Store”, to review the information below.

To monitor the budget, prepare a variance report (preferably on a monthly
budget
basis)
• Report on:
– Monthly income and expenses compared to monthly budget amount
– Year-to-date actual comparison with year-to-date budget amounts
– Compare to last year
– Add percentage variances
– Add explanations
• Key report to be reviewed by the organization’s Board of Directors
• Key
Ke report to help the organization assess whether the are achie ing their goals
organi ation hether they achieving

17

Note to Participants

The following slides on financial analysis contain financial statements that have been
presented under accounting standards used by for profit businesses. This format of
reporting fi
i financial activity i useful f i
i l i i is f l for internal management d i i making b h l i
l decision ki by helping
your organization gain a true picture of the sustainability of your social enterprise.

If you have chosen a non-profit legal structure for your social enterprise, or your social
enterprise i part of a non-profit organization, all external reporting must be accounted
t i is t f fit i ti ll t l ti tb t d
for under non-profit accounting standards as specified in the Canadian Institute of
Chartered Accountants’ Handbook, not as presented in the following slides.

This form of reporting is only to be used e ternall if your social enterprise is registered
onl sed externally o r
as a for profit business.

19

Income Statement
Refer to “Handout #4 –ABC Thrift Store Financial Statements”, when reviewing the information
below.

• Statement of operations under NPO reporting
p p g
• This report shows the amount of revenue that was earned over a period of time and the
amount of expense incurred over the same period
• The difference between revenue and expenses is the net income/loss from the p
p period
• Income Statement divided into three sections:
– Revenue:
 The dollar sales amount of the product over the p
p period of time

– Cost of Goods Sold:
 Direct costs associated with creating the goods sold

– E
Expenses:
 Costs spent to carry out the activities of the organization

20

Statement of Cash Flows
below.

• The Statement of Cash Flows shows how the organization’s cash p
g position changed during
g g
the year
• As an analytical tool, the Statement of Cash Flows is useful in determining the short-term
viability of a company, particularly its ability to pay bills
• Varies from income in that it measures whether cash has actually been received or paid for
the revenues and expenses recorded in the income statement
• Statement of Cash Flows is divided into three sections:
– Operating Activities
 Production, sales and delivery of the product

– Investing Activities
 Purchase or sale of income producing assets

– Financing Activities
 The flow of cash between the organization, its owners and its creditors

21

Balance Sheet
below.

• Statement of Financial Position under NPO reporting
• Balance Sheet shows total assets, liabilities and equity of an organization at a point in time
• Balance sheet is divided into three sections:
– Assets:
 Listed in order of most current and liquid to longer term and fixed

– Liabilities:
 Listed in same manner as assets. Classifies as either short or long term depending
on timing of payment (Less than 1 year = Short-term Liability)

– Equity:
 The resulting value of the company after all obligations have been paid. This is
similar t th ‘N t Asset’ position of a NPO
i il to the ‘Net A t’ iti f
 Consists of Contributed Capital and Retained Earnings

22

Ratio Analysis

Assess the ability to generate earnings
Profit Sustainability Ratios as compared t it expenses
d to its

Assess ability to pay off short-term debts
Liquidity Ratios
q y obligations

Analyze how well a company uses its
Operational Efficiency Ratios
p y assets and liabilities internally

23

Ratio Calculations

Profit Sustainability Ratios
• Sales Growth = (
(Current Year – Prior Year) / Prior Year
)
• Gross Profit Margin = (Revenue – COS) / Revenue
• Net Profit Margin = (Revenue – (COS + Operating Expenses)) / Revenue

Operational Efficiency
• Operating Expense Ratio = (Expense / Revenue)
• Inventory Turnover = (Average COS / Average Inventory)
Where: Average Inventory = (Ending balance – Beginning) / 2

• Breakeven Analysis = Total Fixed Cost / (Unit Sale Price – Unit Variable Cost)

24

Ratio Calculations (continued)

Liquidity Ratios
• Current Ratio = Current Assets / Current Liabilities
• Quick Ratio = (Current Assets – Inventories) / Current Liabilities

25

Exercise – ABC Thrift Store

Refer to “Handout #5 Ratio Analysis for ABC Thrift Store Inc.” for answers.

• Please perform ratio analysis f ABC Th ift St
Pl f ti l i for Thrift Store with th fi
ith the financial statements h d t
i l t t t handout
using the ratios discussed in the previous slides
• Note: We will assume that if ABC Thrift Store had been in operation for 2 years, the total
sales in the previous year would be $260,000

Analysis
• Obtain industry ratios online to gauge if your social enterprise will be competitive
• May be appropriate to set different ratios than industry average depending on your mission

26

Summary of Financial Analysis Module

Introduction
• Importance of financial analysis
p y
• Cultural integration
• Identifying financial goals
• Identifying financial roles

Budgeting and Monitoring
Financial Analysis

Key resource: www.demonstratingvalue.org

27

Thank you

Questions?
Q ti ?

© 2011 KPMG LLP, a Canadian limited liability partnership and a member firm of the
KPMG network of independent member firms affiliated with KPMG International
Cooperative (“KPMG International”), a Swiss entity. All rights reserved. 28

Social Enterprise Learning Toolkit (Financial Analysis Module)

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