Accounting

Double-entry bookkeeping is surprisingly simple. It works on the basis that everything comes from somewhere, and tracks the original location and destination of each money transfer. Once the accountant has discovered where the money came from, and where it is going, it becomes easy to check that the inputted amounts are correct.

First, different accounts should be created. Each business will need a lot of these. Some examples are ‘Cash on hand’, ‘Inventory’, ‘Accounts receivable’, ‘Accounts payable’, and ‘Office equipment’. Assets, liabilities, owner’s equity, revenues, and expenses should be considered. Assets are things that the business has or has paid for, and normally have debit (positive) amounts. Liabilities are things that the business owes, and normally have credit (negative) amounts. Owner’s equity includes what the owner has put into the business, and what they have taken out. Revenues are amounts that the business earns while operating, and expenses are amounts that the business has to pay to operate. Each account should be labelled with its purpose (ie asset, long-term asset, etc), and given its starting value.

Secondly, journals should be created. All transactions are recorded in journals. The journal that a transaction is recorded in depends on the type of transaction. Many transactions will be recorded in the General Journal; other frequently used journals include the Sales Journal, the Cash Receipts Journal, the Purchases Journal, and the Cash Disbursements Journal. The number of journals required depends on the size and complexity of the business. Small businesses may put everything in a General Journal, while large businesses may need journals for each different location. At the end of each fiscal year, the accountants must ‘close the books’, which involves making sure everything adds up and emptying all accounts. In the new fiscal year, new journals must be created.

Once the journals and accounts have been created, the accountant can start making transactions. Each transaction should record the name of the account, and the amount that was debited or credited. Remember that double-entry bookkeeping requires that the money come from somewhere, and go to somewhere. This means that transactions must come in groups of two or more, with one account getting a debit and another getting a credit. For example, a sale of $45 may be made, with $5 of that amount being tax. In this case, the business’s cash account would have a debit (increase) of $45. The business’s inventory account would record a credit (decrease) of $40, and the taxes owed (or accounts payable) would record a credit of $5. Notice that the debit amounts and the credit amounts are each $45. This shows that the money came from the accounts payable and inventory accounts, and went to the cash account. Since the amounts are the same, all the money is accounted for.

The transactions should be recorded in a journal as an entry. A journal entry should include all debit and credit transactions in one group, and the debit and credit amounts should be the same. Recording transactions in this way makes it easy to check the money is all accounted for. The purpose of the entry should be recorded, so that the business can check why the transactions happened. In the case above, the purpose would be ‘Item sold.’ Depending on the business, the entry may specify what kind of item was sold, where it was sold, and so on.

Each transaction should also be recorded in the appropriate account. This helps the business see how much it has in each account.

It is good business practice to prevent one person from having too much control over the accounting system. The easy way to do so in this case is to require authorization for each journal entry. The name of the person who made the entry, and the person who authorized it, should be recorded so that the business fix discrepancies. This method also makes it easy to ask for clarification on why the transactions were performed.

At the end of the fiscal year, the business should close its books. This includes depreciating items, checking the total credit and debit amounts, creating end of year reports, and emptying the accounts. Items are depreciated to show the steady decrease in value over time. The amount of depreciation should be credited from the accumulated depreciation account, and debited to depreciation expense. The items depreciated are considered to be worth that amount less than they were before. Depreciation can be done more frequently than once a year.

The credit and debit amounts, and the amounts in the accounts, should be checked. The amounts should be equal. If there is a discrepancy, the accountant must discover where it is, and how the error occurred. Discrepancies between credit and debit accounts can be caused by recording improperly, or switching numbers over (such as recording 836 as 863). Discrepancies in account amounts can be caused by cheques that have not yet been processed, lost or damaged inventory, or other problems depending on the account. Lost or damaged inventory should be written off to the ‘Cost of goods sold’ account. Significant discrepancies should be brought to the attention of the business or a manager.

End of year reports should be created. The most commonly used ones are the income statement and the balance sheet. An income statement displays the business’s gross profit, total operating expenses, operating income, income taxes, and net income. This shows how much of a profit the business is making. A balance sheet shows the business’s long-term assets, short-term assets, long-term liabilities, short-term liabilities, and owner’s equity. The amounts are combined into total assets, total liabilities, and total liabilities and owner’s equity. The assets are compared to the liabilities and owner’s equity to show how well the business is doing.

After the end of year reports are created, the journals and accounts are closed. New journals and accounts should be opened for the next year, and the account amounts should be carried over. This prevents further adjustments from being made to the previous year’s accounts, and signifies the start of the new fiscal year.

Resources:

• Carol Costa and C Wesley Addison’s Teach Yourself Accounting in 24 Hours
• George R Murray and Kathleen Murray’s Accounting for Canadians for Dummies
• Lita Epstein’s Bookkeeping for Dummies

Businesses should maintain various different accounts. Transferal of money between accounts allows the business to see where it is spending, and what it is receiving in return.

The business should name its accounts. Common accounting practice is to use a number and a name, such as 104 Accounts Receivable or 185 Office Equipment. The number code organizes the accounts better than alphabetical order, and makes it easy to identify accounts quickly. The name makes it easy to see what the account is for.

A brief description of the account should be recorded. This description explains what the account is for, and thus, what kind of debit and credit transactions are likely to be made with it.

The type of account should be recorded. Some common account types are current and long-term assets, current and long-term liabilities, and expenses. Recording what type the account is makes it easier for the business to create balance sheets.

Businesses should record what currency the account operates with. This currency will generally be the currency of the country; however, international businesses may use multiple currencies. Recording which currency is used in each account can prevent exchange rate-related accounting errors.

Tracking information about the accounts a business uses can ensure the correct accounts are used. Using the right accounts makes it easy to track cost and benefit changes in all areas of the business.

Resources:

• Carol Costa and C Wesley Addison’s Teach Yourself Accounting in 24 Hours
• George R Murray and Kathleen Murray’s Accounting at Your Fingertips
• John A Tracy and Cecile Laurin’sAccounting for Canadians for Dummies
• Lita Epstein’s Bookkeeping for Dummies

Businesses should record their fiscal year duration, and the journals within each fiscal year. This makes it easier to organize transactions, and to close accounts at the end of the fiscal year.

For each fiscal year, the business-used name, and its start and end dates, should be recorded. This information tells the business which fiscal year it is in, and which journals are in use.

Many journals may be used during each fiscal year. Businesses normally have a General Journal. They may have a Sales Journal or other types of journals, depending on the type of business they are in. The journal name identifies it, and the journal should contain entries and transactions.

Recording information in this way makes it easy to find transactions. Storing the journals by fiscal year helps the business create entries, and close accounts at the end of the fiscal year.

Resources:

• Carol Costa and C Wesley Addison’s Teach Yourself Accounting in 24 Hours
• George R Murray and Kathleen Murray’s Accounting at Your Fingertips
• John A Tracy and Cecile Laurin’sAccounting for Canadians for Dummies
• Lita Epstein’s Bookkeeping for Dummies

Businesses should record journal entries. Recording this information at a higher level than transactions prevents repetition of information, and allows the business to see the overall purpose of the related transactions.

The journal entry should be given an identification number, and the date should be recorded. This information allows the business to identify and refer to the entry.

A description of the entry’s purpose should be recorded. This description can be used to understand why the entry occurred, in case of confusion or discrepancy within the transactions.

The person who made the entry, and the date on which it was made, tells the business who to ask if more information or clarification is required. If the business requires authorization for its entries, it should also record the name of the person who authorized it and the date.

Within each entry, there may be one or more transactions. The transaction should record which account was involved, and how much was debited or credited. Information about the transactions should be recorded to show how the entry’s purpose is fulfilled.

Recording information about entries will help the business to organize its accounting system and resolve any discrepancies. Retaining this information will help the business close its books at the end of the fiscal year.

Resources:

• Carol Costa and C Wesley Addison’s Teach Yourself Accounting in 24 Hours
• George R Murray and Kathleen Murray’s Accounting at Your Fingertips
• John A Tracy and Cecile Laurin’sAccounting for Canadians for Dummies
• Lita Epstein’s Bookkeeping for Dummies

Businesses should record information about any applicable sales taxes. This information will ensure that the business always includes it, and prevent the business from having to make up the difference.

The name of the sales tax should be recorded, to make it easy to refer to. Using t official name will also tell customers why they are being charged that amount.

The tax percentage should be recorded, to make sure that the business charges the appropriate amount.

The date that the tax becomes effective should be recorded, to make sure that tax collection begins on time. Similarly, the date the tax ends (if applicable) should be recorded, so that the business does not charge customers unnecessarily.

Recording information about sales taxes will help the business charge the correct amount. Maintaining the information will prevent obsolete taxes from being charged.

Resources:

• Carol Costa and C Wesley Addison’s Teach Yourself Accounting in 24 Hours
• George R Murray and Kathleen Murray’s Accounting at Your Fingertips
• John A Tracy and Cecile Laurin’sAccounting for Canadians for Dummies
• Lita Epstein’s Bookkeeping for Dummies

Businesses should track which assets they have in various locations. Keeping track of assets lets the business find them, or replace them if they are lost or damaged.

The business should name the asset. This will make it easy to specify which object is being discussed. The type of asset should also be listed.

The asset’s purchase price should be mentioned and updated periodically. This information lets the business know how much it will cost to replace the asset if it is lost or damaged.

The asset’s status and condition should be updated periodically. The status records where the asset is, or if it has been lost or stolen. The asset’s condition records how much damage, if any, the asset has sustained. Tracking this information lets the business know when it has to replace the asset.

Recording information about assets helps the business keep track of its assets, and replace them when necessary. Keeping track of assets helps the business to function smoothly.

Resources:

• Carol Costa and C Wesley Addison’s Teach Yourself Accounting in 24 Hours
• George R Murray and Kathleen Murray’s Accounting at Your Fingertips
• John A Tracy and Cecile Laurin’sAccounting for Canadians for Dummies
• Lita Epstein’s Bookkeeping for Dummies

Different types of assets will have different depreciation schedules. Businesses should record information about asset types to provide a central point for depreciation information.

The asset type should be given a name that reflects its function. If the asset type describes the depreciation rate of cars, for example, the name should be ‘cars’. Giving the asset type a name makes it easy to identify and refer to.

The rate of depreciation for the asset type should be recorded. Since the business may want to depreciate the majority of the asset early, the rate should be given as a percentage for each year of depreciation. Recording the depreciation rate of each asset type tells the business how much it will lose if it writes off an asset.

Maintaining information about asset types prevents the business from having to record the information in multiple places. The depreciation rate also makes it easy to determine how much the assets are currently worth.

Resources:

• Carol Costa and C Wesley Addison’s Teach Yourself Accounting in 24 Hours
• George R Murray and Kathleen Murray’s Accounting at Your Fingertips
• John A Tracy and Cecile Laurin’sAccounting for Canadians for Dummies
• Lita Epstein’s Bookkeeping for Dummies

Businesses should record information about their brokers. Recording and maintaining this information lets the business know which broker to contact.

The broker’s name should be recorded, to identify them. Their address and contact information should also be recorded, to make it easy for the business to get in touch with them.

The type of broker that they are should be recorded, to help the business contact the correct broker for the job. This information will stop the business wasting time calling inappropriate brokers.

The broker’s status should also be recorded. This information tells the business if the broker should be contacted or not.

Recording and maintaining information about brokers will tell the business who to contact, and ensure that the broker contacted is available.

Resources:

• Carol Costa and C Wesley Addison’s Teach Yourself Accounting in 24 Hours
• George R Murray and Kathleen Murray’s Accounting at Your Fingertips
• John A Tracy and Cecile Laurin’sAccounting for Canadians for Dummies
• Lita Epstein’s Bookkeeping for Dummies

Businesses should have insurance policies on the items that they own. Having an insurance policy prevents the business from large losses if the items are damaged.

Information about the insurance policy should be recorded, so that it is easily accessible if required. The business should record the policy number, insurer, and brokerage where it was insured. Recording this information helps the insurer quickly access the policy.

The status of the insurance policy, and its effective and expiry dates, should be recorded. The status lets the business know if the insurance policy is current. The effective date and expiry date let the business determine if they are covered. Keeping this information up to date lets the business easily determine which policy they are currently using.

The business should record any claims that are made on the insurance policy. Tracking claims lets the business know if anything is being settled, and makes it easy to check on recent settlements.

Recording information about insurance policies helps the business use the policy quickly, and renew the policy if required. Retaining insurance coverage will help the business avoid large settlement payments.

Businesses may need to make claims on current insurance policies. The business should record information about each claim, to ensure that they are settled promptly and properly.

Information about the initial claim should be recorded as the claim is filed. This information should include the date that the incident occurred, the date that it was reported on, and the person who reported it. A brief description of the incident will make it easier to recognize the claim. The status of the claim should be recorded, and updated periodically. After the claim is raised, it may go through periods of adjustment and settlement, or the business may have to switch to a legal process.

While the claim is being adjusted, the business may need to contact the adjuster. For this reason, the business should record the name and contact information of the adjuster. Notes about how the adjustment is proceeding may also be included.

If the adjustment proceeds well, the claim should be settled. In this case, the business should record the amount that was agreed upon, and the date that settlement occurred. Other information about the settlement may also be included. Information about settled claims should be retained, in case they are brought up again later.

If the settlement does not succeed, the business may switch to a legal process. In this case, the claim should state that a legal process was used, and what the outcome was.

Tracking the progress of insurance claims will make sure that all claims are settled. Completing all claims will prevent the business from accumulating delayed claims.

Business plans can be used for many different things. The most common uses for business plans are to get investors or loans. Business plans should also be created before the business is started, to determine how feasible the business is and how much money and time it will require. A business plan for a starting business provides a projection of costs and profits. A business plan for an established business determines how the business will grow.

Since a business plan is normally prepared for an audience, the audience should be described. There may also be a cover letter to introduce the business plan, and a non-disclosure form, based on how formal the business plan is. A table of contents should also be created when the business plan is presented, to make it easier to find sections of the plan.

A vision statement for the business should be created. This will determine where the business should be in the future. The vision statement should emphasize differences between where the business currently is and where it should be. Milestones for measuring the business’s progress should also be mentioned, to help the business keep itself on track.

The business concept should be discussed. This is a basic outline of what the business is, and what it does. Before the business is started, this may be very vague. More established businesses will have clearer and more detailed business concepts.

The business’s strategy should be explained. This will generally include the competitors’ key capabilities and weaknesses, as well as how to overcome the competitors. An overview of the strategy to be used is given, along with how the strategy will be implemented.

The current situation should be described briefly. It should include what the business is doing, what the market is doing, and what the competitors are doing. The details discussed will vary based on the audience – for example, a business plan for a bank loan may focus on what the business and market are doing.

The business plan should mention key success factors. These are the different things that the business must have to succeed, or the things that the business has that will help it to succeed.

The business’s organizational structure should be explained. This is very important for businesses with a complex structure, or that operate in multiple locations. The key personnel should be mentioned. The business should also describe how the product or service will be delivered, and what customer service will be given. Describing the business’s organizational structure tells investors who will be making the important decisions.

A brief analysis of the market should be done. This should include the overall market for the business’s products, and the size and source of each kind of market, and its trends and changes. Specific features of the markets should be described, including the different market segments that the business is targeting. The characteristics, needs, and decision making strategies of the target customers should be noted, and any estimates should be marked as estimates, to show which parts of the market analysis the business is unsure of.

Some information about the business’s products or services should be given. This should include a description of each product or service, and how it is positioned. The products or services should also be evaluated against similar ones from the competition. The business may also give information about future products or services, to give investors an idea of how competitive it will be in the future.

The competition should also be analyzed. The business should do an overview of the industry, and consider the nature of its competition. Primary competitors should be analyzed, as should competing products or services. The industry changes, opportunities, and risks should be examined, so that the business can take advantage of any industry fluctuations.

The business should record its sales strategy in the business plan. This should include the different sales channels, advertising promotions, and trade shows that the business plans to use to attract and keep customers. The business should also consider how it will get publicity, and how it will use it. This information allows the business to show how it will generate sales.

The business’s financial situation should be assessed. This should show the business’s current sources of funding, and its projected future needs. The financial situation allows the audience to determine how viable a new business will be, or how well an established business can continue operating.

The business’s financial forecast is a projection of how it will do in the future. The duration of the financial forecast will vary based on the purpose of the business plan, but the starting and ending dates should always be mentioned clearly. Useful projections include a profit and loss statement, cash flow, and balance sheets. The business should mark the assumptions it is making clearly. Previous statements, a starting balance sheet, and key ratios may also be added, to make it clear how likely the financial forecast is to occur.

After creating the business plan, it should be organized and sent to the intended recipients. The business should keep track of who is given the business plan, to ensure that the information contained is not leaked to the public or competitors. Properly assembled business plans will help the business to attract investors and get loans.

Resources:

• Bob Adams’s Complete Business Plan

Business value ratios look at how much the business is worth to its shareholders. These ratios are used by potential investors and stock market brokers, to determine if they should buy shares in the company. The main business value ratios are share values (nominal, book, and market value), earnings per share, dividends per share, dividend cover, pay-out ratio, earnings yield percentage, dividends yield percentage, price to earnings ratio, and market to book ratio.

The share values determine how much a share is worth. There are several methods of doing this. The first method is to find the nominal share value. This value is decided upon by the business to determine how much common stock is worth, and does not change. Shares are normally sold for higher than this amount, and the difference is called the share premium. Some businesses do not have a nominal share value.

The second method is to determine the book share value. This looks at the ratio of shares to owner’s equity, considering how much, on average, each shareholder has contributed. The book value is determined by dividing the owner’s funds by the number of shares, and fluctuates based on finances.

Book Share Value = Owner’s funds
Number of shares

The third method is to discover how much people will pay for the shares. The market share value uses the Stock Exchange prices for a share. This share value, therefore, can fluctuate widely, and is not always under the business’s control.

Earnings per share (EPS) considers how much a shareholder will profit from their share. This ratio is not used to compare businesses, as businesses may have any number of shares. Instead, EPS for one business is recorded over time. A steadily increasing EPS ratio shows that the business is growing. EPS is calculated by dividing the profit after interest and tax by the number of shares.

EPS = Profit (after interest and tax)
Number of shares

The dividends per share (DPS) ratio records how much each shareholder actually receives. A stable DPS value over time suggests that the business is stable, and attracts shareholders who require the income. DPS is calculated by dividing the total amount of dividends paid out by the number of shares.

DPS = Common dividends
Number of shares

The dividends cover and pay-out ratio consider how much of its profits that the business pays out in dividends. Dividends cover considers how many times the dividends could be taken out of profits, while pay-out ratio looks at how much of the earnings are paid as dividends. A high cover, or low pay-out ratio, suggests that the business could pay the dividends many times over, and is keeping money back to grow the business. The two are reciprocals of each other, and use EPS and DPS.

Dividends Cover = EPS
DPS

Pay-out Ratio = DPS x 100%
EPS

Earning yield ratios and dividend yield ratios consider how share price is related to EPS and DPS. A low yield ratio shows that the business’s shares are highly valued, or it pays out a lot of dividends. The dividend yield ratio is more important to shareholders who require the income, such as pension fund operators. Earning yield is calculated by dividing EPS by share price, and dividend yield is calculated by dividing DPS by share price.

Earning Yield = EPS x 100%
Share price

Dividend Yield = DPS x 100%
Share price

The price to earnings ratio (PE) considers how high the share price is when compared to the EPS. A higher PE ratio shows that the business’s shares are highly valued, and gives the business leverage. The PE ratio is calculated by dividing the share price by EPS.

PE = Share price
EPS

The market to book ratio compares the business’s worth with the value the market considers it is worth. A high market to book ratio suggests that the market believes the business is growing, while a low ratio shows that the market has lost faith in the business. The ratio can be manipulated by not including some common funds in the calculation. The market to book ratio is calculated by multiplying the market share value by the number of shares to determine the market capitalization, then dividing this value by the common funds.

Market to Book Ratio = (Number of shares x Market share value)
Common funds

These business value ratios are used by shareholders and investors to see if they should invest in the business. Attaining and maintaining good values will help the business to attract investors and continue to grow.

Resources:

• Carol Costa and C Wesley Addison’s Teach Yourself Accounting in 24 Hours
• Ciaran Walsh’s Key Management Ratios
• George R Murray and Kathleen Murray’s Accounting at Your Fingertips
• John A Tracy and Cecile Laurin’sAccounting for Canadians for Dummies
• Lita Epstein’s Bookkeeping for Dummies

Ratios can be used to trace a business’s liquidity. These ratios can be used by banks and other companies to decide if they will give the business a loan. The main ratios are current ratio, quick ratio, working capital to sales ratio, interest cover, debt to equity, debt to assets, sales break even, and working capital.

The current ratio looks at the proportions of assets and liabilities the business has. It shows whether or not the business can handle their current debts, and thus, if they can be given a loan. A high current ratio shows that the business can sell their assets to cover their debts, if it becomes necessary. The current ratio is determined by dividing the business’s current assets by its current liabilities.

Current Ratio = Current assets
Current liabilities

The quick ratio is similar to the current ratio, but considers only the assets that can be liquidated quickly. Some assets may take time to sell, or have to be sold under their full price, if the business requires money quickly. The quick ratio, therefore, does not consider the business’s inventory as part of its assets. Normally, cash and accounts receivable are the main assets that are considered. The quick ratio is calculated by subtracting inventory from current assets, then dividing by current liabilities.

Quick Ratio = Current assets – Inventory
Current liabilities

The working capital to sales ratio considers the amount of working capital and the operating cash flow of the business. It considers whether or not current resources will be able to cover sales. A low working capital to sales ratio can show that the business is overtrading, or that it is managed well enough to cope with a smaller inventory. The working capital to sales ratio is calculated by subtracting current liabilities from current assets, dividing by sales, then converting to a percentage.

Working Capital to Sales Ratio = Current assets – Current liabilities x 100%
Sales

The interest cover looks at how many times the business can cover the value of its interest with its current profit. Interest cover is influenced by the interest rate. A high interest cover suggests that the business can easily pay the interest on its loans, and thus, could manage more loans if necessary. The interest cover is calculated by dividing the profit (before interest and tax are subtracted) by the amount of interest that the business pays.

Interest Cover = Profit (before interest and tax)
Interest

The debt to equity ratio compares the owner’s funds with borrowed funds. It is used to determine what proportion of a business’s funding must be paid back. A high debt to equity ratio shows that the business has borrowed a lot of its funds. This is more profitable, because the owner does not have to come up with the money themselves. However, it is more risky, because the debts must be repaid if something goes wrong. With a debt to equity ratio, the business can consider debt to be only long-term loans, long-term and short-term loans, or long-term loans and current liabilities. Bank analysts normally do not consider current liabilities because the business must reimburse them before any informal loans.

Debt to equity can be calculated in multiple ways, but the overall result is the same. The first method is most frequently used.

Debt over Equity: Total debt
Owner’s funds

Equity over Total Funds: Owner’s funds x 100%
Total funds

Total Debt over Total Funds: Total debt x 100%
Total funds

Debt to assets is similar to debt to equity, except that it includes current assets as well as equity. A low debt to assets ratio shows that the business is earning more than it is borrowing. This ratio is calculated by dividing the business’s total liabilities by its total assets.

Debt to Assets = Total liabilities
Total assets

The sales break even ratio calculates how much the business must sell to cover its operating costs. A low sales break even point shows that the business will be able to cover operating costs easily. This ratio is calculated by dividing fixed costs by the profit percentage per product.

Sales Break Even = Fixed costs _ 1 – (Cost of goods (%) + Commission (%) + Freight (%))

The working capital amount shows how much funds the business has available. A large amount of working capital suggests that the business should be able to cover expected and unexpected expenses. Working capital is determined by subtracting the business’s current liabilities from its current assets.

Working Capital = Current assets – Current Liabilities

These liquidity ratios are used by banks and businesses to determine how well the business is operating, and whether a bank will allow the business to take out a loan. By considering how well it can cover its existing loans, the business can decide if it can successfully manage another.

Resources:

• Bob Adams’s Complete Business Plan
• Carol Costa and C Wesley Addison’s Teach Yourself Accounting in 24 Hours
• Ciaran Walsh’s Key Management Ratios
• George R Murray and Kathleen Murray’s Accounting at Your Fingertips
• John A Tracy and Cecile Laurin’sAccounting for Canadians for Dummies
• Lita Epstein’s Bookkeeping for Dummies

Businesses can use ratios to measure their operating performance. These ratios show how efficiently the business is using its money and assets. The two main ratios used to measure operating performance are return on equity and return on total assets.

Return on equity (ROE) is a ratio of the profit after taxes and the owner’s funds. It shows how efficient the business is, in terms of what it can give back to its shareholders. A high ROE ratio attracts investors. Return on equity is calculated by dividing the business’s profit after taxes by the funds that the owner has put into the business, then converting the value into a percentage.

ROE = Profit after taxes x 100%
Owner’s funds

Return on total assets (ROTA) is a ratio of the business’s profit before taxes and total assets. This ratio shows how efficient the business is overall. A high ROTA shows that the business gets a lot of value back for the money it spends on assets. ROTA strongly influences return on equity (ROE), and is influenced by the sales margin and the ratio of sales to total assets. Return on total assets is calculated by taking the business’s sales, subtracting operating costs, then dividing by the business’s total assets. This value is converted into a percentage.

ROTA = (Sales – Operating costs) x 100%
Total assets

Using these ratios allows the business to track how efficiently they are operating when compared to others in their industry. Businesses should consider the industry and the company that they are operating in, as both of these things influence operating performance ratios.

Resources:

• Carol Costa and C Wesley Addison’s Teach Yourself Accounting in 24 Hours
• Ciaran Walsh’s Key Management Ratios
• George R Murray and Kathleen Murray’s Accounting at Your Fingertips
• John A Tracy and Cecile Laurin’sAccounting for Canadians for Dummies
• Lita Epstein’s Bookkeeping for Dummies