The chief executive of a large business unit in a blue chip organisation listed on the UK stock market said recently that many managers within the business do not really have a sense of ownership of their P&Ls. In his words: “They feel their P&Ls are run for them by the finance department.”
This remark made me reflect on how many operational managers with budget responsibility share this view. How many managers feel that their accounting colleagues put through adjustments at month-end and year-end which they are either unaware of or don’t fully understand?
Concepts in accounting
Accruals, prepayments, provisions, ‘capex v opex’ decisions, depreciation, amortisation, accrued income and deferred income are all concepts which accountants can use to transfer profits between one period and another.
When used properly, these concepts help to ensure proper adherence to one of the most important accounting concepts of them all: the ‘matching’ or ‘accruals’ concept.
This is intended to ensure that sales revenue and related expenses are booked in the appropriate accounting period to provide what accountants argue is a more meaningful measure of financial performance than would be provided by simply providing a comparison of cash receipts and payments.
This approach has been accepted practice in the business sector for decades, and increasingly so in the public sector as well.
But these concepts are not always used by accountants in the ways that managers might expect.
The finance director of another blue chip company gave this candid assessment of the way his department deals with month-end and year-end adjustments:
“In theory we should apply the ‘matching’ concept. But there is a cost associated with booking all of these month-end adjustments. Unless the amounts involved are material to the Group, we do not really care if a period 1 cost is booked in period 2 or vice versa.
“At year-end, we care more, but what adjustments are made will mainly depend on how well the business unit has performed against budget.”
Managers may not fully understand the concepts which accountants use. This is one problem. But accountants themselves can be rather selective, inconsistent, and creative in the way in which these concepts are applied. That is perhaps the bigger problem. No wonder some managers do not feel ownership of their P&Ls.
So what is the solution?
Operations should drive finance
The finance director of a support services business summed it up: “Operations should drive finance, not the other way around.”
If managers are going to be held accountable for the P&L performance of their business unit they need to understand the way financial performance is measured.
In particular they need to be aware of and confirm any adjustments that have been made by the accountants at month-end and year-end.
Matt Davies teaches on the Accounting for Business and Business Finance modules of the Aston MBA, an intensive programme that immerses students into the principles of strategic thinking in a business context.
The Accounting and Finance module introduces the spectrum of financial information used by managers in planning and decision-making. The Business Finance module enables students to calculate and interpret key financial information and introduces important financial theories.
You can study the Aston MBA online. Find out more at www.astonmba.com.