The perils of discounting

I bought some fuel today and picked up a drink in the process.  As I did so, I saw one of those usual attractive deals – only an extra $2 for a drink (costing around $3.25) when buying a sandwich for $5.  The service station will have worked out this all out but it reminded how often small business owners get it wrong when discounting.

Take the situation of a firm which sells 10 items a day at $10.  Their costs of sale are $50 (so their gross margin is 50%) and their overheads are $30.  They make $20 profit a day.

Let’s say they offer a 20% discount.  Their cost of sale will remain at $50 (unless they can arrange a better deal) so they are now breaking even as their gross/trading profit is the same as their overheads.

Many clients get this but not all do.  However, what many clients fail to understand is how many more items they need to sell to make the same profit as before.  The answer in this example is a 66.67% increase sales – they now need to sell 16.67 units a day up from 10.  Or to put it more simply, if they sold 3 before, they now have to sell 5 just to hold their ground.  Is that possible?  May be it is, may be it isn’t.

The outcome of reducing prices in your business and the required increase in the number of transactions to make the same profit will depend on your margin, your cost structure and the level of discount.  We can show you this number simply.  With that knowledge, you can then make an informed decision.  All too often, people don’t know the result of making such a change and walk into what was an avoidable disaster.  Let us help you make an informed decision – in situations like this as well as many other scenarios whether they be quoting for work or responding to a customer’s’ request for a discount.  You have everything to gain and nothing to lose as we don’t bill possible clients for their first meeting.

At times it is appropriate to discount such as with getting rid of dead stock.  However, discounts are often a path to ruin.  If you are going to discount, make sure you do so understanding the variables at hand and therefore the likely outcome.

At MRS, we will spend today planning for your success tomorrow.

 

Avoidable disasters

Our March estate planning seminar was booked out.

As every client couldn’t attend, we passed on at that time a few vital considerations for everyone’s consideration.  One issue was to ensure others know where your most recent will is located.  Another one of those considerations was to make sure that someone knows your passwords.  In today’s world, it is possible to have a minimal and at times even a non-existent paper trail.  Unfortunately, we met with a widow during last week who is battling this very issue.

This can be a real issue with shares.  The ATO might provide us with a list of (most) companies that have paid dividends.  We will not though have the holder number which is required to sell shares for all holdings other than those sponsored by Chess.  It can also be an issue for assets that don’t generate income.  One client recently received a surprise to find out that they were the owner of real estate they didn’t know their late husband owned (he owned more than a baker’s dozen).  It’s worth a bit so its lucky it came to light – otherwise it may well have become someone else’s under adverse possession laws.

The only thing I know for certainty about everybody is that we will all take a final breath.  The only variable is when.  The above two considerations are just two ways you can minimise the stress and financial loss for your intended beneficiaries.

At MRS, we will spend today planning for your success tomorrow.

 

If only – part 1

We have just finished the 2015 financials for a client. They have had a good year.  They know their industry well, move with change and make good decisions.  But with our cutting edge analysis software, we have identified that:-

  • For each day they reduce their stock turnover (i.e. days stock held before sell it), they will untie $959 of cash. So, if they reduce the days stock is held before it is sold by 10 days, then they will add $9,593 to the bank balance.  $10,000 may not sound like much to most businesses but it is very important to a manufacturer who sells custom made product and which has high wages and rent to pay on time every time.
  • Net profit increased but their gross margin fell. If they had obtained the best margin from the last 5 years then they would have made an extra $21,360 of net profit. I’m aware of one good and acceptable reason as to why their gross margin fell but isn’t it interesting to know things such as this so that proper informed decisions can be made – which traditional accounting systems nor most accountants don’t tell you.
  • As they have grown, so too have their costs.  Consequently, their break-even sales have risen.  Moreover, we will tell them what their margin of safety has become (being how much their sales can fall at their current cost structure until they fall to a break-even situation). Interestingly, for a successful business, they can now only afford for their sales to fall by 15.8% before they start to lose money.

As I said, most accounting systems and accountants don’t tell you these important things.  Now wonder most small and medium business owners scratch their head when trying to figure out what their cash and profit figures are what they are.

We will discuss those three matters (as well as many other matters) at our upcoming meeting with our client. Does your accountant help you measure and understand such things about your business?  If not, the best decision you can make is to speak to us.  Your first meeting is free so it won’t cost you anything.  Your greatest cost may be stay with your existing accountant.

At MRS, we will spend today planning for your success tomorrow.

 

WorkCover injury poster

There are a number of obligations under WorkCover.

One of the fundamental ones is to display the If you are injured at work poster which you can access at http://www.rrp.com.au/safety-blog/workplace-noticeboard-requirements

If you are visited by a Victorian WorkCover official then they will most likely ask to see it – and you will be fined if you don’t have it displayed.

If you employ workers (and some types of contractors) interstate then you will also need to comply with that state or territory’s obligations (which can also be checked at the above web page link.

At MRS, we will spend today planning for your success tomorrow.

Part 2 – your break even point

Two weeks ago, I wrote a blog on the need for business owners to understand their break-even point. Gordon Ramsay thinks it is critical to know; I couldn’t agree more.

The blog generated a fair bit of discussion and on the back of those conversations, I would like to explore one aspect in greater detail.

I stated that the break-even point to monitor is not the point at which one starts to make a profit but one which also includes a fair return for the effort, time, finance and risk that an owner invests in a business.  This means that the expenses used in the break-even calculation should include the following items:-

  1. A market salary for the skills and time worked in the business. In this regard, we find that small and medium sized business owners don’t allow enough for the hours they work (being significantly more than a 40 hours week). We often find with new clients that they are earning a good income but working 20 more hours a week to do so.
  2. Interest on any loan account balance for monies owed by the business at say home loan rates. If you put money in a bank account, you would want to earn interest on it. If you lent it to someone you would want to earn interest on that loan. The real return on a business should therefore also include a fair return on the money loaned and invested in the business.
  3. Being in business carries risk. Some businesses carry low risks, others are quite significant including such thing as risk of bankruptcy and fines for non-compliance measured (often in the tens of thousands of dollars). If you invested in a risky investment, you would want a higher return. Likewise, your desired return from your business should reflect the risks taken.

The common problem is that what most businesses record as owner’s remuneration doesn’t reflect this real break-even number. This is because business owners pay what they can pay, sometimes underpay themselves and/or the results are skewed by tax decisions.

We have advanced software that will adjust the real numbers to either increase or decrease owner’s remuneration so that the business reports on its real numbers. And from that knowledge, proper decisions can be made.  Why not talk to us about what your real break-even point is and the actions you can take to improve your situation.

 At MRS, we will spend today planning for your success tomorrow.

Which PAYG Instalment method is best for you?

PAYG Instalments are income tax payments paid during the year by companies, super funds and individuals.  In respect of individuals, it is levied on income not taxed upon receipt with common examples being interest, dividends and trust distributions.  It is not assessed on wages or capital gains.

With respect to PAYG Instalments, we usually prefer that clients use the instalment amount method.  In the majority of cases, it will not result in an over-payment that can so often arise under the instalment rate method.

In some cases though, the % rate method may enable one to pay a lesser amount.  If the instalment income is nil or negligible in the first couple of quarters or much less than the year before, then no or little tax will be paid.  A significant payment will only be required at such time as income is received.

It is critical with PAYG Instalments (and indeed GST Instalments) that any downwards or indeed upwards variation be made cautiously.  If a variation results in the instalments paid being 15% less than the actual liability then the ATO will issue a fine.

Please do not hesitate to call us should you wish to discuss your own situation.

 

At MRS, we will spend today planning for your success tomorrow.

Why you should use the GST instalment method

Being the start of another activity statement year, one can exercise the choice as to the method to be used to calculate GST and pay GST for the 2015/16 year.

We recommend that Option 3 GST Instalments be selected in most cases for those that lodge a quarterly BAS.

Option 3 (which is only offered to small businesses with turnover of less than $2,000,000) is far and away the best option in the majority of cases as:-

  • It reduces our fees by our not having to prepare BAS’s or amend those prepared by clients (at the risk of being misunderstood, there are matters that only come to light when preparing annual financial statements and which require past BAS’s to be amended).
  • One doesn’t have to amend BAS’s for where a tax invoice is not held by the time a BAS is lodged.
  • If profits are increasing, then one’s GST net liability will also be increasing.  The instalment will represent an under payment as the ATO advised instalment is based off the prior year’s lodged activity statements.  In most cases, the shortfall is not payable until May of the following year so one receives an interest free loan from the ATO to pay any GST shortfall.
  • If the instalment is too high, then it can be varied downwards (but best left until at least the second and preferably the third or fourth quarter when the year’s position becomes clearer).

Please contact us if the ATO have marked on your BAS that Option 3 is not available.  This is often simply an ATO error and one that we can easily have rectified.

If Option 3 is adopted, then the ATO will issue an Annual GST Return at the end of the financial year.  This form is used to net off the actual liability against the instalments paid.  The form is required to be lodged by the time the Tax Return is lodged and by which time a shortfall is to be paid or a refund will be generated.

At MRS, we will spend today planning for your success tomorrow.

Deadlines for Sep 15 quarter

For those of you who are employers, Wednesday 28th October is the end date for satisfying your SGC super obligation for the September quarter.  Late payments will attract substantial interest and penalties.  Consequently, SGC super should never be paid late.  In the past, payments made even a day late had to be paid directly to the ATO.  Now payments up to a month late can still be made to employees’ super funds.  Payments made more than one month in arrears must be paid to the ATO.  BAS’s and SGC liabilities that remain unreported and unpaid after 3 months automatically become personal debts of directors.

As per earlier reminders, the SGC rate increased from 9.25% to 9.50% as from 1st July 2014.  Please ensure that your system is calculating the SGC at this slightly higher new rate as we have found some clients have still been using the previous rate.

For those who lodge a quarterly BAS, your September quarter BAS is due for lodgement by Wednesday 28th October.  However, you will have to Wednesday 11th November if you are a registered user of the Tax Office’s Taxpayer Portal.  As per our June 2014 edition of Tips & Traps, we encourage you to register for the ATO Taxpayer Portal if you have not done so already; particularly as no further paper activity statements will be issued when an activity statement has been lodged electronically after 30th June 2014.

At MRS, we will spend today planning for your success tomorrow.

What’s your break-even point?

I watched an episode of Gordon Ramsay’s Kitchen Nightmares during the week – you know that show that would be under 50 minutes if they cut and out every word starting with f.

This week’s episode featured a husband and wife team. The business was going down the gurgler, and sadly, as so often happens, so too was their marriage.

All the restaurants in the series are on the wrong side of serious trouble and their problems are numerous. As usual, the restaurant was re-designed and the menu was simplified with an emphasis on fresh ingredients. However, in this case, Ramsey also honed in on the fact that they had no idea of their break-even point.

What intrigued me was that Ramsey adopted the pure definition – how much revenue do you need to cover expenses in order to break-even. There are two points I would like to make about this common definition.

Firstly, most business owners don’t have a clue about their break-even point. Business owners must be able to:-

  1. Correctly identify which costs are overheads (being those expenses incurred in just opening the doors) and those cost of goods/services sold (being those expenses which are which are directly incurred in doing what they do whether that be make widgets or provide say training). Getting the cost of good/services sold correct is vital – yet sadly few of my fellow professionals bother to ensure that their client’s system accounting systems report on this basis.
  2. Have an understanding of which costs are fixed and which ones are variable. This is easy to do. However, some costs are stepped – meaning that they are largely fixed but go up in steps such as taking on another employee. It’s not easy to track this but one must know what these costs are, when they increase and by how much.

Secondly, the break-even point is not the end game. The purpose of being in business is to make a profit; if not, the operation is effectively nothing other than a charity. So therefore the true break-even point of a business includes a fair return for the effort, time, finance and risk that the owners put into the business. Every business owner should be regularly measuring itself against this number.

Do you know what your true break-even point is? We have helped many clients to not only determine it but also to set up measuring systems and procedures to ensure the business (or rather its owners) stay on track. We would welcome the opportunity to discuss this with any potential new client. You have nothing to lose as the first meeting is free of cost or obligation.

At MRS, we will spend today planning for your success tomorrow.

The danger in not increasing prices

I recently met with a new client. They manufacture and sell a product that whilst not unique, has few direct competitors and certainly none in their area. It’s not expensive so people aren’t going to travel to buy from someone else.

The story of their last couple of years has been a steady decline in profit. Unfortunately, it has been matched by a savage decline in cash but that will be a story for another day.

Whilst there are a few reason for this, it didn’t take long to get to the bottom of the problem. They haven’t been increasing their prices. Their suppliers have been charging them more and they are paying more to their employees.

By not passing on their increased costs, they have in effect given a discount to their customers. Or put it another way, they have more and more started to work for the benefit of their customers rather than themselves.

If the price freeze continues, then they will do their employees (and their families) a disservice as well as they will lose their jobs.

I reckon their customers would have been expecting their prices to increase. Given, the quality of their product and the apparent return loyalty of their customers, I would not expect a price to increase result in their losing custom.

We use some business analysis software that shows the outcome from changing any key driver in a business. In this case, we were able to show our client:-

  • What price increase would be needed to return to past levels of profitability.
  • Discussed how those price rises should be communicated.
  • How many customers they would have to lose and still make the same profit. Just to digress, this is usually substantially less than most clients guess.
  • What difference this would make to the sale value of the business.

Our cutting edge software can set out the impact from making changes such as this in a form that business owners understand. Yes, there are still a host of numbers (largely for my benefit), but the output is graphical and the numerical result simplified.

In my experience, business owners are reluctant to make changes when they don’t know the outcome. The results from making small changes are often amazing. So what is your lost opportunity? Why not met with us to find out. You have nothing to lose and everything to gain, particularly as our first meeting with a potential new client is free of cost or obligation.

At MRS, we will spend today planning for your success tomorrow.