Kelvin Pimm – Introductory Financial Accounting – Assignment Steps 7 to 11

Step 7:

I started on the report for the year ended 31 March 2016, and searched “inventory” (using the ctrl-F function). I was surprised however, that the only results I received were various notes scattered throughout the report. I also saw multiple times “fair value adjustment on acquired inventory”, which seems to have something to do with the calculation of earnings per share (I decided that I would look into this further later on). What I never saw however, was the balance sheet of the firm when I searched “inventory”. I stressed for a moment thinking that this firm must not have inventories (a lot of their revenue comes through licensing, which doesn’t require any stock/inventory). However, since BTG Plc does sell pharmaceuticals, I thought they must have some sort of inventories. So I scrolled to the balance sheet, and saw the word “inventories”. As I suspected, the firm does in fact have inventories but I had been searching “inventory”. I’m sure I can’t be the only person who searched for “inventory” when the account on their firm’s balance sheet was actually named “inventories” or perhaps something else.

Now armed with the knowledge that I need to account for the word “inventories” along with “inventory” in my search of the report, I once again used the search function to search the report for every mention of inventory/inventories. Unfortunately, this search didn’t provide me with much information on how total of the inventories account is reached. Instead, the majority of the results I received were in relation to the “fair value adjustment on acquired inventory” of £1.5m that I saw earlier. The meaning behind this was that in this financial year, BTG Plc released a fair value uplift in the inventory that they acquired when they acquired another firm (PneumRX) in January 2015. I was curious as to what this meant as I had never seen it before. After a quick google search I concluded that it seemed that BTG revised the value of the inventory they acquired as a result of the purchase of PneumRX to its fair value at the time of the acquisition (so actually, the description in the report was pretty self-explanatory), and applied this uplift to cost of sales (an expense). A similar fair value uplift on inventory (totalling £0.9m) was applied in the 2015 financial year, also relating to the acquisition of PneumRX . There were also uplifts in fair value for inventories in 2017 and 2018 (totalling £1m and £0.2m respectively), in both years relating to the acquisition of Galil Medical.

There was no information in the 2016 report on the types of inventory BTG holds, although I was imagine it must include the supplies used for producing the products that are sold (ingredients for anti-venom etc.), along with the finished products ready for sale. There was also no information in the 2017 and 2018 reports. This annoyed me a little; as I’m sure I will be surprised by some of the items classified as inventory by this firm that I could have never thought of. Instead, all we can see is an inventories account on the balance sheet and a line in the ‘financial summary’ section of each report mentioning the change in the inventories total compared to the previous year.

The report is also lacking information on how inventories are calculated. While there were notes throughout each report detailing the various fair value uplifts on inventories relating to the acquisition of other companies (which I have mentioned

already), there isn’t much else to go off in terms of how inventories are calculated. This means all I can do is make assumptions based off of what I do know about the company. It is not stated whether the firm uses the perpetual or periodic method of tracking inventories. I believe it is likely to firm would be using the perpetual method for a number of reasons. The first reason is the massive amount of stock the firm must hold at any point in time, considering the value of the inventories was over £40m all 4 years from 2015-2018. As certain substances that are used in the products would only be safe to use for a certain period of time, the company will need to constantly track the age of stock. Using substances past their use-by-date could have negative effects on safety and effectiveness of BTG’s products. This could lead to major consequences for the firm, which they would prefer to avoid. Constantly tracking inventory would also help reduce wastage, as the firm would then have a better idea of what stock should be used first.

The cost formula method of inventories is also not disclosed on the financial reports for BTG plc. However, we can rule out two methods as possibilities. As the products sold by this company are interchangeable, they are therefore prohibited from using the “specific identification” method. Furthermore, they are prohibited from using the LIFO (last in, first out) method by the international accounting standards, and can’t use it domestically either as they are based in the UK (the US does allow use of the LIFO method). This means they could only use either the FIFO (first in, first out) or the weighted average cost formulas. I think it would make the most sense if they used the FIFO method, due to the importance for BTG to clear their oldest inventory items first.

Below is a table that contains the inventories for each year, along with inventories as a percentage of current assets, total assets and net assets.

Total 2015 (£’000,000) 2016 (£’000,000) 2017 (£’000,000) 2018 (£’000,000)

Inventories 40.5 46.5 58.4 61.0

Inventories as % of current assets

40.5/207.6*100 = 19.5%

46.5/297.5*100 = 15.7%

58.4/342.3*100 = 17.0%

58.4/408.0*100 = 14.3%

Inventories as % of total assets

40.5/1,049.9*100 = 3.9%

46.5/1,148.8*100 = 4.0%

58.4/1,311.1*100 = 4.5%

58.4/1,162.7*100 = 5.0%

Inventories as % of net assets

40.5/758.6*100 = 5.3%

46.5/847.7*100 = 5.5%

58.4/979.9*100 = 6.0%

58.4/912.8*100 = 6.4%

As we can see from the above table, from the 31st of March 2015 through to the 31st of March 2018, the total inventories held have increased every single year. This would probably be concerning if you just looked at it in isolation. Wouldn’t this mean that they’re selling less? Well not necessarily it would seem, as revenue has also increased every year from 2015 to 2018. In fact, the increase in revenue is much sharper than inventories, increasing from £367.8m in 2015 to £620.5m in 2018 (an increase of 68.7%). On the other hand, inventories have only increased by £20.5m over that time span, or 50.6%. It’s also worth noting that revenue from licensing increased much less than interventional medicine and pharmaceuticals from 2015 to 2018, so it can’t be argued that BTG are relying less on inventories (revenue from licensing only increased 46.8%, below the 68.7% total increase in revenue). Furthermore, inventories have decreased as a percentage of current assets, with none of the years from 2016 to 2018 reaching the 2015 level of 19.5% of current assets being made up of inventories. Although the inventories as a percentage of total assets and net assets increased slightly over the four years evaluated, I don’t think this is necessarily a bad sign in regards to inventory management. The increase in each of these was only small, as 1.1% for both. Also, the increases can be explained by the fact that both non-current assets and liabilities have not increased at the same rate as inventories and current assets as a whole. Although we don’t know how BTG Plc are managing their inventories, the numbers certainly suggest they’re effectively managing inventories, with the results improving over time. Due to the lack of information as to what makes up BTG’s inventories, its hard to know if they’re going to be facing any challenges in particular that might affect their inventories.

Step 8: MYOB File Setup

For this task, I did choose to set up a file for my assigned company, BTG Plc.

Setup of the company’s chart of accounts

Setup of UK Sales tax (20%)

Last screenshot of company file setup training

Last screenshot of company file setup – transactions can’t be saved, they must be reversed

Last screenshot of MYOB Accountright training

Practice Transactions for BTG Plc

MYOB Skills Test:

Step 9:

Hypothetical Transactions

Date Transaction01/04/2019 Sale of 50 vials of CroFab® to the FFF Enterprising Inc. (USA) for

£126,500 (including £200 freight). Paid in full on the 23/04/2019.04/04/2019 Repair of leaking roof in laboratory. Paid in cash to London Roofing

Specialist Ltd on the day (£500).10/04/2019 Sale of 20 vials of DigiFab® to Clinigen Healthcare Ltd for £12,580.

Paid in full on the 17/04/201912/04/2019 Purchase of 20 bottles of sheep blood (ingredient for CroFab®) from

TCS Biosciences Ltd for £3,100 including £100 freight. Discount of 10% if paid in the first 7 days. Paid on the 16/04/2019 (10% discount on sheep blood applied as paid within 7 days, paid £2,800)

15/04/2019 Purchase of 3x milk bottles from Aldi for head office for £9. Paid in cash.

18/04/2019 Invoice to Johnson & Johnson for Zytiga licensing, totalling £2,000,000. £1,000,000 paid on the 29/04/2019. The balance paid on the 06/05/2019.

22/04/2019 Sale of DC Bead® (medical device) to The Royal London Hospital for £50,000. Paid on the 10/05/2019.

24/04/2019 Purchase of 25kg of Sodium Acetate (ingredient for DigiFab®) for £30 from Intra Laboratories. Paid on the 25/04/2019.

29/04/2019 Purchase of 200 tablets of Digoxen (ingredient for DigiFab®) from United Pharmacies for £25. Paid on 30/04/2019.

30/04/2019 Invoice from Deloitte UK for consultancy fees for the month of April 2019, totalling £3,500. Paid on the 09/05/2019.

All sales and purchases local (UK) companies included 20% VAT (Value Added Tax). Exports did not have sales tax. Milk is also exempt from VAT.

1,

Transactions & Insights:

For my assigned company, BTG PLC, I have entered 10 hypothetical transactions (as per the table above), which included a mix of sales and purchases both related to and unrelated to sales. After these transactions were entered, I ran the “All Journals”, “Profit & Loss Statement”, “Job Profit & Loss Statement”, “Balance Sheet”, and “Statement of Cash Flow” reports. I decided to include the “Job Profit & Loss Statement” as I created job codes for individual products, which allows us to further break down our revenue and expenses from the 3 categories that BTG presents on its financials (interventional medicine, pharmaceuticals and licensing income). Utilising MYOB’s job code feature eliminates the need to create separate accounts for each individual product sold, which helps keep the chart of accounts concise.

For the purpose of this analysis, I made the decision to run the reports for my BTG Plc from the 1st of April 2019 to the 30th of April 2019. Some of the payments of invoices weren’t paid or received until May. These totals can be seen in the “trade debtors” and “trade creditors” accounts on the balance sheet.

There are some inconsistencies in profit & loss statement that makes it unrealistic compared to the firm’s real report. In all years from 2015 through to 2018, the revenue was fairly evenly split between interventional medicine, pharmaceuticals and licensing. However, in my report based off the 10 example transactions, licensing income made up 90.31% of the total revenue. However, it would be difficult in such a small sample size of transactions to make this revenue split realistic. As licensing income can come from a small number of transactions (from a small number of contracts), a single transaction can create the appearance that licensing income is far larger than pharmaceuticals and interventional medicine income.

Overall, BTG’s net profit for April 2019 per the profit & loss statement was £1,839,595.17. The gross profit was £1,842,137.51, a figure achieved by deducting the cost of sales of £2,379.16 from the total revenue of £1,845,316.67. This gives BTG a high gross profit margin of 99.83% (gross profit/total revenue*100). The total expenses were £3,342.34. Once the expenses are deducted from the gross profit, we can calculate the net profit margin, which was 99.69% (net profit/total revenue*100). These indicators show that BTG Plc is very profitable, with the cost of sales being incredibly low in comparison to the revenue. The overhead expenses (consultancy, repairs & maintenance etc.) are also very low. It’s worth noting however that these overheads are still higher than the cost of sales, which is unusual when revenue is so high (the cost of sales total that I have taken up is unrealistic, considering BTG’s real annual cost of sales is around 30% its annual total revenue).

Job codes were created and applied for the 4 products sold in the hypothetical transactions. As per the “job profit & loss statement”, the net profit for each of the products was as follows:

- CroFab: £124,166.67- DC Bead: £41,666.67- DigiFab: £10,483.33- Zytiga: £1,666,666.67

Each of these jobs were extremely profitable. As there were no expenses for Zytiga or DC Bead, these two products were the most profitable, with a 100% net profit margin. The net profit margin for CroFab is 98.15% and 99.56% for DigiFab.

The balance sheet shows BTG’s assets and liabilities at the 30th of April 2019. I elected to include opening balances in the bank accounts and petty cash of the firm. The opening balances were £20,000 in the cheque account (the everyday account that payments and receipts are made to), £20,000,000 in a savings account and £2,000 in petty cash/cash on hand (used for small transactions, such as milk for staff). Thus, the overall cash position of BTG was £20,022,000 at the beginning of the period. At the end of the period, the cash position had increased by £1,135,716 to £21,157,716. This increase was due to the high amount of revenue in comparison to expenses, and the fact that the majority of the sales made on credit had at least been partly paid by the customers. Although it is worth pointing out however that there was still £1,050,000 worth of trade debtors at the 30th of April, with this amount not being received until May. The liabilities on the balance sheet are trade creditors of £3,500 and VAT liabilities of £342,620.83 (£343,763.33 VAT collected minus £1,142.50 VAT paid). The total assets for BTG are £22,207,716 and the total liabilities are £346,120.83, which leaves net assets of £21,861,595.17. As the 10 hypothetical transactions did not include any owner’s equity transactions, the “equity” section of the balance sheet only contains “current year earnings” and “historical balancing” from the opening balances I entered. It can be concluded that the financial position of BTG Plc is very healthy, with total of assets being so much higher than liabilities. This is further proven by the total debt/equity ratio (total liabilities/total equity*100), which is 1.58%. This shows that in this hypothetical scenario BTG’s operations are financed through debt to only a very small degree.

The statement of cash flows is a report that summarises the movement in cash for the selected period. The report breaks down the cash movement in the operating and

investing activities (I didn’t have any non-operating transactions amongst my 10 hypothetical transactions). As per the paragraph above, the total increase in cash from the beginning of the period to the end was £1,135,716. This is the net movement in cash, with the movement in cash being the net income, minus trade creditors (revenue not yet received), plus VAT collected (tax collected on behalf of the Government), minus VAT paid (VAT on purchases that can be claimed back from the Government), plus trade creditors (purchases not yet paid). As discussed earlier, the cash position of BTG is very healthy thanks to their high sales and low expenses, along with their ability to collect proceeds from credit sales in a reasonable timeframe.

Step 10

Step 11