Accounts

Question 1

Define accounting and book keeping

Answer 1

‘Accounting’ = the complete package of all planning and managing financial affairs
Bookkeeping is the branch of accounting that:
* Provides a permanent record of all mercantile transactions
* Shows the impact of each transaction and the combined effect of all transactions on the financial state of the enterprise (like P&L reporting)

Question 2

Besides bookeeping, summarise key accounting functions

Answer 2

• Deciding what activities are economically viable
• What items to purchase/how to raise the capital for them
• Ensuring there is sufficient finances to pay bills in the correct timeframe
• Investing surplus money to earn interest when not immediately needed
• Anything that impacts the financial position of a company

Question 3

Define creditor and debtor

Answer 3

Creditor = the person lending money, debtor = the person owing money (like debtors prisons from Scrooge)

Question 4

Define capital and summarise why it’s needed. Give examples of fixed assets

Answer 4

• ‘Capital’ = the total value of a company’s assets, investments and cash. Assets are divided into fixed and current
• Capital (as money) is needed to start a business – more injections may be needed to maintain momentum or increase the range of business activities
• Capital is used to purchase fixed assets (e.g. ships, machinery) and to pay running costs (paying wages, rent etc) – the latter is known as working capital
• Investments in other industries are also fixed assets (e.g. investing in a terminal operating company)

Question 5

What are some ways of raising capital?

Answer 5

• Selling shares in the company/allowing others to become part owners
• Borrowing from a financial institution (loan capital – the loanee needs to pay this back + interest)
• Interest is the % of the capital sum that the borrower pays the lender for use of the money borrowed
• If a company is generating surplus capital (more than it needs to cover expenses), it can deposit this with a bank to earn interest rather than it laying idle
• An enterprise may temporarily not have enough cash, requiring a short term loan or overdraft. Well managed companies can usually negotiate large overdrafts

Question 6

What is a mortgage?

Answer 6

Mortgages are a unique type of borrowing used to buy high value items e.g. ships. A mortgage is a deed signed by the buyer, where the buyer pledges the ship as security against the loan used to purchase the ship (usually a mortgage covers a large proportion of the total price). If the owner doesn’t meet repayments + interest, the bank will foreclose on the mortgage, meaning it can take possession of the ship

Question 7

Describe profit and loss accounts and balance sheets

Answer 7

• Profit and loss accounts are the sum of money received, paid, and outstanding debt balances (either owed to or owing to another) – in most countries these must be checked by auditors and then passed to the government yearly
• At the same time the profit and loss account is produced, the company must also produce a balance sheet, which sets out the value of all of its assets and liabilities
• TL;DR: profit and loss accounts show the sum of all transactions over the previous year, the balance sheet shows the value of a company based on its total sum of assets and money owed

Question 8

Define assets and liabilities

Answer 8

• Assets = value of goods, investments, money owed to a company, current cash
• Liabilities = money owed to creditors/other companies, loans, sums owed to shareholders

Question 9

Describe the process of writing down an asset

Answer 9

• Fixed assets are valued at the original purchase price until they are used, at which point they depreciate by a % each year – this is known as writing down the asset
• The % change is calculated by expected lifespan, e.g. a ship expected to last 20 years will lose 5% a year whilst a desk expected to last 4 years will lose 25%
• Sometimes revaluation of assets will occur, e.g. in times of market boom a vessel may be worth more and visa versa, however this doesn’t happen regularly and a distinct up/downward trend in the market must be proven in line with local laws

Question 10

What is management accounting?

Answer 10

• Rather than being retroactive, this refers to the present state of the company and its future plans

Question 11

What do management accounts include?

Answer 11

• Management accounts are usually prepared several times a year, often monthly. They include profit and loss accounts for YtD alongside the budget/P&L at previous year and cash flow forecasts

Question 12

Describe how retroactive accounts are used in future planning

Answer 12

• ‘Same period last year’ is often used to estimate future expenses
• Estimating future expenses is vital to budgetary control and therefore estimating future income
• In order to improve accuracy, actual expenditure and income must be compared to the estimated at regular intervals; ensuring income/expenditure is in line with estimates will ensure the company has enough capital to continue functioning

Question 13

Define a cashflow crisis

Answer 13

Simple definition of a cashflow crisis – if debtors hold more of a company’s money than the company holds of creditors money
Creditors = people a company owe money to – the company is in effect borrowing some of the creditor’s money until their debtors pay them

Question 14

Why is cash flow important? How can it be maximised?

Answer 14

• Regardless of how profitable a company is, if it cannot pay for vital things such as loan repayments it will fail
• Negotiating extended payment terms to creditors whilst minimising the payment terms for a debtor will free up more cash
• Credit control is important to avoid slow payers becoming non-payers, leading to bad debts

Question 15

How can failing companies still appear to have good cash flow?

Answer 15

If a company’s balance sheet shows more money owed to creditors than debtors owe to it, its cash flow may appear good, however it may still be a failing company is this could be an indication of falling sales, leading to a loss in the following year (fewer people owing you money = fewer people paying for your services)

Question 16

What are fixed and variable costs?

Answer 16

Fixed costs;
* Expenses that need to be met even if a ship is idle, e.g. repayment of loan, known as amortisation
* Depreciation – the company will constantly be losing money from its balance sheet via aging assets (subject to revaluation)
Variable costs;
* Running costs occur regardless of a ship’s operation, such as crew wages, maintenance and insurance
* Voyage costs are costs incurred by voyages, such as bunker fuel, port costs and agency fees

Variable costs can be minimised whereas fixed costs can’t, meaning budgetary control in this area can increase profitability

Question 17

What are the 4 main types of company?

Answer 17

• Sole trader
• Partnership
• Limited
• Conglomerate (multinational)

Question 18

Describe the key features of sole traders and partnerships

Answer 18

Individuals can go into business alone and therefore retain the net profit
* They must raise capital alone, including borrowing against their own property as security
* All of the risk therefore falls on the one individual

Two or more people can pool resources (money, skills) to form a partnership. Usually they draw up a partnership agreement to formalise this
* Same risks + benefits apply but are shared
* If one partner cannot fulfil their obligations it will fall to the others
* Partnerships of >2 are usually referred to as firms and can be quite large (e.g. brokers, lawyers etc)

Question 19

Describe the features of a limited company

Answer 19

These limit liability (or risk) vs sole trading or partnerships.

• The founders are shareholders and their liability is limited to their shareholding if the company fails (what they paid for their shares)
• If the company fails the rest of the loss is borne by its creditors (e.g. if a limited company fails whilst it still owes you money you might not get all of your money back)
• This risk can be mitigated by legal controls, e.g. in the UK, limited companies must publish their accounts so their health is clear to any potential creditors (UK registrar of companies)
• Limited companies must have at least 1 director, who may or may not be a major shareholder and who has to abide by codes of conduct
• Limited companies may only have a few shareholders, making them private companies which must be identified in the UK by adding LTD to their name
• Companies with large number of shareholders are known as public companies and have the suffix Plc (Public = they are publicly traded and anyone who wishes may buy shares)

Question 20

Describe the key features of a conglomerate

Answer 20

These are made up of multiple subsidiary companies, which can be related to the parent company or in entirely different trades
* Related companies aid integration, e.g. a ship owner may buy a trucking company to avoid having to buy-in inland transport services
* Varied operations improve diversification, e.g. a shipping company, a logging company and an engineering company
*These companies may trade together but the main benefit is spreading risk; if one year shipping is booming but the price of lumber is poor, their overall profits will remain stable *

Conglomerates can set up subsidiaries both in its own country and in other countries, meaning it can trade globally whilst retaining profits within the organisation – these are known as multinationals (e.g. global oil/mining)

The main way of rasing capital will be to sell shares – they then give shareholders a share of profits, known as dividends

Question 21

What is a country’s balance of trade?

Answer 21

Balance of trade = the difference between what a country earns through exports and spends on imports
A country’s balance of trade is a measure of prosperity and has a major affect on the value of its currency

Question 22

Why are exchange rates important in shipping?

Answer 22

• Shipping is very international so exchange rates are important; e.g. paying wages in GBP, capital repayments in Yen, bunker/port currencies varying by locale, freight earnt in USD; if any one of these currencies has major fluctuations vs the others your costs/profits will also move
• For brokers this is important as freight is usually paid in USD meaning commission is based on a USD value; if their local currency is doing well vs the dollar, their commission earnt in dollars will equate to less of their local currency
• For owners, prompt payment collection is essential, as if the USD rises against their local currency between agreeing a voyage and receiving payment the income in their local currency will be lower