Controllership

Steven M. Bragg, CPA, CMA, CIA, CPIM, (Centennial, CO) has been the chief financial officer or controller of four companies, as well as a consulting manager at Ernst & Young and auditor at Deloitte. He is the author of over 25 books primarily targeted toward controllers and their needs. Bragg received a master's degree in finance from Bentley College, an MBA from Babson College, and a bachelor's degree in economics from the University of Maine.

About the Author xvii

Preface xix

Part I the Broad Management Aspects of Controllership 1

Chapter 1 Accounting in the Corporation 3

Tasks of the Accounting Function 3

Role of the Accounting Function 5

Role of the Controller 6

Impact of Ethics on the Accounting Role 7

Evolving Role of Accounting 10

Chapter 2 Controller’s Responsibilities 13

Variations on the Title 13

Planning Function 14

Control Function 15

Reporting Function 15

Accounting Function 16

Additional Controller Functions in Smaller Companies 17

Controller’s Job Description 19

Relationship of the Controller to the Chief Financial Officer 21

Chapter 3 Cost Accounting and Costing Systems 23

Purpose of Cost Accounting Information 23

Input: Data Collection Systems 24

Processing: Data Summarization Systems 27

Processing: Job Costing 29

Processing: Process Costing 34

Processing: Standard Costing 38

Processing: Direct Costing 40

Processing: Throughput Costing 43

Processing: Activity-Based Costing 48

Processing: Target Costing 50

Outputs: Cost Variances 52

Chapter 4 Ratio and Trend Analysis 57

How to Use Ratios and Trends 57

A Caveat 58

Measures for Profitability 60

Measures for the Balance Sheet 62

Measures for Growth 66

Measures for Cash Flow 68

Measures for Nonfinancial Performance 70

Interrelationship of Ratios 85

Setting Up a System of Ratios and Trend Analyses 85

Chapter 5 Internal Control Systems 89

Objectives 89

Responsibility for Internal Controls 90

Examples of Internal Controls 92

When to Eliminate Controls 102

Types of Fraud 104

Preventing Fraud 105

How to Deal with a Fraud Situation 109

Chapter 6 Internal Audit Function 113

Reporting Relationships 113

Role of the Audit Committee 116

Internal Audit Objectives 117

Internal Audit Activities 119

Chapter 7 Recruiting, Training, and Supervision 123

Recruiting Sources 123

Factors to Consider when Recruiting 125

Factors to Consider When Promoting 127

Importance of Reduced Turnover 128

Importance of Developing Career Plans for Employees 132

How to Motivate Employees 134

Chapter 8 Controller’s Role in Investor Relations 137

Objectives of the Investor Relations Function 137

Communication Vehicles for Investor Relations 138

Investor Relations Message Recipients 138

Information Needs of the Financial Analyst 139

Information Needs of Other Groups 141

Providing Guidance 141

Forward-Looking Statements 144

Organization Structure for Investor Relations 146

Role of the Controller and Other Principals 147

Part II the Planning Function of Controllership 151

Chapter 9

Business Plans and Planning: Interrelationship of Plans, Strategic Planning 153

Business Planning Defined 153

Framework for Business Planning 154

Time as Related to Planning 154

Planning Period: How Long Is “Long Range”? 155

System of Plans 156

Strategic Plan: An Overview 156

Corporate Development Plan 157

Operations Plan 158

Basic Elements in Any Plan 158

Planning Process 159

Plan Frequency 161

Plan Guidelines 162

Supplemental Planning: Alternative Scenarios 162

Planning Timetable or Schedule 163

Strategic Planning: An In-Depth Review 163

Environmental Analysis 165

Critical Success Factors 167

Business Mission or Purpose 168

Long-Range Business Planning Objectives 170

Developing Strategies 174

Strategies and the Planning Period 177

Role of the Controller 177

Chapter 10

Financial Impact of the Strategic Plan: Long-Range Financial Plan 181

Key Elements of a Strategic Plan 181

Capital Investments 182

Risk Analysis 183

Objectives of the Long-Range Financial Plan 184

Consolidation and Testing Process 185

Illustrative Financial Exhibits in the Plan Presentation 186

Role of the Controller 193

Chapter 11 Profit Planning: Annual Plan 201

Purpose of Budgeting 201

Planning Benefits 202

Coordination Benefits 203

Control Benefits 205

Problems with the Annual Plan 205

Annual Planning Cycle: Illustrative 206

Supportive Financial Statements and Budgets 208

Sales Budget 209

Production Budget 210

Purchases Budget 210

Direct Labor Budget 211

Manufacturing Expense Budget 211

Inventory Budget 212

Operating Expense Budget 212

Capital Expenditures Budget 213

Cost of Goods Sold 213

Statement of Estimated Income and Expense 214

Cash Budget 214

Statement of Estimated Financial Condition 216

Approval of Budget 218

Linking the Bonus Plan to the Budget 218

Controller’s Role: A Key Player 219

Management Approval of the Plan 223

Chapter 12 Profit Planning: Supporting Financial Analysis for the Annual Plan 225

General Comments on the Cost-Volume-Profit Relationship 225

Breakeven Chart 226

Changes in Sales Revenue 228

Changes in Sales Mixture 228

Changes in Sales Price 230

Changes in Costs 231

Analysis by Product 232

Application of Cost-Volume-Profit Analysis 235

Selecting the Most Profitable Products 236

Increased Sales Volume to Offset Reduced Selling Prices 236

Most Profitable Use of Scarce Materials 237

Advisability of Plant Expansion 238

Some Practical Generalizations 239

Program Evaluation Using Discounted Cash Flow 240

Financial Analysis of Unacceptable Operating Results 243

More Sophisticated Analyses 258

Chapter 13 Taxation Planning 259

Accumulated Earnings Tax 260

Cash Method of Accounting 261

Inventory Valuation 262

Mergers and Acquisitions 262

Net Operating Loss Carryforwards 263

Nexus 264

Passive Activity Losses 265

Project Costing 266

Property Taxes 267

S Corporation 267

Sales and Use Taxes 268

Transfer Pricing 269

Unemployment Taxes 271

Management of the Taxation Function 272

Part III Planning and Controlling Operations 275

Chapter 14 General Discussion of Standards 277

Definition of Standards 277

Advantages of Standards 278

Relationship of Entity Goals to Performance Standards 280

Types of Standards Needed 281

Trend to More Comprehensive Performance Measures 285

Benchmarking 287

Setting the Standards 289

Use of Standards for Control 291

Procedure for Revising Standards 293

Chapter 15 Planning and Control of Sales 295

Sales Management Concerns 295

Controller’s Assistive Role in Sales Management Problems 296

Controller’s Independent Role in the Planning and Control of Sales 299

Sales Analysis 300

Sales Planning: Basis of All Business Plans 304

Steps in Developing the Near-Term Sales Plan/Budget 305

Methods of Determining the Sales Level 308

Useful Sources of Forecasting Information 311

Forecasting the Business Cycle 312

Sales Standards 318

Sales Reports 322

Product Pricing: Policy and Procedure 328

Chapter 16 Planning and Control of Marketing Expenses 339

Definition 339

Factors Increasing the Difficulty of Cost Control 341

Marketing Expense Analysis 341

Types of Analyses 342

Planning Marketing Expenses 353

Special Comments on Advertising and Sales Promotion Expense 354

Marketing Expense Standards 360

Chapter 17 Planning and Control of Manufacturing Costs: Direct Material and Direct Labor 367

Direct Material Costs: Planning and Control 372

Labor Costs: Planning and Control 379

Chapter 18 Planning and Control of Manufacturing Costs: Manufacturing Expenses 389

Proper Departmentalization of Expenses 389

Variations in Cost Based on Fixed and Variable Costs 390

Variations in Cost Based on Direct Labor 392

Variations in Cost Based on Batch Size 394

Variations in Cost Based on Overhead 396

Variations in Cost Based on Time 398

Cost Estimation Methods 399

Normal Activity 404

Allocation of Indirect Production Costs 405

Budgetary Planning and Control of Manufacturing Expenses 407

Securing Control of Overhead 409

Control with Throughput Analysis 415

Role of the Controller 416

Chapter 19 Planning and Control of Research and Development Expenses 425

R&D Activities in Relation to Corporate Objectives 425

Organization for the R&D Financial Functions 425

Elements of R&D Costs 426

Role of the Financial Executive in R&D 429

Determining the Total R&D Budget 429

Establishing the R&D Operating Budgets 430

Detailed Budgeting Procedure 438

Other Control Methods 438

Effectiveness of R&D Effort 442

Chapter 20 Financial Planning and Control in a Service Company 447

Data Classification 447

Cost Accounting in a Service Organization 449

Planning System 454

Strategic Planning 459

Chapter 21 Planning and Control of General and Administrative Expenses 461

Components of G&A Expense 461

Control over G&A Expenses 462

Reducing G&A Expenses 468

Spend Management Systems 473

Budgeting G&A Expenses 474

Chapter 22 Payroll 477

Improving the Payroll Process 479

Compensation 485

Federal Income Taxes 489

Social Security Taxes 491

Medicare Tax 491

State Income Taxes 491

Payroll Taxes for Employees Working Abroad 492

Remitting Federal Taxes 492

Payroll Deductions for Child Support 494

Payroll Deductions for Unpaid Taxes 495

Unemployment Insurance 496

Part IV Planning and Control of the Balance Sheet 499

Chapter 23 Planning and Control of Cash and Short-Term Investments 501

Objectives of Cash Planning and Control 501

Duties of the Controller versus the Treasurer 501

The Cash Forecast 502

Cash Collections 514

Cash Disbursements 520

Internal Control 521

Reports on Cash 524

Cash Flow Ratio Analysis 526

Variations in Cash Requirements by Industry 528

Investment of Short-Term Funds 529

Chapter 24 Planning and Control of Customer Credit and Receivables 533

Credit Procedures and Systems 533

Collection Procedures and Systems 542

Measurement of Accounts Receivable 548

The Bad Debt Forecast 549

Budgeting for Accounts Receivable Balances 550

Chapter 25 Planning and Control of Inventories 553

Costs and Benefits of Carrying Inventory 553

Role of the Controller 555

Material Requirements Planning Systems 557

JIT Manufacturing Systems 558

Inventory Purchasing 561

Production Issues Impacting Inventory 563

Inventory Quantity Management 565

Obsolete Inventory 567

Inventory Cutoff 570

Budgeting for Raw Materials 572

Budgeting for Work-in-Process 577

Budgeting for Finished Goods 578

Significance of Proper Inventory Valuation 582

Selection of the Cost Base 582

Chapter 26 Accounting and Reporting for Selected Investments and Employee Benefit Plans 585

Improving the Investment Decision Process 585

Role of the Controller 586

Accounting Records for Selected Investments 587

Financial Reports on Selected Investments 587

Accounting and Disclosure Requirements and Practices for Employee Benefit Plans 590

Chapter 27 Planning and Control of Plant and Equipment or Capital Assets 601

Controller’s Responsibility 601

Capital Budgeting Process 603

Information Supporting Capital Expenditure Proposals 604

Methods of Evaluating Projects 605

Payback Method 606

Operators’ Method 607

Accountants’ Method 608

Discounted Cash Flow Methods 609

Cash Flow Modeling Issues 614

Hurdle Rates 615

Cost of Capital—A Hurdle Rate 616

Throughput Method 617

Classifying and Ranking Proposed Capital Projects 620

Problems with the Capital Budget Approval Process 621

Using Expected Commercial Value for Project Ranking 622

Board of Directors’ Approval 624

Project Authorization 628

Accounting Control of the Project 630

Postproject Appraisals or Audits 630

Other Aspects of Capital Expenditures 632

Chapter 28 Management of Liabilities 637

Objectives of Liability Management 637

Direct Liabilities 638

Planning the Current Liabilities 639

Standards to Measure and Control Current Liabilities 642

Corrective Action 644

Some Benefits from Debt Incurrence 644

Standards for Debt Capacity 645

Leverage 648

Managing Liabilities: Some Practical Steps 649

Management of Accounts Payable 652

Accounting Reports on Liabilities 656

Internal Controls 656

Chapter 29 Management of Shareholders’ Equity 659

Role of the Controller 659

Growth of Equity as a Source of Capital 660

Return on Equity as Related to Growth in Earnings per Share 661

Growth in Earnings per Share 661

Cost of Capital 663

Components of Cost of Capital 664

Calculating the Cost of Debt 665

Calculating the Cost of Equity 666

Calculating the Weighted Cost of Capital 669

Dividend Policy 670

Other Transactions Affecting Shareholders’ Equity 672

Long-Term Equity Planning 673

Short-Term Plan for Shareholders’ Equity 678

Other Considerations 680

Part V Financial and Related Reports 683

Chapter 30 Internal Management Reports 685

Rules of Reporting 685

Status Reports 688

Margin Reports 690

Cash Reports 694

Capacity Reports 695

Sales and Expense Reports 696

Payroll Reports 698

Graphical Report Layouts 703

Chapter 31 External Reporting 705

Purpose of the Annual Report to Shareholders 705

Controller and the Annual Report 706

General Contents of the Annual Report 706

Importance of Form 709

Other Reports to Shareholders 711

Disclosure Issues 712

SEC Forms 713
Contents xv

Part VI Some Administrative and Special Aspects of the Con- Troller’s Department 719

Chapter 32 Mergers and Acquisitions 721

Acquisition Strategy 721

The Acquisition Process 723

Locating Acquisition Targets 726

Due Diligence 729

Valuing the Target 739

Legal Documents 743

Acquisition Integration 753

Types of Acquisitions 760

Chapter 33 The Reporting Period and How to Close It 763

Selecting the Fiscal Year 763

Selecting the Number of Interim Reporting Periods 764

Reasons for Accelerating the Closing Period 766

How to Achieve a Fast Close 766

Chapter 34 Inventory Tracking 781

Differences between Perpetual and Periodic Inventory Systems 781

Setting Up a Perpetual Inventory System 783

Auditing and Measuring a Perpetual Inventory System 787

Physical Inventory Procedure 788

Physical Inventory Complications: The Cutoff 791

Reconciling Inventory Variances 792

How to Avoid the Inventory Tracking Problem 794

Chapter 35 Tax Records and Procedures 797

Tax Organization 798

Centralized Tax Department 798

Functions Of the Tax Manager 800

Tax Communications 801

Tax Records in General 801

Tax Calendar 802

Tax Information Records 802

Tax Working Papers and Files 805

Internal Revenue Code and Record Requirements 805

Proper Classification of Accounts 805

Other Taxes 806

Income Taxes and Business Planning 806

Special Tax Reports 806

Index 807