Session 1. Financial management 1: Components and information needs

Session guide: Financial management in an agricultural research institute
Case study: National Institute of Food Research
Reading note: Financial management 1: Components and information

DATE
TIME
FORMAT	Plenary participatory lecture
TRAINER

OBJECTIVES
At the end of this session, participants should be able to appreciate:
	1. Various forms used for the presentation of financial information pertaining to a research organization.
	2. Different components of financial management, and the role of the top executive in managing these components.
	3. Planning and the financial resources of the organization.

INSTRUCTIONAL MATERIALS
Exhibit 1	Why financial management for an agricultural research institute?
Exhibit 2	Income and expenditure account
Exhibit 3	Income and expenditure account (illustration)
Exhibit 4	Balance sheet
Exhibit 5	Balance sheet (illustration)
Exhibit 6	Components of financial management
Exhibit 7	Statements and indicators that help in analysis
Exhibit 8	Sources and uses of funds
Exhibit 9	Costs of service statement
Exhibit 10	Diagnostic indicators
Exhibit 11	Common-sized ratio statement - (illustration)
Exhibit 12	Common-sized ratio statement - (illustration)
Exhibit 13	Time index of expenses
Exhibit 14	Time index of grants received
Exhibit 15	Time index of real expenses
Exhibit 16	Index of level of achievements of plans
Exhibit 17	Coefficient of effectiveness
Exhibit 18	Recurrent-cost recovery coefficient

REQUIRED READING
	Case study: National Institute of Food Research.
	Reading note: Financial management 1: Components and information.

BACKGROUND READING
	None.

SPECIAL EQUIPMENT AND AIDS
	Overhead projector and chalkboard

Session guide: Financial management in an agricultural research institute

The case study on the National Institute of Food Research focuses on the crucial role of financial management in a research institute, particularly when funds are scarce and their availability uncertain. The Reading note on Financial management in an agricultural research institute should be discussed in this context.

Ask participants "Why financial management?", particularly in a research organization. Show EXHIBIT 1 and emphasize how critical financial resources are to the growth of an organization. EXHIBIT 1 provides an analysis of performance, helps in planning and budgeting of activities, and enables control.

Basic financial information consists of (i) an income and expenditure account, and (ii) a balance sheet. Show EXHIBIT 2 on the income and expenditure account. It provides information on the performance of an organization, covering all operations, revenues generated and expenditure incurred. Show EXHIBIT 3. The income and expenditure account is based on accrual assumption and depreciation principles. Accrual assumption facilitates matching of costs to revenue. Distinguish the accrual assumption from the cash basis of accounting, which records transactions on the basis of cash inflows and cash outflows. Use of the accrual system is essential for careful planning of activities. Discuss the depreciation principle, which enables distribution of the cost of an asset in a systematic and rational manner over its estimated useful life. Define (i) cost, (ii) book value and (iii) salvage value. Discuss the straight-line method of depreciation.

Ask participants why depreciation should be considered in non-profit organizations. Observe that depreciation represents the cost of using assets to produce goods or services. By charging depreciation, the value of an asset will be correctly recorded in the balance sheet.

Show EXHIBIT 4. Balance sheet provides information on assets and liabilities of an organization. Emphasize that in a balance sheet (i) there is a clear distinction between capital and revenue expenditure, and (ii) capital grants are treated as contributions and not income. Show EXHIBIT 5 as an illustration of a balance sheet.

Financial management is done through analysis of existing financial statements, developing additional data, decision making based on subsequent analysis, and comparing results with expectations. This approach has four components (EXHIBIT 6). Each of these will have to be discussed.

The first component is financial and cost analysis. This is related to the transformation of financial data into a form which can provide insights into the past, present and future operation of the organization (EXHIBIT 7). This involves analysing financial statements.

Statement of sources and applications of funds (EXHIBIT 8) provides insights into (i) how funds have been moving, sources of the funds and their uses, (ii) sources of dependencies and associated trends, (iii) potential areas for generating funds, and (iv) identifying areas or activities which have been major consumers of funds, and suggesting control mechanisms. As an illustration show EXHIBIT 8 and discuss the various items included in it.

A Cost of Service Statement (EXHIBIT 9) provides information on direct and indirect costs, broken down under various headings. This statement can help management control costs.

Diagnostic indicators help in drawing inferences about the effectiveness and efficiency of use of resources. These diagnostic indicators could be (i) coefficients, indicating relationships between different but comparable data; (ii) ratios, showing the relationship of a part to the whole; and (iii) indices, expressing the relationship between actual and planned resource use. Five diagnostic indicators are used in financial management (EXHIBIT 10).

Discuss these indicators individually. Common-sized ratio statements can be prepared by using the income and expenditure and the balance sheet statements. Items can be expressed as percentages of the total. Show EXHIBITS 11 and 12 to illustrate common-sized balance sheets and income and expenditure statements.

Time indices of expenses and grants received provide comparisons with the base year and highlight changes over time (EXHIBIT 13). Similarly, time indices of grants received (EXHIBIT 14), real expenses (EXHIBIT 15) and level of achievement of plans (EXHIBIT 16) can be computed.

Coefficients of effectiveness (EXHIBIT 17) relate expenses for wages and salaries with other expenses. In a research institute, this is quite an important measure of how much is actually spent on scientific work.

If recurrent costs can be recovered, the recurrent-cost recovery coefficient can be calculated (EXHIBIT 18). This concludes the discussion on financial analysis.

EXHIBIT 1
WHY FINANCIAL MANAGEMENT FOR AN AGRICULTURAL RESEARCH INSTITUTE

· Financial resources are critical to the growth of an organization
· Allows efficient and effective utilization of resources
· One basis for analysis of performance
· Planning and budgeting for activities
· Significance of effective control systems
· Internal and external control systems
· Project formulation and design

EXHIBIT 2
INCOME AND EXPENDITURE ACCOUNT

· The basic objective of this statement is to provide the information necessary to understand how an organization has performed during a given period

· In deriving these statements, we generally follow the principles of

- accrual assumption of matching costs with revenue, and
- provision of depreciation

EXHIBIT 3
Income and expenditure account illustration: National Institute of Food Research

		(in thousands of dollars)
		1992	1993
EXPENDITURE
Expenses in respect of properties
	Maintenance expenses	12.28	14.76
	Municipal tax	3.98	5.48
Establishment expenses
	Salaries and allowances	532.22	599.64
	Consultancy and research/projects	28.68	37.32
	Travelling expenses	7.24	7.64
	Supplies, services and contingencies	170.29	166.39
Expenditure on various courses and workshops arranged
	Post-graduate programme	59.45	65.40
	Workshops and seminars/training programmes	188.00	246.07
	Legal expenses	2.18	3.36
	Auditing fee	0.53	0.79
Miscellaneous expense
	Publication expenses	6.95	8.83
	Telephone and dispatch	3.24	4.27
	Expenses on development activities	8.52	13.69
Other expenses on research and consultancy
	Ad hoc research staff salary	113.05	124.78
Other expenses
	Scholarships and fellowships	16.26	19.02
TOTAL		1152.82	1317.44
Surplus carried over to balance sheet		2.34	2.25
INCOME
Rent realized		9.24	9.71
Interest realization on loans and advances to staff		0.26	0.73
Grant from the Min. of Education sanctioned in year: Amount received		614.40	694.45
Less: Amount transferred to
	Representing expenditure on non-recurring items	73.69	93.46
	House building advance fund	12.00	12.00
	For purchase of EPABX		15.00
	For purchase of computers	10.00	10.00
		518.71	563.99
Add: Amount transferred on balance unspent during the previous period		13.63	2.34
		532.34	566.33
Income from other sources
	Post-graduate programme	66.78	71.19
	Workshops, seminars and other training programmes	219.83	293.03
	Consultancy and research projects	179.77	200.37
	Scholarship and fellowship money from various agencies	12.93	12.99
	Miscellaneous receipts	68.40	90.82
	Grants for specific research project	32.13	35.68
Transfer from reserves
	Contribution to research project from Ford Foundation grant	2.52	6.40
	Contribution from the Research Fund to meet excess from Min. of Agric.	20.96	32.44
TOTAL		1155.16	1319.69

EXHIBIT
BALANCE SHEET 4

· The balance sheet provides information as of a given date about the assets which the organization owes to outsiders

· Assets are in the form of stored purchasing power, money claims, tangible movable and non-movable items

· In contrast, liabilities of the organization represent capital grants received from government and other agencies, and debts payable by the organization on account of purchases and operating expenses

EXHIBIT 5
Balance sheet illustration: National Institute of Food Research

			(in thousands of dollars)
			1992	1993
ASSETS
Fixed assets
	Land and buildings		1730.21	1797.64
	Furniture, fixture, equipment and vehicles		439.77	558.14
	Books purchased from library fund		57.60	68.23
	Computers, equipment and books		114.62	162.67
	Other fixed assets		21.42	26.12
	Stores at cost		6.45	5.12
Investments
	Long-term fixed deposits		96.61	119.45
	National deposit receipts		17.85	17.85
	Short- & long-term deposits with banks		1246.53	1318.24
Loans and advances
	Loan scholarships		0.86	0.89
	Advances to employees
		- House building	30.75	43.77
		- Other advances	69.76	43.20
Deposits
	Security deposits		3.07	3.33
	Telephone deposits		1.79	1.29
Income outstanding
	Interest		35.99	33.56
	Other income		8.61	25.68
	Grants due from the Ministry of Education		46.41	50.88
Due from students			5.26	0.61
Cash and bank balance			64.21	120.43
			3997.77	4397.10

		(in thousands of dollars)
		1992	1993
FUNDS AND LIABILITIES
Earmarked funds		3385.02	3736.77
	Lands and buildings	2010.73	2144.15
	Academic activities	405.65	461.63
	Student aid	85.06	88.23
	Furniture and equipment	707.03	837.26
	Fund for purchase of EPABX	-	15.00
	Funds for purchase of computers	72.66	71.64
	Faculty and staff development	103.89	118.86
Grants from international agencies		203.73	204.97
	For building expenditure	1 13.10	113.10
	Books and computers	81.11	81.16
	Fund for AGRI Journal	9.52	10.71
Liabilities for expenses and other items		72.50	36.25
Deposits and sundry credit balances		310.37	393.05
Income and expenditure account Balance as per last balance sheet		37,44	26.15
Less: Amount transferred to grant from the Ministry of Education in income and expenditure account		13.63	2.34
Add: Surplus as per income and expenditure		2.34	2.25
		3997.77	4397.10

EXHIBIT 6
COMPONENTS OF FINANCIAL MANAGEMENT

FINANCIAL AND COST ANALYSIS

PLANNING AND BUDGETING

VARIANCE ANALYSIS AND CONTROL

PROJECT AND ACTIVITY PLANNING

EXHIBIT 7
STATEMENT AND INDICATORS THAT HELP IN ANALYSIS

· Sources and uses of funds statement

· How funds have been moving, sources and uses during the year

· Enables management to identify the sources on which the organization is dependent, and trends in these sources

· Exploration of areas which have the potential to generate funds in the future

· Helps management to identify areas or activities which have been major consumers of funds, and to suggest control mechanisms

EXHIBIT 8
SOURCES AND USES OF FUNDS: NATIONAL INSTITUTE OF FOOD RESEARCH

		$ '000s	%
USES
	Additions to fixed assets	250.29	54.83
	Investments	94.55	20.71
	Outstanding grants	19.11	4.19
	Decrease in liabilities	36.25	7.95
	Decrease in surplus carried to the
	balance sheet	0.09	0.00
	Increase in cash balance	56.22	12.32
		456.51	100.00
SOURCES
	Non-plan expenditure	351.75	77.05
	Grants from international agencies	1.24	0.28
	Other inflows (deposits, etc.)	82.92	18.14
	Recovery of loans and advances	15.95	3.50
	Recovery of dues from students	4.65	1.03
		456.51	100.00

EXHIBIT 9
COST OF SERVICE STATEMENT

· This statement contains information about costs incurred in providing various services rendered by the organization

EXHIBIT 10
DIAGNOSTIC INDICATORS

· Common-sized ratio statement
· Time indices of expenses and grants received
· Time index of real expenses
· Index of level of achievement of plans
· Coefficients to analyse operating performance

EXHIBIT 11
COMMON-SIZED RATIO STATEMENT ILLUSTRATION: NATIONAL INSTITUTE OF FOOD RESEARCH

		1989	1990
ASSETS
	Fixed assets	58.74	59.09
	Investments	34.04	33.10
	Loans and advances	3.08	2.44
	Deposits	0.12	0.11
	Income outstanding	2.28	2.50
	Due from students	0.13	0.01
	Cash and bank balance	1.61	2.74
		100.00	100.00
FUNDS AND LIABILITIES
	Earmarked funds	84.67	84.98
	Grants from international agencies	5.10	4.66
	Liabilities for expenses and other items	1.81	0.82
	Deposits and sundry credit balances	8.36	9.48
	Income and expenditure account	0.06	0.05
		100.00	100.00

Notes: All figures are percentages of total. Figures are derived from the balance sheet shown in Exhibit 2.

EXHIBIT 12
COMMON-SIZED RATIO STATEMENT ILLUSTRATION: NATIONAL INSTITUTE OF FOOD RESEARCH

		1989	1990
EXPENDITURE
Expenses in respect of properties		1.39	1.54
Establishment expenses		49.18	48.85
Supplies, services and contingencies		14.74	12.61
Costs for various courses and workshops arranged
	Post-graduate programmes	5.15	4.96
	Workshops, seminars and training programmes	16.27	18.65
Miscellaneous expenses		1.88	2.34
Other research and consultancy expenses
	Ad hoc research staff salary	9.79	9.46
Other expenses
	Scholarships and fellowships	1.41	1.44
Surplus carried over to balance sheet		0.20	0.17
		100.00	100.00
INCOME
Rent and interest realized		0.82	0.77
Grant from the Ministry of Education		46.08	42.94
Income from other sources
	Post-graduate programmes	5.78	5.39
	Workshops, seminars and training programmes	19.02	22.20
	Consultancy and research projects	15.57	15.18
	Scholarships and fellowships from various agencies	1.12	0.98
	Miscellaneous receipts	5.92	6.88
	Grant for specific research project	2.78	2.70
Transfer from reserves		2.90	2.94
		100.00	100.00

Notes: All figures are expressed as a percentage of the total income and expenditure account shown in Exhibit 1.

EXHIBIT 13
TIME INDEX OF EXPENSES

EXHIBIT 14
TIME INDEX OF GRANTS RECEIVED

EXHIBIT 15
TIME INDEX OF REAL EXPENSES

EXHIBIT 16
INDEX OF LEVEL OF ACHIEVEMENT OF PLANS

EXHIBIT 17
COEFFICIENT OF EFFECTIVENESS

EXHIBIT 18
RECURRENT-COST RECOVERY COEFFICIENT

Case study :National Institute of Food Research

National Institute of Food Research
Advice to a reluctant director
Dr Ibokone ponders

It was immediately after the farewell party for Dr Ranzon, who the next day was to take over as Deputy Director of the Council for Scientific and Industrial Research (CSIR). He had been Director of the National Institute of Food Research (NIFR) for nearly a decade, and had handed over to Dr Ibokone a few hours earlier. They were together in the Director's office. Outside, it was raining heavily.

National Institute of Food Research

NIFR was established in 1968 by the Government of Nara Visa, to assist the local food industry to improve and diversify its operations. NIFR consequently undertook research into problems of food processing, preservation, storage, marketing and distribution, and advised on food analysis, quality control, product improvement and development.

At the time of establishment of NIFR, heavy capital investment was taking place in many activities in the country, including the construction of fruit and vegetable processing plants, abattoirs, meat and fish processing plants, and enlarging the fishery fleet, cold storage facilities and grain and cocoa stores. NIFR was therefore conceived as a means to help the development of these and related industries, and also as a means of contributing to agricultural productivity.

Products developed by NIFR included instant fufu, wines from local fruits, refined and deodorized shea butter, composite bread and biscuits, corned goat, and ration packs for the Nara Visa army. Other products included smoking ovens, dryers and a cassava grater.

The main source of support for NIFR came from the Department of Food of the Nara Visa Ministry of Agriculture. In the early stages, NIFR received assistance from the United Nations Development Programme (UNDP) through a UNDP/FAO project. Under the project, a coordinated programme of applied research was conducted in storage, processing, preservation and marketing of fruits, with the aim of contributing towards the development of the food industry of the country. Although this project ended in September 1970, some of the activities still continued. NIFR received occasional grants from international agencies, and some support from the local food processing industry.

NIFR also assisted the government in planning and implementing official policy concerning development of the national food industry and increasing agriculture productivity.

Over time, NIFR had developed good linkages with the local food processing industry through consultancy and training services. It had also prepared some feasibility studies. Its research work was disseminated through publications.

NIFR was organized into scientific and administrative divisions: the common pattern for most research institutes at that time. Committees provided the means for research coordination, administration and joint consultation. NIFR was able to attract highly qualified professional staff, who had acquired international recognition for their research work. There were about 65 full-time scientists working for NIFR, supported by administrative staff.

Advice to a reluctant director

Even though Dr Ibokone had been receiving briefings during the last fortnight, after the change of director had been confirmed, he could not resist asking Dr Ranzon, "What do you think is the most crucial thing a director has to do in order to be successful?" The silver-haired scientist, who had over time become a highly appreciated administrator, did not take long to answer: "Do not be a reluctant director. Be in control of things. You must manage your finances as you would manage your scientists, physical facilities, administrative staff, sponsors and users. Do not think your duty is only to generate funds. You have to do, that but that is not enough. You have to somehow stretch the available resources."

Dr Ranzon paused for a minute and, without waiting for a response from Dr Ibokone, continued: "We prepare budgets to get government grants, which come through in due course, although after substantial cuts. The ministry keeps advising us to manage with whatever funds they can provide. They frequently observed that we should generate funds internally by cutting down on some of the activities or through more efficient and effective utilization of resources. In the early years I did not take them seriously, until I realized that there was some wisdom in their remarks. Whenever decisions involved finances, I sought information from the Accounts Officer and relied on that. Often the information given by him was inadequate. The budget exercise was a formality. Budgets were prepared on the anticipated expenditure statements submitted by divisional heads, without much discussion, let alone participation. Many times, particularly towards the end of the financial year, I was confronted, with over-expenditure and empty coffers and so had to postpone several items of expenditure to the next financial year. On several occasions, for want of funds, we had to abandon experiments halfway through. Controls were minimal, and monitoring very little. Over time, I came to realize that budgeting should in fact be an ongoing exercise, and not an annual ritual. Budget can be used as an instrument of control. There has to be an information system capable of giving information on costs and returns on an ongoing basis. Given the uncertainty in delivery of budgetary support from the government, and irregular availability of funds from other sources, it is all the more necessary to manage our finances properly. What we have is basically an accounting system¹, while what we need is a system for financial management. I had planned to set up a financial management system, but, regrettably, I have not been able to do so. If you move in that direction, I will give you all the support from CSIR..."

^1. See Tables 1 and 2 in the Reading note, which are the same as Exhibits 3 and 5 in the Session guide.

Dr Ibokone was listening to Dr Ranzon with rapt attention. The old man was experienced, wise, forthright and, above all, sincere. In many ways, Dr Ranzon was the dean of the scientific community in the country, having first distinguished himself as an outstanding researcher and then as an efficient administrator. Darkness had set in and the rain had stopped. They walked out together through the imposing gate of NIFR.

Dr Ibokone ponders

At his home, Dr Ibokone pondered over Dr Ranzon's remarks. He recalled Dr Ranzon's reference to a 'reluctant director.' That was somewhat true. He had not been very enthusiastic about becoming Director of NIFR. In the usual course of events, the directorship should have gone to the Deputy Director, but that post had been vacant for two years, after the previous incumbent emigrated to the USA. The promotion of Dr Ranzon, although not a surprise, had come a bit sooner than expected. Dr Ibokone was offered the directorship because of his seniority and very strong recommendations from Dr Ranzon. They had been colleagues for over a decade, and respected one another. Dr Ibokone was rather reluctant to accept the offer because he felt that he did not have administrative experience. Besides, he feared that he would be bogged down in administrative work to the extent that the scientist in him would become dormant. He was quite happy with his work, having distinguished himself in the international scientific community. He had published several papers and chaired many international committees. He was known to be a prominent biochemist. In spite of his initial reluctance, Dr Ibokone agreed to become Director, allowing himself to be persuaded by Dr Ranzon and the fact that his wife was also keen that he accept the offer.

Dr Ibokone had no doubt that financial management was at the core of NIFR's management. He resolved to set up a good financial management system in the institute. Even though he may have been reluctant to accept the position, he was not going to be a 'reluctant director.'

Reading note: Financial management 1: Components and information

Basic financial information
Financial management
Financial and cost analysis

Management of resources plays a critical role in the growth and development of an organization. It goes far beyond the mere recording of transactions and preparation of reports. There is much more emphasis on effective and efficient utilization of financial resources and exploring the possibility of generating funds from various sources. The top executive of an organization has also to concerned about the effectiveness of the control system in helping achieve the objectives and directing the organization towards fulfilling its mission.

Basic financial information

Almost all organizations that are accountable to their stakeholders record day-to-day transactions in their account books. In these account books, all transactions are first classified and then summarized. Using the summarized information, the organization develops and prepares financial statements, which help management in measuring the performance of various activities and assessing the financial position of the organization. The statements also draw the attention of management towards those factors which are necessary to maintain the promises of the organization in meeting its objectives.

The two basic financial statements prepared by an organization are the income and expenditure account, and the balance sheet.

Income and expenditure account

The income and expenditure account statement provides information on how the organization has performed during a given period, which is generally one year. The statement summarizes all revenue earned and expenditure incurred during the given period. In deriving these statements, two principles are generally followed:

· accrual assumption, namely matching costs with revenue, and
· provision for depreciation.

Accrual assumption is fundamental to the preparation of an income and expenditure account. The objective is to facilitate the matching of costs with revenue relative to a particular period. This principle assumes increasingly greater importance in modern management, where availability of funds is a major constraint, requiring each organization to get the best possible use out of them. In contrast, the cash basis of accounting is recording only cash inflows and outflows. The transaction is recorded only when cash is involved. If we follow a cash basis of accounting, a meaningful comparison of the operating and financial performance is not possible, particularly in a situation when there are a large number of unpaid bills or a large amount of revenue has not been collected. For example, if the maintenance bills for a period totalled $ 30 000 and the organization has paid only $ 25 000 during the period, in the cash basis of accounting only $ 25 000 would be recorded, while $ 30 000 would be recorded under the accrual system.

As agricultural research institutes become more conscious of the need to prepare and use budgets as control mechanisms, the accrual system assumes more importance. It is very difficult for an organization to effectively use budgets without using the accrual system. A accrual basis also helps management to measure the cost of activities accurately, which is a more correct way of recording expenses.

Depreciation is a means to reflect the actual value of an asset. All organizations use assets to produce goods or services. The value of these assets, except land, is likely to decrease as time passes. Depreciation represents the diminution in the value of fixed assets. The Committee on Terminology of the American Institute of Certified Public Accountants defines depreciation as: "Depreciation accounting is a system of accounting which aims to distribute the cost or other basic value of a tangible capital asset (less salvage value, if any) over the estimated useful life of the asset, in a systematic and rational manner. It is the process of allocation. Depreciation for the year is the portion of the total charge under such system that is allocated for the year."

The systematic and rational manner of distributing the cost of the asset may be done in various ways. One approach is to write off the value of the asset using the following formula:

The cost is the expense incurred in purchasing the asset. It is also the book value of the asset in the year of its purchase. The net book value will continuously decline as the organization charges depreciation each year. The salvage value is what the organization expects to recover by selling the asset at the end of its useful life. The above formula ensures that equal amounts are apportioned over the life of the asset, and is called the 'straight line' method of depreciation. There are other methods of charging depreciation.

Until recently there was some controversy concerning charging depreciation in the books of non-profit organizations, but now depreciation accounting has become a generally accepted accounting principle. By not charging depreciation, management's may be misled into thinking that actual costs were less than what they really are. Depreciation represents the cost of using the asset for producing goods or services. Charging of depreciation is more important where the organization is selling its services to outside agencies, more particularly to the government. In such situations the organization may be required to work out a 'reimbursement formula,' which should certainly take into account depreciation charges. If depreciation is regularly charged in the account books, the organization should have no difficulty in negotiating the formula. Another reason for charging depreciation is to avoid an overstatement of the value of assets in the balance sheet.

The income and expenditure sheets should be prepared on the basis of explicit inclusion of depreciation costs. The basic objective is to charge the cost of a fixed asset over its estimated life. If depreciation is ignored, the costs of providing services are distorted.

To illustrate this, the NIFR income and expenditure accounts for 1992 and 1993 are given as Table 1.

Balance sheet

The balance sheet is considered to be a window on the business, through which one can look inside and obtain significant details about the financial position of the organization. This statement provides information - as of a given date - about assets and liabilities. Assets represent the economic resources which are going to generate future benefits and are possessed by the organization. They could be stored purchasing power (cash), money claims (investment in securities, stocks, etc.) and tangible movable and fixed items (buildings, equipment, machinery, etc.). Liabilities represent capital grants received from government and other agencies and debts payable by the organization on account of purchases and operating expenses. Two basic principles are followed when preparing the balance sheet of the organization:

· a clear distinction is made between capital and revenue expenditure; and

· capital grants are treated as contributions and not income in the year in which they are received.

Capital and revenue items should be distinguished under all circumstances, according to the nature of the transaction. In the absence of this distinction, the surplus or deficit figure in the income and expenditure account is distorted, and the balance sheet will not provide a correct picture of the financial position of the organization.

Capital grants are most often received in order to create specific facilities. They are not repayable and hence the organization does not create any liability for repayment of these amounts. As noted above, these grants are not treated as income in the year in which they are received, because they cannot be classified as revenue receipts. The balance sheet is prepared on the basis of treating these items as deferred liability during the tenure of the project. When the project is complete, the project cost is transferred to the contribution account. This account is similar to owners' funds in a commercial organization.

Table 2 in this case study gives the balance sheet of the organization for two years.

Financial management

The preparation of financial statements is important as they provide insight into operating and financial performance of the organization. However, preparation of these statements is not by itself sufficient for efficient management of financial resources. The finance function is concerned with meeting the organization's obligations. This is analysed by preparing cash flow statements. In addition, the chief executive has to ensure that the organization has made provision for funds needed to meet its recurring expenses and capital or development expenditure. The finance manager has to look beyond the data and information provided in the annual financial statements and must obtain insights into existing or developing problems and the financial consequences of such problems. To effect this requires a systematic approach, and the approach used in financial management in fact defines its components. It is very simple: analyse the financial statements, develop additional data, make decisions based on subsequent analysis, and finally examine whether the results confirm expectations. The four components of this approach are:

· financial and cost analysis,
· planning and budgeting,
· variance analysis and control, and
· project and activity planning.

Table 1 NIFR income and expenditure account for the year ending 31 March 1993

		(in thousands of dollars)
		1992	1993
EXPENDITURE
Expenses in respect of properties
	Maintenance expenses	12.28	14.76
	Municipal tax	3.98	5.48
Establishment expenses
	Salaries and allowances	532.22	599.64
	Consultancy and research/projects	28.68	37.32
	Travelling expenses	7.24	7.64
	Supplies, services and contingencies	170.29	166.39
Expenditure on various courses and workshops arranged
	Post-graduate programme	59.45	65.40
	Workshops and seminars/training programmes	188.00	246.07
Legal expenses		2.18	3.36
Auditing fee		0.53	0.79
Miscellaneous expense
	Publication expenses	6.95	8.83
	Telephone and dispatch	3.24	4.27
	Expenses on development activities	8.52	13.69
Other expenses on research and consultancy
	Ad hoc research staff salary	113.05	124.78
Other expenses
Scholarships and fellowships		16.26	19.02
TOTAL		1 152.82	1317.44
Surplus carried over to balance sheet		2.34	2.25

INCOME
Rent realized		9.24	9.71
Interest realization on loans and advances to staff		0.26	0.73
Grant from the Min. of Education sanctioned in year: Amount received		614.40	694.45
Less: Amount transferred to
	Representing expenditure on non-recurring items	73.69	93,46
	House building advance fund	12.00	12.00
	For purchase of EPABX		15.00
	For purchase of computers	10.00	10.00
		518.71	563.99
Add: Amount transferred on balance unspent during the previous period		13.63	2.34
		532,34	566.33
Income from other sources
	Post-graduate programme	66.78	71.19
	Workshops, seminars and other training programmes	219.83	293.03
	Consultancy and research projects	179.77	200.37
	Scholarship and fellowship money from various agencies	12.93	12.99
	Miscellaneous receipts	68.40	90.82
	Grants for specific research project	32.13	35.68
Transfer from reserves
	Contribution to research project from Ford Foundation grant	2.52	6.40
	Contribution from the Research Fund to meet excess from Min. of Agric.	20.96	32.44
TOTAL		1155.16	1319.69

Table 2 NIFR balance sheet as of 31 March 1993

			(in thousands of dollars)
			1992	1993
ASSETS
Fixed assets
	Land and buildings		1730.21	1797.64
	Furniture, fixture, equipment and vehicles		439.77	558.14
	Books purchased from library fund		57.60	68.23
	Computers, equipment and books		114.62	162.67
	Other fixed assets		21.42	26.12
	Stores at cost		6.45	5.12
Investments
	Long-term fixed deposits		96.61	119.45
	National deposit receipts		17.85	17.85
	Short- & long-term deposits with banks		1246.53	1318.24
Loans and advances
	Loan scholarships		0.86	0.89
	Advances to employees
		- House building	30.75	43.77
		- Other advances	69.76	43.20
Deposits
	Security deposits		3.07	3.33
	Telephone deposits		1.79	1.29
Income outstanding
	Interest		35,99	33.56
	Other income		8.61	25.68
	Grants due from the Ministry of Education		46.41	50.88
Due from students			5.26	0.61
Cash and bank balance			64.21	120.43
			3997.77	4397.10

		(in thousands of dollars)
		1992	1993
FUNDS AND LIABILITIES
Earmarked funds		3385.02	3736.77
	Lands and buildings	2010.73	2144.15
	Academic activities	405.65	461.63
	Student aid	85.06	88.23
	Furniture and equipment	707.03	837.26
	Fund for purchase of EPABX		15.00
	Funds for purchase of computers	72.66	71.64
	Faculty and staff development	103.89	118.86
Grants from international agencies		203.73	204.97
	For building expenditure	113.10	113.10
	Books and computers	81.11	81.16
	Fund for AGRI Journal	9.52	10.71
Liabilities for expenses and other items		72.50	36.25
Deposits and sundry credit balances		310.37	393.05
Income and expenditure account Balance as per last balance sheet		37.44	26.15
Less: Amount transferred to grant from the Ministry of Education in income and expenditure account		13.63	2.34
Add: Surplus as per income and expenditure		2.34	2.25
		3997.77	4397.10

Financial and cost analysis

This component of financial management is related to the transformation of financial data into a form that can be used to obtain insights into developing and existing problems having financial consequences. The objective of the analysis is to examine where was the organization in the past, where is it now, and where it could be in the future. Both financial and qualitative information may prove to be useful in doing this analysis. The analysis may also be used to monitor the financial position of the organization, evaluate the need for additional resources, and determine additional financial requirements. The various parameters considered in an analysis of a financial statement are discussed briefly below.

Sources and applications of funds

The income and expenditure account and the balance sheet provide information about the operations during the year, and the stock of assets and liabilities of the organization. Management would like to have information on the origin and application of these funds, i.e., the various sources of income and which activities or areas have consumed those funds. For this purpose, management prepares a summary called a statement of sources and application of funds. This statement:

· shows the sources and uses of funds, and their movement during the year;

· enables management to identify the sources on which the organization is dependent, and also possible trends in these sources;

· highlights areas which have the potential to generate funds in the future; and

· helps management identify the areas or activities which have been major consumers of funds, and indicates possible control mechanisms.

Table 3 gives the sources and uses of funds statement of NIFR for the year 1992-93.

Details about additions to fixed assets can be obtained from the balance sheet. This detailed information can also be incorporated in the statement of sources and uses of funds. 'Non-plan expenditure' represents funds received from government and other sources to finance recurring costs.

Table 3 NIFR sources and uses of funds

		$ '000s	%
USES
	Additions to fixed assets	247.85	54.58
	Investments	94.55	20.82
	Outstanding grants	19.11	4.21
	Decrease in liabilities	36.25	7.98
	Decrease in surplus carried to the balance sheet	0.09	0.02
	Increase in cash balance	56.22	12.38
		454.07	100.00
SOURCES
	Non-plan expenditure	351.75	77.47
	Grants from international agencies	1.24	0.27
	Other inflows, such as deposits, etc.	82.68	18.21
	Recovery of loans and advances	13.51	2.98
	Recovery of dues from students	4.89	1.08
		454.07	100.00

Cost of service statement

Information about the costs incurred in providing various services rendered is summarized in this statement. It should include all costs incurred by departments. These are called direct costs. The statement will also include all indirect costs which have been incurred by other departments, and which have been apportioned to the department for which the cost statement is being prepared. Cost information may be further classified as salaries and wages, travelling expenses, stores and stationery, etc. The statement helps management to control costs incurred on each activity or service.

Diagnostic indicators

It is very important to develop some key indicators which can be used in drawing inferences about the effective and efficient operational use of resources. These indicators can be expressed in terms of coefficients, ratios or indices. A coefficient is the relationship between different but comparable data; a ratio describes the relation of a part to the whole; and an index is the relation between the actual and planned values of a particular item. It is very difficult to establish norms for measuring the efficiency of agriculture research institutes because they pursue a variety of objectives, and in most situations the output is not really quantifiable. Nevertheless, despite the often intangible nature of agricultural research outputs, there are some indicators that can be used, although with some caution, including:

· common-sized ratio statements;
· time indices of expenses and revenues;
· time indices of real expenses;
· indices of level of achievements of plans; and
· coefficients to analyse operating performance.

Common-sized ratio statements can be prepared by using the income and expenditure and balance sheet statements. All items in these two statements can be expressed as percentages of the total. In the balance sheet, each item is expressed as a percentage of total assets, whereas the income and expenditure items are expressed as percentages of total income or expenditure. The time series behaviour of these percentage values provide important insights into the efficiency of operations and movements of funds. Such insights cannot be derived from a mere review of raw figures. To illustrate this. Tables 4 and 5 provide the NIFR common-sized balance sheet and common-sized income and expenditure account. The common-sized statements have been prepared in summary form. Since all figures are expressed as percentages, they display their relative importance.

Table 4 NIFR common-sized balance sheet

		1992	1993
ASSETS
	Fixed assets	59.28	59.54
	Investments	34.04	33.10
	Loans and advances	2.54	2.00
	Deposits	0.12	0.11
	Income outstanding	2.28	2.50
	Due from students	0.13	0.01
	Cash and bank balance	1.61	2.74
		100.00	100.00
FUNDS AND LIABILITIES
	Earmarked funds	84.67	84.98
	Grants from international agencies	5.10	4.66
	Liabilities for expenses and other items	1.82	0.82
	Deposits and sundry credit balances	7.76	8.94
	Income and expenditure account	0.65	0.59
		100.00	100.00

Notes: All figures are expressed as a percentage of the respective total. For the full balance sheet, see Table 1.

Time indices of expenses and revenues supplement the common-sized ratio statements. The indices are expressions of change with reference to a base year, and can be prepared for different types of expenses, using the formula:

An index can provide important insights into changes in expense items. Improvements or deteriorations can be easily distinguished. The index provides information on the magnitude of absolute changes in expenses, whereas the common-sized statement does not indicate how expenses have been changing over time. This supplemental information can throw light on the efficiency of operations, and uses and applications of finances during the period.

Similarly, other indices can also be prepared. For example, to obtain an index of grants received, the calculation would be:

Indices for revenue and expense items can also be prepared, and often provide a deeper understanding of changes taking place.

Table 5 NIFR common-sized income and expenditure account

		1989	1990
EXPENDITURE
Expenses in respect of properties		1.39	1.54
Establishment expenses		49.18	48.85
Supplies, services and contingencies		14.74	12.61
Costs for various courses and workshops arranged
	Post-graduate programmes	5.15	4.96
	Workshops, seminars and training programmes	16.27	18.65
Miscellaneous expenses		1.88	2.34
Other research and consultancy expenses
	Ad hoc research staff salary	9.79	9.46
Other expenses
	Scholarships and fellowships	1.41	1.44
Surplus carried over to balance sheet		0.20	0.17
		100.00	100.00
INCOME
Rent and interest realized		0.82	0.77
Grant from the Ministry of Education		46.08	42.94
Income from other sources
	Post-graduate programmes	5.78	5.39
	Workshops, seminars and training programmes	19.02	22.20
	Consultancy and research projects	15.57	15.18
	Scholarships and fellowships from various agencies	1.12	0.98
	Miscellaneous receipts	5.92	6.88
	Grant for specific research project	2.78	2.70
Transfer from reserves		2.90	2.94
		100.00	100.00

Notes: All figures are expressed as a percentage of the respective total. Based on Table 1.

Time index of real expenses

Often the indices do not correctly reflect inefficiencies. Because of the overall general trend in prices, the changes do not correctly reflect the controllability of the factors. To distinguish between real changes and nominal changes, we can calculate a separate index for real expenses using the expression:

Index of level of achievements of plans

It is very important for management to assess whether plans have been achieved. For this purpose the following indicator may be used:

Using the above index, management can examine the effectiveness of plans and control expenses. An index value of greater than one would indicate that actual expenses have been more than planned, and hence require control. A similar index can be developed for revenue items, as follows:

Coefficients to Analyse Operating Performance

In order to analyse the operating performance of the organization, development of coefficients by relating different sets of financial data will be useful. To illustrate, information about manpower has significant bearing. It also affects the achievement of the objectives for which the organization has been set up. One coefficient for assessing the effectiveness of manpower is:

This coefficient indicates the degree to which the scientists and staff are supplied with the consumables, supplies, transportation and other inputs (i.e., all expenses Other than salaries and wages) to facilitate their operation. This may also be used to assess any imbalance in current expenditure.

The organization should also monitor how efficient it is at recovering recurrent costs. For this purpose the following coefficient can be used: