OSPE - The Voice - Fall 2012 - (Page 32)
WhAT’S 2 + 2? DEPENDS WhO’S ANSWERING!
Why engineers can benefit from understanding the basics of accounting and finance
By Tony Dimnik There are two reasons why you, as an engineer, should know more about accounting and finance. First, it will help you understand the financial logic behind senior management initiatives and policies. If you don’t understand finance, you can easily become frustrated by difficulties in persuading senior management of what should or should not be done. Second, it will make you a better financial manager: every professional activity you undertake has a financial consequence. You can contribute more — and enhance your value — to your organization if you understand those consequences.
As an engineer, you will find fundamentals of accounting and finance easy to learn, if you can overcome the barriers of language and mindset. Just like engineering, finance has its own language: “The CVP analysis shows that we won’t hit break-even until year two, and while the payback is three years, the IRR is higher than the WACC so it’s a go.” What?? Once you understand the language, financial concepts are straightforward. Unlike engineering, the finance mindset requires more assumptions and is less definitive. If you ask engineers “What’s 2+2?” they’ll respond: “To how many significant digits?” If you ask accountants, they’ll respond: “What do you want it to be?” In finance, it is not enough to calculate the “right” answer. You often have to justify your answer by appealing to strategy and to the personal objectives of decision-makers. Following are a few points to know about finance that will help you become more engaged in your organization: cash you receive in the future is worth less than cash that you have in your hand today because of risk (uncertainty of future cash flow), inflation (future cash has less purchasing power) and opportunity (cash today can be invested). When you start a project, you spend today’s dollars with the expectation that the project will make money in the future. To decide whether the project is worth doing, the future dollars have to be discounted for risk, inflation and opportunity. The mechanics of DCF are simple. More difficult is estimating future cash flows and deciding on discount rates. You need to know DCF to understand how your CFO defines “value,” to manage lifecycle costs and to prepare a more persuasive business case. – budgets are used for communicating objectives, setting targets for performance evaluation, planning for resources, coordinating efforts, etc. Budgets are the Swiss
budgeting discounted Cash Flow (dCF) –
Army Knives of management: they do lots of things but most of them not particularly well. Understanding the multiple roles of budgets eases some of the frustrations you might feel about the process.
– a cost object is anything you want to know the cost of. So if you ask, “What is the cost of travelling to a client’s location by car,” the cost object is “car travel to a client.” Direct costs are those that can be traced to a cost object. Indirect costs are those that belong to a cost object but aren’t traced. Indirect costs are allocated to cost objects. The cost of gasoline is a direct cost of a trip to a client. Fleet insurance and maintenance costs are indirect costs. Depending on which costs are allocated and how, you can get dramatically different answers to your questions about costs. As an engineer, you must understand allocations and be prepared to investigate the real costs of decisions.
– external financial statements (for shareholders and banks) are prepared according to Generally Accepted Accounting Principles (GAAP). You should understand how GAAP is used in preparing income, balance sheet and cash flow statements. You can understand corporate strategy much better if you know which GAAP and non-GAAP numbers are most important to senior management.
Tony Dimnik is a professor at the Queen’s School of Business and president of Vednost Inc. He is a respected executive educator and teaches OSPE’s finance programs for engineers. Tony welcomes your questions at Tony@vednost.com.
Recognizing the need for customized financial training for engineers, OSPE has introduced full-day programs focusing on the fundamentals of accounting and finance for engineers. Learn more and register today at www.ospe.on.ca/pd.
3 2 TheVoice Fall 2012
Table of Contents for the Digital Edition of OSPE - The Voice - Fall 2012
OSPE - The Voice - Fall 2012
A Great Day on the Green
Don’t Miss the 65th OPEA Gala
Engaging Tomorrow’s Engineers
The Business End of Engineering
Profile: Pierre Lassonde, P.Eng.
Continuing Professional Development: Mandatory or Not?
PAN Expands Outreach to Ottawa
You’ve just had an auto accident. Now what?
Ask the Expert: Facing a Complaint
Keep Yourself Covered
What’s 2 + 2? Depends Who’s Answering!
Custom-built Learning for Engineers
OSPE - The Voice - Fall 2012