PRACTICE ECONOMICS…1

Ms Rosmin Bt Iqbal Hussain

BOptom (UKM), CMBA (UNIMAS)

Introduction• Hi! Today I am

going to teach you about economics of practice.

• We shall learn accountings & finance of a business practice

EntrepreneurI saw my friend Cole walking down the

street. “How are you today?”, I asked Cole.

• “I am fantastic! I just thought of a new idea: a bowling ball that expands as you throw it so that it is guaranteed to knock down every pin! I am going to be famous!”

What is an entrepreneur?

• Cole is an entrepreneur. An entrepreneur is a person who comes up with a product or service, or a better way to produce one / provide one

• He found the resources, the money, and the time to produce a new product / service

Specialization

• Adam Smith and the “division of labor”

• Don’t try to do everything!– It’s more costly and less efficient

• Focus your prime target on producing only a few specialist goods / services– It lowers costs and increases efficiency

Specialization…cont• The practice owner counted on others to do the

necessary work of sales & “job completion”, but then he would examine the customers himself & conduct the eye examination entrance test as a bonus to customers

Specialization is when an individual or a company specializes in doing one part of a task, and relies on others to complete the other parts

Profits

Total Profits = T Revenues – T Costs

• What Revenues?

• What are Costs?

Revenue• Total Sales = Revenue

Revenue = cost of goods sold + mark-up

Revenue = price of perunit good sold x total units

P x Q

Goods = tangible goods / intangible (services)

Costs• Opportunity costs• Fixed Cost• Variable cost• Product Cost• Period Cost• Unit Cost

Total cost TC = VC + FC

Opportunity Costs• Opportunity cost is the

process of choosing one good or service over another

• The item that you don’t pick is the opportunity cost – The spectacles is Sara’s

opportunity cost – The edging machine is

Andy’s opportunity cost

Opportunity Costs

Rm170

Rm240: color CL

Purchases

Rm240

Questions• What is your

opportunity cost when you start an optometry practice?

• Capital = cud be used for direct investments / FDI

• Time & energy = to work as an employee & enjoy

• Anything else??

Opportunity Cost & Comparative Advantage

• Compares producers of a good / services according to their opportunity cost– Whatever must be given up to obtain some item

• The producer who has the smaller opportunity cost of producing a good / service is said to have a comparative advantage in producing that good / service

• Specialize in producing the goods /service for which you have the lowest opportunity cost

Question

• What are your comparative advantages you can think that you could have for your practice?– Services…– Goods…

Profit & Loss Accts

Product Costs• Costs that “attach” to the units that are produced (i.e.,

manufacturing costs) and are not reported expenses until the goods are sold – Direct costs– Indirect costs

• Cost Assignment – Direct costs are traced to a cost object – Indirect costs are allocated or assigned to a cost object

• Both direct & indirect costs can be either fixed or variable

Product Costs…cont• Direct Costs

– Costs that can be traced to a given cost object (product, department, etc.) in an economically feasible way

• Salary of direct labor of production• Employee benefits of direct labor of production• Consultant fees of production• Travel • Materials • Supplies • Equipment of direct production

– Which is fixed & which ones are variable cost?

Product Costs…cont• Indirect Costs

– Costs that cannot be traced to a given cost object in an economically feasible way. These costs are also known as “overhead”. Not associated with a particular operation

• QA• Design services• Allocation for R&D• Costs related to ongoing professional training of staff• Rental• Depreciation• Utilities bill & communication costs

– Which is fixed & which ones are variable cost?

Direct Cost A

Direct Cost B

Indirect Cost C

Product A Product B

Product Costs…cont

Traditional Costing System

Fixed & Variable Costs• Fixed Cost : are those that are spent and cannot be

changed in the period of time under consideration– Costs that do not vary with the level of output– Usually refers to a short-run term– E.g: rent, rates (interest & tax), salaries, insurance

• Variable Cost– Costs that vary with the level of output – E.g. labor (overtime, commission), bonuses, materials

Period Costs

• Costs that must be charged against income in the period incurred and cannot be inventoried – E.g.: selling and administrative expense,

tel, water electricity, postage, interest

Relationships of Types of Costs

Direct

Indirect

Variable Fixed

Total Cost

Total cost TC = VC + FC

Unit Cost

Total cost of units divided by units produced

Break-Even Analysis• R(X) - VC(X) - FC = P, • where R = revenue (selling price ) per unit; X

= number of units• sold or to be sold; R(X) = total revenue; FC =

fixed costs; VC = variable cost per unit;• VC(X) = total variable costs; P = profit• n BEP in units = X = FC /(R-VC) • n BEP in dollars = FC/ (1- VC%)

ACCOUNTS

1. TRADING PROFIT & LOSS ACCTS

2. BALANCE SHEET

TRADING PROFIT &

LOSS ACCOUNTS

Purpose of Accounts

Purpose of Accounts• Provide information for stakeholders –

customers, shareholders, suppliers, etc.• Provides the opportunity for the business to

monitor its own activities• Provides transparency to enable

the firm to attract investment• Reduces the chance for fraud –

not 100% successful!!– E.g ENRON!

Profit / Loss• Profit

– The supplier made profit when selling the Slit lamp for Rm2500

– The cost of the Slit lamp: e. g. Rm1000

• Loss– The optical practise

made a loss when he sold the contact lenses because it was a clearing off stock sales:

Buy 1, Free 1

T Profit & Loss Accts

T Profit & Loss Account

Tr Profit & Loss Account

• A T Profit and Loss Account shows the following information for a business over a period of time (norm. one yr)– Sales Revenue earned by the business– Costs of Production that the business has

paid– Profit earned by the business

Profit and Loss Account - Flow

Profit and Loss Account

• Shows the flow of sales and costs over a period

• Shows the level of profit or loss made

• Shows what has been done with the profit or loss

Trading Profit & Loss Account For the Year Ended (date)

Sales

Less Sales Return / Return Inward

Less Cost of Goods Sold

X

X

X

= Gross Profit x

Add Other Revenue / Income X

Less Expenses / Overheads x

= Net Profit / Loss x

Debit Credit

Calculating Cost Of Goods SoldPurchases (Product costs: cash/cdt) X

+ Opening Stock (Goods oredi a/v for sale; finished goods)

X

- Purchase Return / Return outward (including carriage inward, custom duty, stamp duty)

X

- Closing Stock (finished goods) X

= Cost of Goods Sold X

(Purchases + Opening Stock) - Closing Stock of goods left - Purchase Return = CoGS (the goods that were actually sold)

Other Revenues / IncomesA sum of all of these:

• Interest received• Dividend received• Rent received• Discount received• Commission received• Provision for doubtful debts (overprovided)• Gains of sales from fixed asset sales

Income (Sales) Sources For Optometric Practice

1. Merchandise:• Spectacle frames• Spectacle lenses• Accessories

2. Professional services:• Eye examinations• Contact lens services• Shared care & co-management services• Other professional services e.g. LV, BV, ….• Subscription schemes

Expenses / Overheads / Operational Expenses

• Carriage outward• Telephone, water, electricity

(inclusive: accrual expenses + actual amt paid)

• Advertising • Commission paid• Depreciation• Discount allowed• Bad debts• Interest

• Rate & rent• Repair & maintenance• Postage• Stationeries• Salaries & wages• General Expenses• Insurance• Provision for doubtful debt

(under provided)• etc

Also known as Normal Product Costs. A sum of all these:

Accrual = amt pending

Profit & Loss Account

Sales Revenue 70,000

-Cost of Goods Sold 20,000

= Gross Profit 50,000

- Expenses: Wages 30,000

Marketing 5,000

Accountant 1,000

Loan Interest 4,000

= Total Expenses 40,000

= Net Profit 10,000

Debit Credit

BREAK

EXTRA NOTES

• All costs which are eventually allocated to products are classified as either…

1 Direct materials,

2 Direct labor, or

3 Indirect manufacturing

Direct Material Costs...– Include the acquisition costs of all materials

that are physically identified as a part of the manufactured goods and that may be traced to the manufactured goods in an economically feasible way

Direct Labor Costs...– Include the wages of all labor that can

be traced specifically and exclusively to the manufactured goods in an economically feasible way

Indirect Manufacturing Costs...

• Or factory overhead, include all costs associated with the manufacturing process that cannot be traced to the manufactured goods in an economically feasible way

manufactured = edging / completing a product

Product Costs...– Are costs identified with goods

produced or purchased for resale• Product costs are initially identified as

part of the inventory on hand• These costs, inventoriable costs,

become expenses (in the form of cost of goods sold) only when the inventory is sold

refers to “raw materials”/ supplies

Period Costs...– Are costs that are deducted as

expenses during the current period without going through an inventory stage