Financial Management and Cost Control
This domain tests whether you can read a firm's financial position, manage working capital, budget, and control project cost using variances rather than intuition.
Core rules and concepts
- Accrual accounting records revenue when earned and cost when incurred; cash flow records movement of money. A profitable firm can still fail from a cash gap, especially with retentions and slow interim certificates.
- Ratio families: liquidity (current, quick), gearing (debt to equity, interest cover), profitability (gross and net margin, ROCE) and efficiency (receivable days, asset turnover). Ratios need a comparator: prior year, budget or sector.
- Budgeting may be incremental or zero-based. Zero-based forces justification of each activity and suits overhead review.
- Capital appraisal: payback ignores the time value of money; NPV discounts incremental cash flows at the cost of capital and gives a direct value answer; IRR is the discount rate at which NPV is zero.
- Project cost control compares budget, committed and actual cost. Earned value adds schedule context through CPI (earned/actual cost) and SPI (earned/planned value).
Worked example
Concrete budget: 1,000 m3 at LKR 25,000/m3 = LKR 25.0 million. Actual: 1,050 m3 at LKR 26,000/m3 = LKR 27.3 million. Total variance LKR 2.3 million adverse. Split it: price variance = (26,000 - 25,000) x 1,050 = LKR 1.05 million adverse; usage variance = (1,050 - 1,000) x 25,000 = LKR 1.25 million adverse. The two sum to the total, confirming the arithmetic. The price element belongs to procurement, the usage element to site production, so each is investigated by a different manager.
Traps that cost marks
Equating profit with cash; discounting accounting profit instead of incremental cash flows; calling a favourable variance good without checking volume; treating contingency as budget to be spent; and reporting a total variance without splitting it into price and quantity.