Stuart Theobald @rationalhill Feb 7
“VAT is increased in PERCENTAGE POINTS, not in percent. Please don't talk about a 1% increase in VAT when you mean a one percentage point increase. An increase of VAT by 1% would move it from 14% to 14.14%, which is not what you mean.”
Of course he’s absolutely correct. An Increase of VAT from 14% to 15% would amount to an increase in VAT of 7.14%
When I was studying Accounts 1 the lecturer spent five minutes explaining the difference between mark-ups and mark-downs. Essentially it was to explain that if you have a cost of R100 and you mark it up by 25% you then have selling price of R125. According to him it was important to remember that your percentage margin was 20% of the selling price. He also gave additional examples with mark-ups of 50 and 100%. I remember him saying, “You lot in the retail sector must never forget this”. As I was studying part time while working, there were people from all sectors in the class. I did wonder about the relevance of this to me as at the time I was an extremely small cog in the accounts department of a large listed company.
Only many years later, in early 1980, did I discover the significance of this across virtually all types of business.
Within weeks of starting work as an accountant at a small subsidiary of a listed company (it was engaged in engineering related to construction) I was horrified by an incident that took place.
One morning the marketing director mentioned to me that he was going to see a client with a quotation for a large contract. The estimated cost of the work to be done was around R100,000 and he had added a margin of 30% which brought the selling price to R130,000. To put R130,000 into perspective you could then buy five BMW 535i cars for that amount.
I bumped into him later today and he told me that he had got the order. “That’s great”, I said. He then he told me that he had given a discount. An uneasy feeling crept over me. I asked him what the discount was and he told me 25%. I told him that it meant that our selling price was below our estimated cost. He then said, “No Mel, remember we added 30% so we’ll still make 5%, and they told me that they would make this up on future contracts they would give us. It’s just they are on a tight budget with this one”
I returned to my office and wrote him a strongly worded memo explaining that R130,000 minus 25% was R97,500 i.e. below our estimated cost. At the time I wondered how often this had been done before.
If you have managers who have discretion in pricing and/or giving discounts, please ensure that they are familiar with this arithmetic.
This is this is the reason I spend a short time explaining this on my Finance for Non-Financial Managers workshops. While not exactly ‘Finance’ it is really important.