Business Transformation

First Gauging, then Measuring Period Profit

Business team

Gauging is coming across with the truth partly outside science. Who dares to say what the normal percentages of scrap and/or unfit products are to be allowed for in order to calculate the unit-cost of a certain product?

How many normal seconds or minutes to produce an element? Normal quantities and normal prices per unit? One needs a lot of data, most of it has to be brought in from the outside world. Science cannot answer most of these questions. The answers are just input-data in the unit-cost calculation. The calculation itself is the heart of the matter.

That calculation, the scheme, is science. With open places to enter brought in data, values and standards. In this respect there is no difference between unit-cost calculation and profit calculation. In either case several sets of data are necessary to make a start. The crucial question is where to put them in?

Maybe some questions have a more or less objective answer, some data is objective data and therefore an object of science. But the main scientific thing is the scheme, the calculus, the procedures, exactly what and how to calculate? The best formula is one that contains everything and that formula must be user-friendly to work with.

Which normal amount of stock and which normal gearing ratio are valid in a business? What is the normal percentage of unfit products? The answers are mostly outside economics, outside any science. They just have to be found; these parameters happen to be given data. What is generally accepted in the case of unit-cost calculation (it is common knowledge that values and standards have to be brought in from the outside world), seems to be forgotten in the case of profit measurement.

Measuring data. Before one can start measuring period profits, the answers to at least some and mostly a lot of questions must be known. First gauging, then measuring. The problem is not so much measuring, gauging is the main problem in practice. The answers to gauging questions are already given in the case of most exemplary problems in literature; it are the unequivocal data belonging to these problems, often precise numbers. Gauging correctly, well enough, maybe one never knows enough viewed in retrospect.

In profit measurement – in my opinion – one will most likely encounter an ever-expanding set of values and standards. First, they all (i.e. all values and standards representing ‘the state of the art’) must be known, before measuring the one and only true economical period profit.

Van der Schroeff did not yet see that the gearing can be different for each and every asset. Re my free downloadable and putting it strongly, he thought that science, the theory of financing, is not able to answer the question, which asset has been financed with which liability? Indeed, the question cannot be answered by that theory. The answers to most gauging questions have to come from elsewhere. System-Van der Schroeff takes for granted that the situation at the beginning (such a situation can be just by accident) is normal, and raises a pro rata gearing for all the assets straight away to a standard too.

Whittington’s introduction to the debate [Whittington, 1989, the introduction to the debate nor the debate itself emerged in the solution. Whittington confines himself to financial accounting], which is written all over around old Fred’s street trade, neglects for instance interest on loans. A complete gauging, interest on loans, income tax, whatsoever, it all should be taken into account. To be able to draw up the true period accounts, justice should be done to the whole reality, also in the case of a simple street trade.

To maintain the purchasing power of the standard, NORMAL equity is also to be taken care of, the equity at stake must cope with the (general) inflation, normally for a series of consecutive periods in time or all through the different parts of a particular time period. Also this is a matter of gauging. The proof should be given for each and every profit figure together with (if required) a proven specification. No figures can be taken seriously without proof.

It is easy enough to take some randomly chosen figures and then to manipulate them as long as necessary using all kinds of numerical techniques to get one or other desired outcome. Such techniques must be distinguished from proper calculations. Calculations ought to have outcomes that are incontestable. Numerical techniques are used in the process of selling decisions while thorough calculations result in conclusions, regardless of how welcome they might be.

“HC (Historical Cost-accounting) is readily documented by means of invoices and similar records, and it arises naturally out of the process of recording the physical transactions of the business and controlling the amounts of goods and services under the firm’s ownership. This is a central theme in Ijiri’s classic defence of HC (Ijiri, 1971) (Whittington, 1989, p. 41).

Each and every selling activity as well as purchasing activity, expressed in amounts of goods and services at HC-prices at the dates they actually occurred, has been recorded of course. CASH = Total sales -/- Total purchases [CASH is the first term in The Profit Formula®]. It is easy to verify, both totals (amounts of stock as well as liquidities, trade debtors and trade creditors) and each transaction in detail. It all ends up in CASH and up to here they all are HC-values. In order to check day-to-day operations it is all there. The benefits of HC-accounting are preserved by The Profit Formula®.

The Profit Formula® encompasses everything, working with this formula remains in all cases relatively simple, and it all ends up in a proven outcome. Necessary for many managers in companies to improve their own performance.

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Jan Jacobs

Jan Jacobs

Independent Researcher Business Economics
Jan Jacobs, an independent researcher in the field of business economics and author of The Profit Formula®: The Way to Easy Profit Measurement. I have more than 20 years of experience as a lecturer in business economics in higher day education and also in evening education for adults at SWOT (Stichting Wetenschappelijke Opleidingen Twente).

As a subject teacher, I have always been critical of what was in many Business Economics textbooks. I am the author of The Profit Formula®: The Way to Easy Profit Measurement, Budgetary Control: Scientific Perfection Business Economics, and Banking World Finance Credit Crises: Tips, Facts and Editorials about what happened and what needs to be done.

Jan Jacobs is an opinion columnist for the CEOWORLD magazine. You can follow him on LinkedIn, Amazon, and JBAdatabank.