Finance (Mr Gibbins)

Question 1

Overdraft

Answer 1

Short term and flexible source of finance with high interest.

Question 2

Name a benefit of an overdraft.

Answer 2

• Relatively easy to arrange.
• Flexible.
• Interest (only paid on amount borrowed)

Question 3

Name a drawback of overdrafts.

Answer 3

• Can be withdrawn at short notice.
• Interest charge varies.
• Higher interest rates than a bank loan.

Question 4

Factoring

Answer 4

A way a business can raise cash by selling their sales invoices to a third party at a discount.

Question 5

Name a benefit of factoring.

Answer 5

• Receivables are turned into cash quickly.
• Business can focus on selling rather than collecting debts.

Question 6

Name a drawback of factoring.

Answer 6

• Quite a high cost.
• Customers may feel their relationship with the business has changed.

Question 7

Trade Credit

Answer 7

Amounts owed to suppliers for goods/services supplied on credit and not yet paid for.

Question 8

Benefit of trade credit.

Answer 8

• Effectively ‘free’ finance.
• Flexible.
• Commonly available and expected.

Question 9

Drawback of trade credit.

Answer 9

• Wrong to abuse supplier goodwill.
• Costs of non-payment.

Question 10

Bank Loan

Answer 10

Loan provided over a fixed period.

Question 11

Benefit of bank loans.

Answer 11

• Greater certainty of funding.
• Lower interest rate than overdraft.

Question 12

Drawback of bank loans.

Answer 12

• Requires security.
• Harder to set up.
• Interest paid on full amount outstanding.

Question 13

Leasing

Answer 13

A form of renting an asset; beneficial use of it without owning it.

Question 14

Benefit of leasing.

Answer 14

• Predictable cash flows.
• Asset owner carries the risk.
• Lower interest rate than bank loan.
• Widely available.

Question 15

Drawback of leasing.

Answer 15

• More expensive than buying asset outright?
• Do not own asset.
• May be difficult to cancel.
• May need a deposit.

Question 16

Retained Profits

Answer 16

Earned from profitable trading.

Question 17

Benefit of retained profit.

Answer 17

• Flexible
• business owners in control
• low cost.

Question 18

Drawback of retained profits.

Answer 18

• A drain on finance if loss making.
• Danger of hoarding profits.

Question 19

Debt

Answer 19

Finance provided through external parties.

Question 20

Equity

Answer 20

Amount of finance by business owner.

Question 21

Accounting

Answer 21

A process of control on the expenditure of a business and is a vehicle for the publication of figures for profit, value and cash.

Question 22

Fixed costs (Indirect costs)

Answer 22

Do not change in relation to output.

Question 23

Variable Costs (Direct costs)

Answer 23

Costs which change as output varies.

Question 24

Contribution

Answer 24

What a business needs to achieve from selling products in order to first cover its fixed costs and thereafter make a profit.

Question 25

Total contribution equation

Answer 25

Revenue - total variable costs.

Question 26

Break-even

Answer 26

The profit at which cost and income are equal and there is neither profit or loss.

Question 27

Strength of breakeven

Answer 27

• Helps to gain finance.
• Identifies margin of safety, used to forecast.
• Calculations quick and easy.

Question 28

Limitation of break even

Answer 28

• Unrealistic assumptions (different prices)
• Variable costs do not always stay the same.
• Most businesses sell more than one product so hard to calculate.

Question 29

Investment Appraisal

Answer 29

The process of analysing whether investment projects are worthwhile.

Question 30

Benefit of Payback periods

Answer 30

• Simple and easy to calculate
• Focuses on cash flows
• Straight forward to competing markets.

Question 31

Drawback of payback periods

Answer 31

• ignores cash flows after payback has been reached.
• ignores qualitative aspects of a decision.

Question 32

ARR equation

Answer 32

Average annual return / investment

Question 33

Advantage of average rate of return (ARR)

Answer 33

• looks at whole profitability of a product
• can be compared with a target return.

Question 34

Disadvantage of average rate of return (ARR)

Answer 34

• does not take into account cash flows.
• no account of the time value of money.