2.3

Question 1

What is gross profit?

Calculation?

Answer 1

Total revenue minus variable costs, usually shown as cost of sales.

Gross profit = turnover (total revenue) - variable costs

Question 2

What is operating profit?

Calculation?

Answer 2

Gross profit minus the fixed costs (overheads).

Operating profit = turnover - (fixed + variable costs)

Question 3

What is profit for the year?

Calculation?

Answer 3

The operating profit minus tax plus interest.

It is what is left over after all costs and expensive have been paid for out of the total revenue. It is also the amount of profit that goes to owners of the business who then choose what to do with it.

Profit for the year = turnover - (fixed + variable costs) - (tax + interest)

Question 4

What is the statement of comprehensive income?

Answer 4

It sets out figures for sales revenue and then deducts each different group of costs to arrive at a figure for profit (or loss). It measured the financial performance of the business.

Sometimes referred to as the income statement.

Question 5

Stages of the comprehensive income statement?

Answer 5

Revenue > minus cost of sales
Gross profit > minus operating expenses
Operating profit > minus taxes and interest
Profit for the year

Question 6

What is profitability?

Answer 6

The ability of a business to generate profits from its resources. Profit figures on their own may not help in making comparisons. Profitability relates profit levels to the size of the business.

Question 7

What is a profit margin?

Answer 7

Tells the business what percentage of its turnover is actually profit. It is the ratio of profit to turnover expressed as a percentage.

Question 8

Profit margin calculations?

Answer 8

Profit / turnover x 100 (answer will be %)
Gross profit margin = gross profit x 100 / turnover
Operating profit margin = operating profit x100 / turnover
Profit for the year margin = profit for the year x 100 / turnover

Question 9

Ways to improve profitability?

Answer 9

Price > Could raise it. Depends on PED.
Sales
Costs
Efficiency 
Productivity

Question 10

Difference between cash and profit?

Answer 10

Cash is usually in the form of money or bank deposits, some businesses would also include assets that can be easily converted into money e.g finished products.

Profit is the difference between total sales revenue and total production costs.

Question 11

Reasons for cash problems?

Answer 11

When all upfront costs of a new business must be paid before sales can take place, significant working capital will be required.
Cash flow problems caused by customers delaying payments
Expanding to quickly can leave a business committed to large outgoings before benefits of expanding are realised. This is overtrading.

Question 12

What is over trading?

Answer 12

When a business expands to quickly and tries to engage in more business than the investment in working capital will allow.

Question 13

What is working capital?

Answer 13

Cash that can be used to pay bills and employees.

Question 14

What is liquidity?

Answer 14

The ability of a business to pay its debts. In practical terms this means how much cash the business has and whether there are any other assets that can be easily turned into cash.

Question 15

What is the statement of financial position?

Answer 15

It shows the assets, liabilities and net worth of a business on a given date.

Question 16

What are assets and liabilities?

Answer 16

Assets > all the things that could be of benefit to the organisation. Those that appear on the statement of financial position are the ones that can be given a money value.

Liabilities > include all debts that must be repaid at some time in the future.

Question 17

Key features of a statement of a financial position?

Answer 17

Net assets = total equity (balance sheet must always balance) 
Non-current (fixed) assets
Current assets
Current liabilities 
Net current assets
Net assets
Non-current liabilities 
Shareholders’ equity
Retained earnings

Question 18

What are non-current (fixed) assets?

Answer 18

Assets that will be of lasting value to the business. They include tangible items I.e. land, buildings and intangible items such as brands and patents. Assets are shown at their present value, not the original cost.

Question 19

What are current assets?

Answer 19

Assets that the business has for a short period of time. Inventory (stocks) include inputs and outputs, the latter will be sold and debts will be paid off. So they will quickly be turned into cash.

Question 20

What are current liabilities?

Answer 20

Debts that a business will need to pay within a year and often more promptly. They can include money owed to creditors, tax bills and overdrafts.

Question 21

What are net current assets?

Answer 21

Current assets minus current liabilities. They represent the working capital of the company.

Question 22

What are net assets?

Answer 22

Total assets - total liabilities. Represents the worth or value of the business.

Question 23

What are non-current liabilities?

Answer 23

Long term debts that the business will pay off over several years e.g mortgages.

Question 24

What is shareholders’ equity?

Answer 24

It counts as a liability as does the money put into a business by a sold trader or a partnership. However if the business becomes insolvent shareholders will not get their money back unless every other debt has been repaid

Question 25

What are retained earnings?

Answer 25

Includes retained profits and increases in asset values such as property; count as a liability because they are a source of finance.

Question 26

What does the current ratio show?

Calculation?

Answer 26

Shows the number of times by which liquid assets exceed current liabilities.

Current ratio = current assets/current liabilities

Acceptable current ratios are between 1&3.

Question 27

What does the acid test ratio show?

Calculation?

Answer 27

Shows the same as current ratio but excludes inventory from the list of liquid assets because inventory may not be easy to sell in a crisis.

Acid test ratio = current assets - stock / current liabilities

Question 28

Working capital calculation?

Answer 28

Working capital = current assets - current liabilities

Question 29

Ways to improve liquidity?

Answer 29

Fixed assets - can be sold and replaced by leasing to generate more cash. Assets that are not in use can be sold.

Debtors - persuade consumers to pay promptly. Use suppliers credit to the full. Use a factoring service.

Current assets - inventory can be reduced to the minimum. Selling surplus inventory. Implement a JIT system.

Question 30

Internal causes of business failure?

Answer 30

Financial -
Liquidity
Poor accounting

Non-financial -
Management error
Wrong strategy
Communication
Failed expansion
Poor quality
Lack of investment
Poor marketing

Question 31

External causes of business failure?

Answer 31

Financial -
Exchange rate
Interest rates
Lack of finance
Recession
Financial crisis

Non-financial -
Structural change
Competition
Natural phenomena 
Government regulations
Supplier problems