Finance Flashcards
Unit 2 (12 cards)
Analyse a statement of financial position (aka balance sheet)
Analysis of a statement of financial position includes assessing each figure in the statement to identify where improvements could be made.
Analysing an extract: You might be shown an extract from an income statement (profit and loss account), or a statement of financial position (Balance sheet). If expected to analyse, look at the figures shown and consider what this means for the business. Ensure you know what these figures mean.
Marianne’s statement of financial position (Balance Sheet) - Features:
Stock = Too much, sell it off, too little purchase some more
Trade recievables = If too high, collect payments from debtors
Cash = If too low, chase up debts, or sell off slow moving stock
Trade payables = If debts to suppliers arre high, might stop providing goods
Overdraft = Banks charge for this, ‘pay off’ as soon as posible
Working Capital = This needs to be enough to run the business.
Cashflow
The purpose is to predict as well as “estimate” the future inflows and outflows of cash for a business. It allows the owner to expect any potential cash flow problems beforehand, in hindsight, enabling for proactive measures to be taken. By understnding the timin and cash amount coming in and out (Inflow and Outflow,+51) the business can make “informed decisions” to manage their finances effectively, and manitain “positive cash flow” (+50 for the purpose)
Sources of cash coming into a business (+50 cash inflows, outflows)
Sales revenue from the sale of products or services, Intrest or dividends received, Procedds from the sales of assets; or investments. Loans or investmeents from external sources. Rental income from leasing out property or wquipment.(Just to name a few>: Inflows)
Cash leaving the buiness could come from different sources e.g. Payment for raw materials, Wages, Rent, Loan, Repayments, Taxes and Investments. The destinations of cash leaving the business might include: Suppliers, Employeers, Lenders, Landlords, Governmnt entitites, Owners, Shareholders, and Investement in assets. The sources specifically and destinations of cash could change based on the business and its operations.
The timings of inflows and outflows: Cash inflows and outflows could change based on a business’ operations. Inflows come when customers pay for goods/soervices; receive loans, or earn investment income. Outflows occur when a businesss pays for expenses like mateirals, wages, rent, loans as well as taxes. Factors such as: payment terms, and billing cycles could impact the timing of these flows. Managing and tracking cash flow timing is important for smoooth operations and positive cash flow. (+52/53)
(+52) The benefits of a cash flow forecast in business planning are: Identifying cash shortages, proactive decision making, setting realistic goals, resource distrubution, and securing financing. Risks of not compleeting a foecast include: missed payments, incapability to plan for growth, diffuculty managing ‘working capital’, limited response to market changes, and reliance on short-term loans.
(+52) Disadvantages of cashflow forecasting: Inaccuracy because of unforeseen events, time consuming nature, lack of flexibility, overreliance, as well as complexity. But it remains a valuable tool for businesses to efffectively manage and plan out their finances.
+To make a cashflow forecast:
Start with ‘opening cash balnace’
Add cash inflows (E.g. Sales revenue, Loans)
Subtract cash outflows (E.g. Expenses, Taxes)
Resulting in ‘Net cash flow’
Calculation ‘closing cash balance’ = Net cash flow + Opening balance
Repat for each period in the cash flow forecast
Enabling us to track expected cash inflows and cash outflows, track net cash flow and plan for the business’ cash position
Understanding a business’ finnces depend on cash flow information is key to assess their financial health and spotting “potential” issues. By analysing the cashflow “statement” you can get insights in the business’ ability to generate cash; manage expenses, andmeet financial “obligations”. Possible issues which could be identified by cash flow analysis incoperate: negative cash flow, irregular cash flow, and cashflow timing mismatches. Solutions to these issues might include: improve cash collection processes, managing expenses, cash flow forecasting as well as securing additional financing. Regular tracking of cash flow and proactive management might support address the following issues and ennsure the business keeps their healthy ‘financial position’.
Assets and liabilities:
Fixed assets = Items that the business keeps to trade e.g. van or computer; “here to stay”
Current assets = Items which are changing with “every transaction” e.g. stock, cash in the bank. Current assets could be converted into cash quickly, if necessary.
Long term liabilities = Loans included, could be repaid over a long time period.
Current liabilties = Money must be paid back within a year, e.g. to suppliers and a bank ‘overdraft’
Understanding and complete a statement of financial position (balance sheet) with the givn figures
Assets = Items a business “purchases” normally lasting a long time, e.g. a computer or a van or money which is “owed back”, pay back.
Liabilties = x amount of money which the business “owes”
Capital =
-Internal sources: Depreciation, Sale of assets
-External sources: Equity financing, trade credit
Businesses must evaluate the options to identify the best fit.
Balance Sheet (Statement of Financial Position)
The purpose: A balance sheet “a financial statement” showing a business: ‘assets, liabilites, and owner’s equity at a specific time’. It has to key sections: Assets (Resources the business owners), and Liabilities and Owners equity (Debts and Investments). The balance sheet formula: Assets = Liabiliteis + Owner’s Equity. It supports evaluae the business’ financial health and solvency (+57). Furthermore, gives a “snapshot” of their financial position at a speicfic point in time, and enables for analysis of changes overtime. It supports assess solvency and net worth.
Liquidity ratios:
These are financial ratios used to measure the business’ capaibility to meet their short term obligations. There are 2 types: The current ratio, and the quick ratio.
Current ratio = Current Assets/Current Liabilties. Used to measure the company’s capability to pay off their short term liabilities with their short term assets. A current ratio above 1 shows the company has more ccurent assets than current liabilites, generally thought as “favourable”
The quick ratio, called ‘acid test’ ratio is a more ____ measure of liquidty. It excludes ‘inventroy’ from current assrts as inventroy might not be easily changed into cash. The quick ratio is calculated by dividing the sum of cash, marketable securities and accounts recivable by current libabilties. A ‘quick’ ratio above 1 shows the company could meet its short term obligations without relying on the ‘sale of inventory’. Understanding these liquidity ratios could help assess a company’s ability to maintain short term financial obligations and gain insights in its financial health.
Understand and complete an income statement (profit and loss account)
Trading account = (xxxx)
Gross profit = revenue – cost of sales
Expenses/Overheads (Bottom section) =
Related money: (xxxx)
Net profit = gross profit – expenditure
The purpose and format of a balance sheet (Statement of Financial Position)
Purpose = Show a company’s assets, laibitlies and shareholder’s equity at a specific period in time. Support shareholder’s understand: The financial position of the business, liquidity, solvency and capital structures. It is crucial for making informed decisions about the business’ operations, investments and financial statergies.
Format = Divided in to main sections: he left represnting company’s assets, the right hand side shwos the liabilties and shareholders’ equity.
Identify ways in which a business can make profit.
Two main ways of doing this:
-Increase income
-Reduce expenditure
Income could be increase e.g. selling more produts, increasing the selling price of products, increasing the product profortlio (Range of products) sold and encourage customers to pay bills on time or earlier.
Exepnditrue could be reduced e.g. negotiation a better price for mateirals and utilities, looking for cheap materials to use, reduce staff levels, moving to cheaper premises, running machiens more quickly to sped up production and suppliers for as long as possible.
Analyse financial statements and suggest actions to take
In order to properly analyse financial statements and suggest actions, it is key to have access to specific financial statements, understanding the business’ context (Behind the scenes, any facts or statements which are known). A general framework for analysis of financial statements, and identify potential actions:
- Review the income statement: Assess the profitability, and spot any significant changes in revenue, expenses or net profit. If they are always making profits, it would be a good sign. If there are losses, you might need to know the reasons behind them.
Examine the balance sheet to “evaluate” the company’s liquidity, solvency, and financial psotion. Identify the levels of assets/liabilities/equity and the curent + long term ratios. Spot any areas of concern, e.g. high debt levels or insufficient working capitsal.
Calculate and analyse key financial ratios .g. liquidity, profitability and efficiency rastios. These give insights in the company’s performance, efficiency as well as ability to emet their finacial obligiations. Comparing the ratios to industry benchmarks or historical data to spot areas for improvement.
Spot trends and patterns in the financial statements ovetime. Spot any significatn changes or anolies which might need further investigations. Considering factors e.g. economic conditions or changes in the industry
Based on the analysis, suggest actions which align with the identified ‘strengths’ and ‘weakness’es’ or the business e.. if liquidity ratios or decreaed, the business might have to explore options for improving cash flow e.g. negotiation of better payment terms with supplirs.
Financial statmenets is a tricky process – key to consider the specific situations and goals the business wants to achieve. Meeting with a financial professional or accountant could provide valauble insihgts and guidance tailored to your situation.
Budgeting/Budgetary control
Budgeting: The concept of budgeting is to set planned limits for both expenditure and revenue. By doing this, a business can ensure that its expenditure doesn’t exceed its revenue, hence enabling it to make a porofit. Budgeting enables for better financial planning as well as control, supporting businesses to distrubute resources effectively and identify areas where adjustments might be needed.
In terms of the purpose of budgeting for setting expenditure, is to establish a “planned limit or target for the amount of money the business intends to spend on various expenses”. By making an expenditue budget, the business might track their spending, prioritise expenses, making informed decisions to control costing and avoid overspending. It provides a framework for financial displine and helps the business to distrubute resources effectively.
In terms of the purpose of budgeting for setting revenue, is to “establish a planned target or goal for the amoutn of money the business”wants to generate from other sources or from sales. By making a revenue budget, the business could set expectations, track progress, and make stratetgic decisions to increase sales, and “maximize” revnue. It provides a “benchmark” for performance evaluation, and supports the business identify areas for growth, as well as development.
Budgeting is the fiancial plan making which sets revenue as well as expenditure targets. Bugetrary control however, is the tracking and comparison of results in reality to the budget. Budgeting is the planning stag, whilst bugetary control is the ongoing tracking and adjustment of financial peformance.
Ratios - Liquidity etc.
Two types of ratios:
Current ratio: Compares a businesse’s current assets compared to their current liabilities. This is calculated by:
Current Assets/Current Liabilities
A higher current ratio shows better ‘liquidity’
The quick ratio called ‘acid’ test ratio, is more ‘extreme’ measure of liquidity. It removes ‘inventory’ from current assets as inventory might not be easily changed into cash. The quick ratio is calculated by
Quick Assets (Current Assets minus inventory)/Current Liabilities
Making a profit
Cost of sales
Gross profit
Calculation of gross profit
Positive and negative gross profit on businessses
Net profit
Calculation of net profit
Income Statement (profit and loss accoutn)
The purpose
Known as ‘Profit and Loss’ account, shows the performance financially of a business over a specfic point in time, normaly a month, quarter or year. Provides information on: revenues, expenses, and net income (Or net loss) made by the company during that time. This helps stakholders for example investors, creditros, and management to evalutae the profitability and financial health of the business.
The figures (Understanding)
Typically includes: revenues, expenses as well as net income (or net loss) where:
Revenue = Total money amount earnt from the sales of goods or services, which include sales revenue, fees earned or other income made by the company’s primary operations
Expenses = Costs incurred by the business to make revenue, which may include: Costs of goods sold, Operating expenses (Rent, Utilities etc.), inrest expenses and taxes.
Net income (Or net loss) is the end figure on the ‘income statement’ and represents the business’ profit or loss after all revenues and expenses taken into account
Trading account
Revenue (Turover) = Total amount of money made from he goods sold, or services, which is the primary source of income for the business
Cost of Sales = Cost of goods sold, representing direct costs to do with making or aquiring goods which were sold during a specific period, which include; the cost of raw materials, direct labor or other expenses directly connectwd to the production or acquisitoion of he goods.
Amount of gross profit = Revenue – Costs of sales, where this represents the profit made from the key operations of a business before taking other expenses into account
Expenses/Oveheads (The botttom)
Expenses = Overheads are to do with the costs incurred by the business which aren’t directly connected to he goods or services profuction include :Rent, marketing expenses, utilities, etcetra.
Net profit = Net income or net earnings: The finaal figure on the profit and loss alcualted: Subtract all expenses (Cost of sales, + Overheds) from te gross profit. Representig the overall proftiability of the business after the expenses which have been considered into account.
Profitability ratios
These are fnancial calculations used to evaluate a company’s ability to make profit relative to their revenue, assets or equity. Common include: Gross profit margin, Operating profit margin, Net profit margin. These support the effiecney and porfitbaility of a business’ operations.
Gross profit margin =
Net profit margin =
How businesses make a profit
How businesses make money (Generate Revenue)
Sources of Revenue for a business
Calculate revenue (Revenue, not given in the assessment)
Revenue calculation =
Understand how busineses have to spend money (Expenditure) in order to suceed
Investement in product development: Must invest in reseach and development – creating innovative and competitve products or services.This enables them to “meet customer needs|”, stay ahead of compeitors and keep relevance in the marketing.
Marketing and Advertising: Spend on marketing and advertising is important for businesses to promote their products or services, build brand awaeness, attracting customers and make sales. Effective marketing methods support businesses reach out to their target audience and stand out from competitors. High level of competitivity, competitors and they are the threats of a business in terms of the ‘SWOT’analysis.
Employee saleries and training: Hiring and keeping skilled employeers is key for business success. Giving funds for compettive benefits,saleries and trainign programms support attract talented individuals who contribue to the growth and productivity of the business.
Operational costs: Businesses have ongoing costs such as rent, insurance, office supplies. Allocating funds to cover for these expenses ensures smooth day to day operstions and provides a working environent
Technology and infrestucture: Invest in echnology and intfestucture is essential for businesses to stay competitive and improve effieicney. Including software, IT systems and infustructure upgrades to enhance streamline processes and productivity.
Customer Service and Support
By managing carefully and distrubuting their expenditeue in these areas, businesses could be in a position for: Success, Attract Customers, Drive revenue growrth, Achieving long term sustainability.
Types of expendiure (+Overheads) businesses may have
Costs of goods sold
Operating expenses
Overheads
Research and development
Sales and Marketing expenses
Financial expenses
Non operating expnses
Understanding and managing these various types of expensture is key for business to control: costs, distrubute resoueces effectively, maximise profitability (Link: Unit 9 – Principles of Marketing)
Businesses must know how much money is coming in (Revenue) and going out (Expenditure), before they can work out whether the business has:
Made a profit: If revenue is greater than expenditure, makes a profit
Made a loss: If expenditure is greater than revenue (Opposite of Profit), hence the business makes a loss.
Define:
Profit
Loss
Calculate profit (Profit will not be given in the online test)
Profit = Revenue – Expenditure (+ve/-ve: (yyzz ) = -ve)
Types of costs
Start up:
Operating: “The expenses that a business” has of its “day to day operations”. Needed for keeping the function of the business regular, “generating”revenue. Operating costs can change depending on the industry and specfic nature of the business. These include: Rentor Lease Payments (*I.e. Renting cost or leasing office/reail/other premises) for conducting business operations), Utilitises (The expnses connected with utilities such as (Internat, Electricity, Water, Gas) needed for running the business.
Fixed:These stay the same, always regardles of the sales or lproduction level. Exampls: Annual Subscriptions (Netflix), Insurance premiums, Salaries, and Rent.
Variable: Change in direct propton to the production level or sales. Increasing or dreasing as the volume of output is changing. Examples: Sales commisions, Raw materials, Direct labor.
Direct: Spefically connected to the “production of a partiuclar product or service”. They could be easily tracked t a specific cost object. Examples: Cost of raw materials, Direct labor for manufacturing a product.
Indirect: ‘Overhead’ costs,are not directly conncted to a particular produc or service. Supportig the overall function of a business. Examples: Rent, Depreciation and Utilities etcetra.
Total costs:
Calculation: Total costs = Fixed costs + Variable costs (Calculation, not given in the online test)
