Finance

Question 1

Why do businesses require finance?

Answer 1

Businesses need finance to buy fixed costs (factories and machinery)
Day-day costs (such as wages ) so that the business can survive

Question 2

What is a source of finance?

Answer 2

A source of finance is a provider of finance

Question 3

What is a method of finance?

Answer 3

A method of finance is the way in which the provider gives finance

Question 4

What is short-term finance?

Answer 4

Short-term finance is for businesses to pay suppliers or cover temporary shortages of cash

Short-term finance is repaid within 1 year

Question 5

What is long-term finance?

Answer 5

Long-term finance is needed for long term investments

Long-term investment can take awhile for a business to benefit financially from investments so long term finance are due over a long period of time usually 3 years.

Question 6

What is internal finance?

Answer 6

Internal finance is where the money comes from within the business and can be raised by using the owners money, selling assets or putting profits back into the business

Question 7

What is owners capital?

Answer 7

Owners capital (sometimes known as owners equity) is money the owner/s invest into the business and is often from their personal savings

Sole traders and partnerships are likely to use this source of finance when they’re starting up or expanding

Usually relatively small businesses that don’t need huge sums of money or they may not be able to access other sources of finance.

Question 8

What are the pros and cons of owners capital?

Answer 8

Pros:
- Keep 100% of the business
- In case of personal savings there will be NO interest pay
- No delay in obtaining the finance

Cons:
- In the case of personal savings the amount raised depends on the owners personal savings
- If the business fails the owner stands to lose their investment
- Could put a strain on family and personal relationships

Question 9

What is retained profit ?

Answer 9

Retained profit is profit that can be retained and built up over the years for later investment
-can work in the long term and short term
-Not all businesses can use this source of finance especially new businesses who wont be making enough profit to be able to retain much

Question 10

What are the pros and cons of retained profit?

Answer 10

Pros:
- Doesnt need to be repaid / no interest payments
- Owners of the business control how the money is reinvested it is therefore a flexible form of finance
- Does not dilute the ownership of the company

Cons:
- In a smaller business it may take awhile to build up a significant amount of retained profit meaning opportunities could be missed
- In the case of limited companies shareholders may prefer dividends if the business is not achieving sufficiently high returns on investment

Question 11

What is sale of assets?

Answer 11

Sale of assets is when a business can raise finance by selling their assets ( factories or machinery) to generate capital

This source of finance is only appropriate for businesses with spare capital not suitable for very new businesses or very efficient businesses as they’re unlikely to have assets they don’t us

Question 12

What are the pros and cons of sale of assets?

Answer 12

Pros:
- Depending on the asset, a significant amount of money can be raised
- The finance raised does not need to be paid back so therefore is no interest pay
- Does not dilute the ownership of the company

Cons:
- Limited to businesses with spare/surplus assets
- May take a long time to sell the asset and may need to accept a lower price for a quicker sale
-Businesses lose the future of the asset

Question 13

What is external finance?

Answer 13

External finance is investment for the business that is obtained from bank, investors and lenders outside of the business

Question 14

What is a source of finance?

Answer 14

A source of finance is where the finance has come from

Question 15

What is family and friends as an external source of finance?

Answer 15

Family and friends as an external source of finance is when owners of a small/new business may ask family and friends to help them out financially

Ltds, soletraders and partnerships may ask family and friends for financial contribution

May be for interests of a share of profits or even an interest free loan amongst friends

Question 16

What are the pros and cons of Family and Friends as an external source of finance?

Answer 16

Pros:
- Loans from F&F will probably be offered without the need for security and at lower rates and over longer terms than traditional loaners
- They are unlikley to need a business plan- may not even need to write one
- May offer the money as a gift- little to no interest pay

Cons:
- May cause tension and problems with relationships if the finance is not repaid or the business does not flourish
- May demand money back short notice

Question 17

What are banks as an external source of finance?

Answer 17

Banks may lend a loan to a business to start up or when a business wants to grow and expand and may also provide a business with an overdraft to help when they have cash-flow problems

All high-street banks have business departments to deal with loans

Question 18

What are the pros and cons of a bank as an external source of finance?

Answer 18

Pros:
- Banks will lend a business without asking for a % of the ownership of the business
- Banks will allow the business owner to continue running the business their own way and not interfere so owner remains in control of the business

Cons:
- Bank loans can be expensive compared to other sources of finance and interest must be paid back on time
- May be hard for a new business owner to obtain a loan as they have no historical sales data to show the bank
- Owner may need to use their own assets as security for the loan ( a house

Question 19

What is peer-peer funding?

Answer 19

Peer-peer funding is when p2p companies operate online and they allow individuals to lend money to other individuals or businesses
Lenders say how much money they are willing to pay/lend and indicate what sort of interest rate they want
Borrowers say how much money they want to borrow and say why they need it and how long they will loan for

A lending company then assess how risky the borrower is and matches them with appropriate lender

Question 20

What are the pros and cons of p2p lending?

Answer 20

Pros:
- Businesses can get access to funding within a week once approved
- Business owners can apply online
- Investors can expect returns of 6-7% whereas a savings account might only give them 3%

Cons:
- P2P loans are classified as private business loans so the money for the loan comes from several investors or small businesses
- If there is not enough individuals interested or willing to invest in your loan you may not be able to acquire the entire amount that the business needs

Question 21

What are business angels?

Answer 21

Business angels are wealthy individuals who invest money into new innovative businesses who they think have the potential to becoming successful

Often offer businesses advice and guidance and in return they ask for a share of the business

Angel investors often seek to have a return of their investment over a period of 3-8 years usually smaller loan amounts that venture capitalists

Question 22

What are the pros and cons of a business angel?

Answer 22

Pros:
- Angels are free to make investment decisions quickly
- Owner gets access to your investors sector knowledge and contacts
- Owner gets access to angels mentoring or management skills
- The owner will have no repayment or interests on the money lent

Cons:
- Not suitable for investments below £10,000 or more than £500,000
- Owners need to give up share of their business so lose full control

Question 23

What is crowd funding?

Answer 23

Crowd funding is where a large number of people fund a project over the internet making small investments each
Usually via the internet
Typically each person only contributes to small amount but collectively enough money is raised and this is a common source of finance for start up businesses

Question 24

What are the pros and cons of crowd funding?

Answer 24

Pros:
- Good alternatives to loans for small business owners
-Finance can be obtained withput paying upfront fees
-Businesses can generate funds and also promote funds at the same time
-Details posted publically so anyone can see and contribute to funding

Question 25

What are other businesses as a source of finance?

Answer 25

Other businesses may wish to invest in startups if they have surplus profit and they get good return on their investment

Answer 26

A method of

Question 27

What is a method of finance?

Answer 27

A method of finance is the use/type of finance or what the finance will be used for

Question 28

What is a loan?

Answer 28

Loans are where a fixed amount of money is borrowed and paid back over a fixed period of time with interest
The amount paid back depends on the interest rate and length of time taken for the loan
Banks will lend to small businesses but may not lend when they first start up as there is no track record or history of them making money
Loans are quick to set up and security may be required for a loan such as a house in-case loan isn’t repaid
Loans are a good long-term source of finance for start up businesses paying for assets

Question 29

What are the pros and cons of a loan?

Answer 29

Pros:
-As the loan is fixed for a certain length of rime the business owner can plan ahead and knows exactly what the repayment will be and when they leave the bank account
-Banks will not ask for a % of the business ot get involved in the running of the business
- Straight forward process getting into highstreet banks apply for loans

Cons:
- A bank will charge interest on the loan
-Not very flexible businesses may incuyr a penalty if they settle loan early
- A bank will ask for security for coll
- Very expensive source of finance
- Not suitable for large amounts over a long period of time

Question 30

What is share capital?

Answer 30

Share capital is private and public companies who can be financed in the long term using ordinary share capital

Share capital is money raised by selling shares

This is an external long-term method of finance but would apply apply for businesses with plc after their name.

Question 31

What are the pros and cons of share capital?

Answer 31

Pros:
- Investors are often prepared to provide extra funding as the business grows
- More cost effective way to raise finance than a loan- no interest to pay back
- Finance is based on acquiring more equity rather than getting into further debt

Cons:
- Potential investors may reuqire a great deal of background information before they buy the shares
- The more the shares are sold the more profit have to be divided up and paid out to investors and as dividends
- Can be expesnive and slow process to organise

Question 32

What is venture capital?

Answer 32

Venture capital is money that can be used as a method of finance for a bsuiness that is at huge risk but has potential to be successful could be a business that is just starting up or an existing business that is wanting to grow
Venture capitalists invest large sums of money into businesses in return for shares of the business and will typically VCs will invest at least £50,ooo in a small regional business and can rise into millions

Question 33

What are the pros and cons of venture capital?

Answer 33

Pros:
- Useful if business is looking to raise large amount of money in short space of time
-The business gets all the skills of venture capiyal business their network and links may incrwase revenue streams
-great for owners who have been refused a loan from the bank

Cons:
- Venture cpital firms typically want 20-30% stake in the business
- venture capital firms look for a strong business plan sound managemnt and a proven track record making it difficult for some start up businesses to attract investment

Question 34

What are overdrafts?

Answer 34

Overdrafts is where a bank lets a business have a negative amount of money in its bank account short term lending of small amount of money

once arranged a business can dip into it or pay it back as they fit

overdrafts are easy to arrange and flexible and

can borrow as little or as much as they need

Question 35

What are the pros and cons of overdrafts?

Answer 35

Pros:
- This would be ideal as a quick fix method to lift the business over a difficult month of trading
-An overdraft can be arranged on the phone or online with an instant decsion from bak
-The business will only pay interest on the amount of money
- As soon as business improves they can repay the overdraft

Cons:
-If the business goes over the amount the overdraft will be unauthorised and business will be charged heavily
- Very expensive source of finance- very high charges and interest rates
- Not suitavle for a large amounts over a lomg period of time

Question 36

What is leasing?

Answer 36

Leasing if a business doesnt have enough money to buy new assets they can lease assets instead
Leasing means paying in monthly sums over a set period of time
After leasing item is returned and they will never own the asset

Question 37

What are the pros and cons of leasing?

Answer 37

Pros:
- Lower monthly costs for a business than a loan
- Can be arranged withput any advanced fees being paid
- The leasing firm maintain the equipment on and will be up to date and wont be faulty

Cons:
- Leasing is often over a fixed term if the business changes its mind and wants to lease from a diff company contracts may be difficult to cut off
- Can be costly

Question 38

What is trade credit?

Answer 38

Trade credit is when a business buys a good or service and doesn’t have to pay straight away the business pays within an agreed time limit (30-90 days) of receiving the products
The buyer has time to sell the goods in their own shop before they have to pay for their own may give business a discount

Question 39

What are the pros and cons of trade credit?

Answer 39

Pros:
- Businesses can sell the goods before they hold the needs to be paid for so can make profit before costs need to be paid
-No interest has ro be paid on trade credit
- Businesses that pay reguarly on time can build relationships with their suppliers secure better deals
- Helps with cash flow

Cons:
- Not all stock is avaliable to buy using the trade credit method only applies to certain industries
- If the business does not pay in time they risk being refused further credit by supplier in the future
- Miss out on discounts

Question 40

What are grants?

Answer 40

A grant is a fixed sum of money given to a business often by the government in order to overcome problems of unemployment and are usually given fund specific projects in a business
Government grants do not usually have to be paid back and are businesses keep full control of business
A business needs to apply for their grant and supply lots of information

Question 41

What are the pros and cons of grants?

Answer 41

Pros:
- The business wont have to pay back the grant
- Unlike a loan there will be no interest to pau
- The business owner will get funds without any loss of control of the business
- Application process forces the business to think thoroughly about their decision

Cons:
-A business will have to find a grant that suits their specific project which can be difficult
- There’s lots of competition for grants
-The business may be exposed to match the funds they are awarded
- Grants usually awarded for proposed projects not others that have already started
- Application process can be complex and time consuming.
-

Question 42

What is unlimited liability?

Answer 42

The business owners and business are seen as one under the law
This is the case for sole traders and partnerships
This means business debts become personal debts of the owners and businesses can be forced to sell personal assets

Question 43

What is limited liability?

Answer 43

Owners arent personally responsible for the debts of the business
The share holders of both private and public companies have limited liability because a limited company has a seperate legal identity to its owners
The most the shareholders can lose if business fails is the money they invested

Question 44

How does limited liability affect sources and methods of finance?

Answer 44

-Businesses with limited liability usually find it easier to encourage people (angels) to invest in their business as people are more willing to invest knowing they wont lose any money
- Can raise lots of finance via share capital

Question 45

How does unlimited liability affect sources and methods of finance?

Answer 45

• Harder to encourage investors
• Sole traders and partnerships are likley to rely on internal sources of finance and external sources that dont require investor to become part owner
• Arent owned by share holders so cant rely on share capital however they can encourage people to invest for a share of the business but their unlimited liability may limit amount of money and number of people they can encourage
• Some cases it is easier to raise finance
  -If a business becomes limited investors may be wary that they are trying to protect themselves as they know the business is risky

Question 46

What is a business plan?

Answer 46

A business plan is a document that aligns what a business plans to achieve and how it plans to achieve it. Plans are important for new businesses but it is also important for established businesses as a way of monitoring performance and keeping on track

Question 47

What should a business plan include?

Answer 47

A good business plan should include:
- A business overview who is setting up the business? why? etc
- The businesses aims and objectives
- The marketing sales stratergy
- details of who will work in the business
Financial forcecasts ( break even, cash flow, budgets, profit etc)

Question 48

What are cash-flow forecasts?

Answer 48

Cash flow forecasts show cash inflows and cash outflows and they show the amount of money that managers expect to flow into the business and flow out of the business over a period of time

Question 49

What are cash inflows?

Answer 49

Cash-inflows are sums of money received by a business
e.g. from product sales or loans

Question 50

What are cash- outflows?

Answer 50

Cash outflows are sums of money paid out by a business
e.g. to buy raw materials or pay wages

Question 51

What is working capital?

Answer 51

Working capital is the amount of cash that a business has available for day-day spending

Businesses need to pay out money for costs of producing an order before they get paid for the order so they need to make sure they always have enough working capital available

Question 52

What are debtors?

Answer 52

Debtors are people who owe the business money and the owed money is known as receivable

This happens when a customer buys a product they might not get the money straight away ( customer may get the product on credit)

Question 53

What are creditors?

Answer 53

Creditors are people who are owed money by the business and the money is known as payable

This occurs if business buys goods using Trade-credit and doesnt pay the supplier straight away

Question 54

What are the uses of cash-flow forecasts?

Answer 54

• used by managers to make sure they always have enough cash to pay suppliers and employees
• can predict when the business will be short of cash and organise a loan or overdraft
• Businesses include forecasts in their business plans as sources of finance will want to see the forecasts when deciding to give the business a loan
• cash flow forecasts prove that businesses have done their research and have an idea of where theyll be in the future
• can check firm isnt holding too much cash

Question 55

What are the implications of cash flow forecasts?

Answer 55

• Good cash flow forecasting needs lots of experience and research into the market so it is time consuming
• Businesses exist in dynamic markets where circumstances can change suddenly and frequently
• Competitors can enter or leave the market
• Businesses may need to make changes to some activities due to these changes in cash flow
• An inaccurate cash flow can be disastorous as businesses that run out of cash will become insolvent and have to close down the business

Question 56

What is sales forecasting?

Answer 56

Sales forecasting is predicting future sales volume and sales revenue based ob the past sales data and market research

Question 57

How does sales forecasting help businesses make decisions about finance?

Answer 57

-Sales revenue is usually a firms main source of cash inflows so sales forecast is important to be able to generate accurate cash flow forecasts
- Helps a firm to know when it might need more finance to prevent running out of cash

Question 58

How does sales forecasting help businesses to make decisions about marketing?

Answer 58

• Firms use different marketing methods to drive sales
• Sales forecast and actions of the marketing department are closely linked

Question 59

How does sales forecasting help businesses to make decisions about resources?

Answer 59

-How much of a product a firm sells affects how many resources it needs
- More of the product sold= more resources needed
- Sales forecast helps to make sure the firm has all the resources it needs so it can meet the predicted demand but doesnt waste money on resources it needs when sales are expected to be low

Question 60

What are the factors affectibg sales forecast?

Answer 60

Consumer trends: sometimes these are predictable ( more people buy fairy lights at christmas) but sometimes they are more uncertain ( scientific research in 2010s showing butter isnt bad for health)
Economic variables: changes in economic variakes affects how much disposable income and therefore how many products they buy how much it changes depend son the nature of the firm and the products it sells
Actions of competitors: if a competitor decreases their prices or launches a new product a firms predicted sales may decrease

Question 61

What are the difficulties of sales forecasting?

Answer 61

• A accurate sales forecast are very hard to make and especially in dynamic markets when external factors are constantly changing
• Difficult to know in advance how the factors are gonna change
  -Difficult know the knock on effects
• difficult to make accurate sales forcast

Question 62

What is break even analysis?

Answer 62

Break even analysis is a method of determining the level of sales at which an will either make profit or a loss

Question 63

What is the break even point?

Answer 63

The break even point is the level of sales a business needs to cover its costs

Question 64

When do businesses make a profit?

Answer 64

Businesses make a profit when sales are above the break even point as revenue exceeds costs

Question 65

When do businesses make a loss?

Answer 65

A business makes a loss when sales are below the break even point as costs are more than revenue

Question 66

Why is break eve anaylis important?

Answer 66

• New businesses should always do a BEA to find the BEp as it tells the business how much they need to sell to break even
• Anyone thinking to loan money to a business may want to see BEA as a part of their business plan as it helps them to decided whether to lend the money
• Established businesses use break even when preparing to launch new products to work out how much profit theyre likley to make and predict the impact it will have on their cash flow

Question 67

Whats contribution per unit?

Answer 67

Contribution per unit is the difference between the selling price of a product and the variable cost it takes to produce the product

Question 68

Whats the calculation of contribution per unit?

Answer 68

Contribution per unit= selling price - variable costs per unit

Question 69

What is total contribuion?

Answer 69

Total contribuion is used to pay fixed costs and the amount left over is profit

Question 70

What is break even point calcuation?

Answer 70

Break even point = total fixed costs / contribution per unit

Question 71

What is a break even chart?

Answer 71

Break even chart shows the costs and revenue plotted against the revenue

Question 72

What is the margain of saftey?

Answer 72

The margain of saftey is the amount sales can fall before the break even point is reached and the business makes no profit

Question 73

What is the margain of saftey calcuatoon?

Answer 73

Margain of saftey = actual output - break even point

Question 74

What are the benefits and drawbacks of break even anaylis?

Answer 74

benefits :
- Its easy to do if you can plot figures on a graph accurately you can do break even analysis
- Its quick managers can see the break even output and margin of saftey immediately so they can take quick actions to cit costs or increase sales if they need to increase MOS
- BEA lets businesses forecast how variations in sales will affect costs revenue and profit and how the variations in price and costs will affect how much they need to sell
- Businesses can use break even anaylis to help persuade sources of finance to give them money
- Break even analysis influences decisons on whether new products are launched or not

Drawbacks:
- BEA assumes that VC always rise steadily this isnt always the case
- BEA is simpel for a single product but most businesses sell lots of products so it becomes complicated
- If data is inaccurate results will be wrong
- BEA assumes the business sells products without any waste
- BEA only tells you have much you need to sell not how much you’re going to sell

Question 75

What is a budget?

Answer 75

A budget is a financial plan for the future
* it forecasts future earnings and future sprending usually over a 12 month period

Question 76

What is an income budget?

Answer 76

Income budgets forecasts the amount of money that will come into the business as revenue

• The business needs to predict how much it will sell and at what prices
• Managers estimate this using sales figures from previous years as well as market research
• To set income budget businesses research and predict how sales are going to go up and down through the year

Question 77

What is an expenditure budget?

Answer 77

Expenditure budget = predict what the businesses total costs will be for the year and taking into account both fixed and variable costs

• variable costs increase with output so managers must predict output based on sales estimates
• EB is often broken down into department EB each department is allocated a certain amount of money to spend

Question 78

What is a profit budget?

Answer 78

Profit budget = uses the income budget minus the expenditure budget to calcuate expoecrted profit or loss will be fir the year

Question 79

What are budget holders?

Answer 79

Budget holders = people who are responsible for spending each budget

• despartment expenditure budgets are broken down into budgets for specific activities within the department

Question 80

What are the pros and cons of budgeting?

Answer 80

Benefits:
- Targets could motivate workers as it gives them something to work towards
- Help to control income and expenditure
- Help managers to review activities and decsions
- Departments can coordainate spending
- Help persuade invertsors that the busienss will be succesfull

Drawbacks:
- Can cause resentment and rivarly if departments compete
- Restrictive - not chaning to makret conditons (pestle)
- Time consuomh (opportunity cost)
- Inflation is difficult to precit ( economy)
- Start up businesses may striggel to get data from other firms so may be inaccurate
- Use it or lose it mentality

Question 81

What is zero based budgeting?

Answer 81

Zero based budgeting = when start up businesses have to develop their budgets from scratch

• BHS start with a £0 budget and have to get approval to spend money on activities
• Figures used in budget are based on potential performance so they need to plan all years activities and ask for money on them and be prepared to justify their request to finance director

-takes longer than historical
- If done properly more accurate than historical

Question 82

What is historical budgeting?

Answer 82

Historical budget = the budgets are updated each year based on percenyahe increase or decrease from last years budget

• can be quicker but assumes codntions are unchangebale

Question 83

What is a fixed budget?

Answer 83

Fixed budgeting means budget holders jave to stick to their budget plams thrpughput the year even if conditions change

• this can prevent a firm reacting to new opportunities and threats that they didnt know about when they set the budget
• Provide discpline and certainity which helps to control cash flow

Question 84

What is a flexible budget?

Answer 84

Flexible budget allows budgets to be altered in response to significant changes in the market or economy

Question 85

What is variance ?

Answer 85

Variance = the difference between actual figures and budgeted figures

• a variance means the business is performing worse or better than expected

Question 86

What is a favourable variance?

Answer 86

A favourable variance = occurs when a firm is performing better than expected - it can be called a positive variance

• if revenue or profit is more than the budget says
• if costs are below cost predictions

Question 87

What is adverse variance ?

Answer 87

Adverse variance = occurs when a form is performing worse than expected- it can be called a negative variance

• selling fewer items than income budget predicted
• spending more on marketing than expected

Question 88

What is the variance calculation?

Answer 88

Variance = actual figure - budgeted figure

Question 89

What is cumulative variance ?

Answer 89

Cumulative variance = all the variances added up and combined as one

Question 90

What internal factors cause variances ?

Answer 90

Internal :
- improving efficiency causes favourable variances
- a firm may over estimate the amount of money it can save by streamlining the production methods
- a firm might under estimate the cost of making a change to its organisation
- changing selling price changes revenue which creates a variance

Internal causes of a variance are a big concern as it suggests internal communication needs improving

Question 91

What are small variances ?

Answer 91

Small variances aren’t a problem as they can help to motivate workers
- staff try to catch up and sort out small variances themselves

Question 92

What are large variances ?

Answer 92

Large variances can demotivate staff as staff don’t work hard if they have a large favourable variance as they don’t see the need and large adverse variances may seem impossible to overcome

Question 93

What are decisions based on adverse variances?

Answer 93

• They can change the marketing mix. Cutting prices will increase sales but only if demand is price elastic. Updating the product might make it look more attractive to customers. Businesses can also look for a new market for the producy , or change the promotional stratergy
• Streamlining production makes the business more efficient, so this reduces costs
• Try to motivate employees to work harder
• Businesses can try cut costs by asking their suppliers for a better deal
• Businesses may need to do additional market research to improve forecasts in the future

Question 94

What are decisions based on favourable variances?

Answer 94

• If a favourable variance is caused by a pessimistic budget, they can set more ambitious tagrets next time
• If the variance is because of increase productivity in one part of the business they can try to get everyone doing wahtever was responsible fir the improvment and set higher targets in the next budget
• A favourable variance could indicate more sales than predicted so a business may need to increase the production of a product or take on additional staff to meet demand.

Question 95

What is profit?

Answer 95

Profit is the difference between total revenue and total costs

Question 96

How do u work out the percentage change in profit?

Answer 96

Percentage change in profit = current years profit - previous years profit / previous years profit x 100

Question 97

What is gross profit?

Answer 97

Gross profit is the amount left over when the costs of sales is subtratced from total revenue. Cost of sales is the costs directly realted to making the product

Question 98

What is the calculation for gross profit?

Answer 98

Gross profit = total revenue - cost of sales

Question 99

What is operating profit?

Answer 99

Operating profit considers both the costs of sales and operating expenses such as administrative expenses. If a businesses gross profit is increasing but its operating profit is decreasing it usuaully means the business is not controlling

Question 100

What is the calculation for operating profit?

Answer 100

Operating profit = gross profit - other operating costs

Question 101

What is net profit?

Answer 101

Profit for the year ( net profit) takes into consideration the cost of any interest the business has to pay for borrowing money

Question 102

What is the calculation for net profit?

Answer 102

Net profit = operating profit - interest

Question 103

What is a statement of comprehensive income?

Answer 103

A statement of comprehensive income ( also known as a profit and loss account) shows how much money has been coming into the business ( revenue) and how much has been going out over a period of rime (expenses).

Question 104

How can a statement of comprehensive income be used?

Question 105

What is a profit margain?

Answer 105

Profit margin = measure the relationship between the profit made and the revenue. They tell you what percentage of the selling price if a product is actually profit

Question 106

What is profitablity?

Answer 106

Profitability = the amount of profit relative to revenue or investment

Question 107

What is gross profit margain?

Answer 107

The gross profit margin (GPM) measures gross profit as a percentage of revenue

GPM = gross profit / revenue x 100

• Depends on the business what counts as good GPM- higher percentage usually better
• GPM can be improved by increasing prices or reducing the direct cost of sales

Question 108

What is operating profit margain?

Answer 108

The operating profit margin ( OPM) takes into account all the costs of regular trading

OPM = operating profit/ revenue x 100

Question 109

What is net profit margain?

Answer 109

Net profit measures the profit for the year as a percentage of revenue

NPM = net profit/ revenue x 100

Question 110

What methods can businesses used to increase profit margains?

Answer 110

• Businesses can improve their profit margins by increasing their revenue- they could do this by increasing the prices, or reducing their prices to increase demand
• They could improve product quality which could lead to greater sales vokume and possibly a higher selling price, both of which could increase revenue
• Reducing costs of sales
• To increase OPM they could reduce operating expenses

Question 111

What is the difference between profit and cash?

Answer 111

Profit = is the money that a business has left from its revenue once costs have been paid

Cash = what a business has now to pay its bills. Cash is constantly flowing in and out of a business.

Question 112

What is a statement of financial position?

Answer 112

Statement of financial position can also be called balance sheets
They are a snapshot of a firms finances at a fixed point in time
They show the value of all the businesses assets ( things that velong to the business, including cash in the bank) and all its liabilities ( the money the business owes)
They show all the value of all the capital (money invested into the business) and the source of that capital ( loans etc)

Question 113

What are current and non current assets?

Answer 113

Current assets are assets that the business is likley to exhcange for cash within the accounting year, before the nextstatement of financial position is made. All the current assets are added togehthee to give the total current aseets value.
Current assets include recieveables, and invetory.

Non current assets are assets taht the business is likely to keep for more than a year ( property). The total non- current assets value is the combined value of all the businesses non current assets
- they often lose value overtime and this is called depreciation .

Question 114

What are current and non current liabilities?

Answer 114

Current liabilities = are debts wgich need to be paid off within a year. they include overdrafts, taxes due to be paid, payables ( money owed to creditors) and dividends due to be paid to shareholders. Total current liabilities are deducted from total non current and current assets to give the value of assets employed

Non current liabilities = are debts that the business will pay off over several years ( mortgages and loans)

Question 115

What are net assets?

Answer 115

The net assets value is the totatl fixed and current assets minus rotal current and non current liabilities

• It is always the same as the total equity value

Total equity= the total of all the money thats been put into the business

Question 116

What are net curremy assets

Answer 116

current assets- current liabilities

Question 117

What are retained profit?

Answer 117

Retained profit= value of money retained by the business and not given back to shareholders as dividends.

Question 118

What are bad debts?

Answer 118

Bad debts= debts that dont get paid and cant be included on the statement of financial position as an asset

Question 119

What is liqudity?

Answer 119

The liquidity of an asset is how easily it can be turned into cash and used to buy things

-Cash is very liquid, non current assets such as factories are not liquid, and inventory and money owned by debtors ( receivables) are in between
- A business that doesn’t have enough current assets to pay its liabilities when they are due is insolvent, either has to quickly find money to pay them o=, ask creditors if it can pay its debt over long period of time or go into liquidation ( cease trading and sell all of its assets to pay off its debts)
- Liquidity can be improved by decreasing stock levels, speeding up collection of debts owed to the business, or slowing down payments to creditors

Question 120

What is the calculation for current ratio? (liquidity ratio)

Answer 120

The current ration compares current assets to current liabilities

Current ration = current assets/ current liabilities

The current ratio should be higher than 1. 1.5-2 is considered ideal

• Much below 1.5 is considered a liqudity problem
• A value much higher than 2 suggests firm has more assets than it really needs

Question 121

What is acid test ratio? ( liquidity ratio)

Answer 121

The acid test ration is a tougher measure of liquidity than current ratio as it accounts for the inventory
Inventory can take a long time to sell or it might not sell at all- by removing inventory from current assets it gives a more accurate measure of the ability of the firm to pay its current liabilites

Acid test ratio= current assets- inventory / current liabilities

*Most businesses should have an acid ratio higher than 1

Question 122

What is working capital?

Answer 122

Working capital is the amount of cash ( and assets that can be easily turned into cash) that the business has avaliable to pay its day-day debts.

The more working capital a business has the more liquid it is.

Question 123

What is the calculation for working capital?

Answer 123

Working capital = current assets - current liabilities

Question 124

How much cash do businesses need?

Answer 124

Businesses need just enough cash to pay short term debts but they shouldn’t have too much cash
-spare cash is great at paying off debts but lousy at earning for the business

Question 125

What is business failure?

Answer 125

Business failure is when a business can no longer stay open because it isn’t making enough money to cover its costs. The business isn’t able to continue trading and shuts down while still owing people money.

• A business usually fails because it doesn’t have enough cash to pay current liabilities
• A businesses lack of cash ( and therefore failure) can be due to inside the business factors and outside the business, and these can be financial or non financial factors.

Question 126

What are internal financial factors that cause business failure?

Answer 126

-Bad management of working capital can cause business failure. This can result in a business not having enough cash avaliable to pay its day-day running costs such as paying suppliers and employees. If the business cant pay these costs it will quickly fail. A business needs to have accurate cash flow forecasting to make sure this doesnt happen
- Poor efficiency can lead to business failure. This is becayse a business with poor efficiency has costs that arent as low as they could be. This could man that they need to charge higher prices than their competitors to still make a profit, which could lead to them not generating the revenue needed to keep operating
- Bad decsions about how a firm is financed can lead to business failure. For example, a firm may rely on expensive forms of finsncr such as overdrafts in the long term meaning costs are very high. It may also take on too much debt at once and retain very little profit. If it needs more finance in the future to prevent it from failing it may find it very difficult to find a source of financr willing to lend it money at an affordable interest rate.

Question 127

What are internal non financial factors that cause business failure?

Answer 127

-Poor communication can result in business failure because it can mean that the different departments of the business arent working well together which reduces the efficiency of the business. It also means that messages about problems that arise and stratergies to fix them arent being passed on effectivley between managers and workers on different departments meaning they dont get resolved quickly.
- Inadequate market research and analysis means the business fails to monitor changes in the market that could effect it such as customers needs and preference. If a business doesnt sell products that people want to buy then there will be low demand for the products. May mean a lack of revenue and the business runs out of money that it needs to pay for expenses
- Marketing is used to drive demand for products. If marketing isnt done well ( at right time or strongly enough) then sales might not be high enough to generate sales revenue to cover businesses costs
- Failure to innovate can cause business failure. If a business fails to keep up with consumer preferencres by lacking innovative new products its likley to fail.

Question 128

What are external financial factors that cause business failure?

Answer 128

Economic recession can result in consumers having less money to spend. This can cause a fall in sales especially for luxury items ( items with positibe income elascity more than 1)
- A change in exchange rates can also have huge effects on demand for a firms product. If the pound strengthend then foreign firms exporting goods to the UK would offer cheaper prices than firms inside the UK. This would mean that the demand for imports would increase and would lead to a fall in demand for domestic goods. Also the demand for exports from the UK by other countries would decrease as it would be more expensive. This could lead to firms having to close if they couldn’t compete in long term with cheaper rivals or if they lost too many oversea customers

Question 129

What are external non financial factors that cause business failure?

Answer 129

The actions of competitors are a common cause of business failure. If competitors are able to offer a similar product at a lower price or develop new prodicys yjat are more desirable customers may choose the competitors. Cause firms sales to fall loss of revenue and business failure
- A change in consumer trends can lead to business failure, If customers suddenly stop wanting to buy a product then this will cause a sudden drop in revenue unless the business has a wide range of products and can react quickly.
- Poor communication outside of the business can cause failure. If business fails to communicate well with suppliers it could lose suppliers and may not be able to keep up production of products. Also if communication with customers is poor the business may get a bad reputation for poor customer service which may result in a loss of revenue and potentially business failure.

Question 130

How does the importance of these different causes of failure depend on businesses?

Answer 130

The factors that are most likley to cause a business to fail depends on lots of things such as the experience of owners, size of the business and the product and market its in.

• Businesses that operate in a dynamic market such as tech market, a lack of innovation can be a big cause of business failure
• For businesses that sell very price elastic products, economic changes increase the relative price of products and can have a big effect on demand
• Large and fast growing businesses are more likely to fail due to communication problems compared to smaller or slower growing firms

Question 131

What factors effect how much cash a business needs?

Answer 131

• A business with long working capital cycle needs more cash than a business with short working capital cycle ( has to wait for money to come in)
• Inflation increases the costs of wages and buying or holding stock, so businesses need more cash when inflation is igh
• When a business expands it needs more cash to avoid overtrading

Overtrading= means producing so much that the business cant afford to pay its suppliers until it gets paid by its customers

Question 132

What is the working capital cycle?

Answer 132

The working capital cycle= the length of time between buying raw materials and getting cash from sales of the finished product usually measured in days