2.3 - managing finance Flashcards
why profit is important
- unit costs
- efficiency
- productivity
- break even
- sources of finance & cash flow
- adding value
gross profit
revenue without any associated costs of production
revenue - cost of sales
operating profit
profit made by a company after the general expenses have been paid out
gross profit - operating expenses
net profit
profit for the shareholders/business after interest has been paid
operating profit - interest costs
cost of sales
how much it costs to make a product
statement of comprehensive income
- lays out the profit or loss for the year for a business
- shows the figures for the current and previous trading year
- able to make comparisons between years against competitors
- shows the amount of profit made and breaks it down so a firm can assess the performance in different areas
- shows the amount of tax to be paid
calculating profit margins
measure size of profit in relation to revenue/turnover
gross profit margin
- how much gross profit was made in relation to revenue
- percentage of revenue that was gross profit
- gross profit/revenue x 100
operating profit margin
- how much operating profit was made in relation to revenue
- percentage of revenue that was operating profit
- measures pricing strategies and efficiency
- operating profit/revenue x 100
net profit margin
- how much net profit was made in relation to revenue
- percentage of revenue that was net profit
- shows profit made on the revenue
- takes costs into account
- net profit/revenue x 100
ways to improve profitability
- increase selling prices = more money into the business
- lower costs = no spending extra money
assets
resources owned by the business
examples - buildings, machinery, equipment, stock, cash
assets = capital + liabilities
liabilities
money owed by the business (debts)
examples - overdrafts, loans, mortgages
capital
money put into the business by its owner
example - investment, share capital, retained profit
statement of financial position
- produced at the end of the year
- previously called the balance sheet
- provides a summary of the business’ assets
- should balance
liquidity
- companies’ ability to convert assets to cash or acquire cash through a loan or bank to pay short-term obligations or liabilities
- two ratios that measure liquidity = current ratio and acid test ratio
current ratio
- ratio used to assess if the business has enough resources to meet any of the debts that might arise in the next 12 months
- current ratio = current assets/current liabilities
- sufficient liquid resources = between 1.5:1 and 2:1
- below 1.5:1 = not enough working capital
- above 2:1 = too much money tied up unproductively
acid test ratio
- used to assess if the business has enough resources to meet any of the debts that might arise in the next 12 months, excludes stock from current assets
- acid test ratio = current assets - inventories (stock)/current liabilities
- good acid test = greater than 1
- less than 1 = current assets minus stocks don’t cover current liabilities
working capital
- amount of money needed to pay for day-to-day trading of the business
- money left over after all current debts have been paid
- working capital = current assets - current liabilities
where current assets are
liquid assets that are easily changed to cash
where liabilities are
owed, needed to pay short term
managing large working capital
- large businesses need large working capital for stock
- hold large stock levels
- buy stock on trade credit, and wait a long time before paying
managing small working capital
- adopt just-in-time techniques
- supermarkets have negative working capital, buy stock and don’t repay until 30 days but sell the stock before then
keeping too little working capital
- not enough raw materials to fulfill production
- not enough cash in the business to pay bills on time
- if it has borrowed too much on trade credit, it owes too much and may be unable to pay invoices
keeping too much working capital
- keeping a large amount of costly stocks, expensive to store, insure, and liable to shrinkage
- too much cash in the business which is not earning interest, being used to pay debts, or invest
internal causes of business failure
- lack of planning
- cash flow problems
- lack of funds
- relying on narrow customer base
- marketing problems
- failure to innovate
- lack of business skills
external causes of business failure
- competition
- changes in legislation
- changes in consumer taste
- economic conditions
- changes in market prices
non-current assets
items of value owned by the business
stay within the business for more than a year
tangible assets
items of value owned by the business
stay within the business for more than a year
can be touched
intangible assets
items of value owned by the business
stay within the business for more than a year
cannot be touched
current assets
items of value owned by a business
value is likely to fluctuate on a regular basis
current liabilities
something owed by the business
paid back in under a year
net current assets/liabilities
figure that represents the total value of all assets minus the value of liabilities
non-current liabilities
something the business owes
paid back in more than a year
net assets
represents the business’s ability to meet short-term debts
also called working capital
liability
something a person or business owes, usually a sum of money
examples - loan, mortgage, credit card
unlimited liability
owners of a business are personally liable for the debts of the business
sole traders and partnerships
limited liability
if a business fails the owners will only lose the money they have invested in the business to pay off any debts
adverse
spending more than the budget
favourable
spending less than the amount budgeted
sole trader
- one owner
- most common
- employ people
- owns all assets
- unlimited liability
advantages of a sole trader
- control over the business
- keep profits
- unlimited liability
- easy to set up
- small capital to set up
- easier to control
disadvantages of a sole trader
- business is owner
- hard to raise finance
- holidays
- full liability
- more tax
partnership
- multiple owners (2-20)
- share assets & debts
- unlimited liabilities
- legal agreements
- owe liabilities between them
advantages of partnerships
- start-up capital
- easy to set up
- share knowledge
- shared skills
- finance potential
disadvantages of partnerships
- disagreements
- personal liability
- decisions
- raising finance
- partners honor decisions
implications of unlimited liability
- risky for business owners
- owners can lose personal possessions
- less costly, less paperwork
public limited company
offers shares to public (shareholders) stock market
private limited company
owned by shareholders
ownership divided into shares
shares not available to the public
advantages of a private limited company
- more access to capital
- limited liability
- more knowledge
disadvantages of a private limited company
- costly
- accounts published
- loss of control
advantages of a public limited company
- more capital
- limited liability
- increased negotiation opportunities
disadvantages of a public limited company
- costly
- accounts published
- risk of turnover
implications of limited liability
- confidence to push the business to the next level
- less threatening to family well-being
- scope for fraud
