3.3

Question 1

Why does a business need a sales forecast?

3.3.1

Answer 1

• Human resource plan: how many people we need linked with expected output
• Budgets
• Cash flow forecast
• Production/ Capacity plans

Question 2

What is extrapolation?

3.3.1

Answer 2

The use of trends and historical data to predict future values.

Question 3

How to calculate the 4 period moving average?

3.3.1

Answer 3

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Question 4

Moving average

3.3.1

Answer 4

The moving average helps to point out the growth trend, expressed as a percentage growth rate.

Question 5

Benefits and drawbacks of extrapolation

3.3.1

Answer 5

Benefits:
A simple method of forecasting, not much data required, quick and cheap.

Drawbacks:
Unreliable if there is significant fluctuations in historical data, Assumes past trend will continue into the future- unlikely in many competitive environments, Also ignores qualitative factors (tastes and fashions)

Question 6

What is a correlation?

3.3.1

Answer 6

Correlation is another method of sales forecasting. Correlation looks at the strength of a relationship between two variables.
3 types:
Positive, Negative and no correlation.

Question 7

What is a line of best fit?

3.3.1

Answer 7

The line of best fit indicates the strength of the correlation.

Question 8

Limitations of Quantitative sales forecasting

3.3.1

Answer 8

Consumer trends- Demands in many markets changes as consumer tastes and fashion changes.

Economic variables- Demand often sensitive to changes in variables such as exchange rates, interests rates, taxation. Overall strength of the economy is also important.

Competitor actions- These are often hard to predict, but often significant reason why sales forecasts prove over- optimistic.

Question 9

Why do sales forecasts turn out to be inaccurate compared to actual sales?

3.3.1

Answer 9

• Business is new
• Demand is highly sensitive to price and income
• Product is a fashion item
• New market entrants

Question 10

Investment appraisal definition and types

3.3.2

Answer 10

Investment appraisal is the methods of measuring the attractiveness of the financial returns from an investment.

Payback period
Average rate of return
Discounted cash flow (NPV)

Question 11

Payback period

3.3.2

Answer 11

The time it takes for a project to repay its initial investment

Question 12

Average rate of return

3.3.2

Answer 12

Looks at the total return for a project to see if it meets the targeted return

Question 13

Discounted cash flow (NPV)

3.3.2

Answer 13

Net present value (NPV) calculates the monetary value now of the project’s future cash flows

Question 14

How to calculate ARR

3.3.2

Answer 14

1) Calculate average annual profits (total profits / number of years)
2) Divide average annual profits by initial outlay
3) Compare with the target percentage return

Question 15

Benefits and drawbacks of using average rate of return

3.3.2

Answer 15

+Simple to understand and easy to calculate
+Focuses on the overall profitability of an investment project
+Easy to compare average rate of return with other key target rates of return to help make a decision

• Ignores the timings of returns
• Focuses on profits rather than cash flows

Question 16

Why is it important to take into account the time value of money?

3.3.2

Answer 16

• Cash now is better than cash later

- Future cash flows are worth less

Question 17

Benefits and drawbacks of NPV

3.3.2

Answer 17

+Considers all future cash flows
+Creates a straight forward decision- positive NPV suggests decisions should go ahead

• More complicated than ARR or payback
• Result can be manipulated using the discount rate

Question 18

What is discounting

3.3.2

Answer 18

Discounting is the method used to reduce the value of future cash flows to reflect the risk they may not happen

Question 19

Key factors influencing investment decisions

3.3.2

Answer 19

• Financial position of the business (gearing, ROCE)
• Alternative investments
• Organisational culture and attitude to risk
• Management confidence
• Business image and reputation
• Uncertainty- External environment

Question 20

What is a decision tree?

3.3.3

Answer 20

Decision tree is a mathematical tool used to help managers make decisions.
A decision tree uses estimates and probabilities to calculate likely outcomes. Calculating these estimates helps to decide whether the net gain from a decision is worthwhile.

Question 21

How to calculate 3 period moving average?

3.3.1

Answer 21

(P1+P2+P3)/3

Question 22

Benefits and drawbacks of using decision trees

3.3.3

Answer 22

+Potential options are considered at the same time
+Addresses the risk of an option through probabilities
+Easy to understand

• Probabilities are estimates and prone to error
• Use of quantitative data only- Ignores qualitative aspects of a decision
• Probabilities are prone to bias

Question 23

How to construct a decision tree

3.3.3

Answer 23

1) A decision tree starts with a decision to be made and the options that can be taken.
2) Next we add in the associated costs, outcome probabilities and financial results for each outcome.
3) These probabilities are particularly important to the outcome of a decision tree. Probability is
• The percentage chance or possibility that an event will occur
• Ranges between 1 (100%) and 0
• If all the outcomes of an event are considered, the total probability must add up to 1

4) Finally we calculate the expected value and net gain

Question 24

What is expected value and net gain?

Answer 24

Expected value- this is the financial value of an outcome calculated by multiplying the estimated financial effect by its probability
Net gain- This is the value to be gained from a decision

Question 25

What is CPA?

3.3.4

Answer 25

Critical Path Analysis:
Project management tool that uses network analysis to plan complex operations

CPA calculates:
• The longest path of planned activities to the end of the project
• The earliest and latest that each activity can start and finish without making the project longer

This process determines which activities are “critical” (i.e., on the longest path) and which have “total float” (i.e. can be delayed without making the project longer).

In project management, a critical path is:
The sequence of project activities which add up to the longest overall duration

Question 26

Building the CPA model

3.3.4

Answer 26

1) List all of the tasks to be completed for the project
2) The time that each activity will take to complete
3) The dependencies between the activities

Question 27

Benefits and weaknesses of CPA

3.3.4

Answer 27

+Helps reduce the risk and cost of projects

+