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CIPS L4M2 - Defining Business Need > Chapter 1.4 > Flashcards

Chapter 1.4 Flashcards

Interpretation of financial budgets and cost models for the control of purchases

1
Q

Financial Budget

A

A plan for a defined period, usually twelve months, showing either revenues or costs, or both

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2
Q

Cash flow

A

The amount of money going into and out of a business

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3
Q

Financial Ratios

A

Analysis using data from financial statements to identify and monitor trends in performance, for example, profitability, liquidity and debt

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4
Q

Return on Investment (ROI)

A

A measure of profitability that indicates whether a gain or loss has been generated compared with the initial cost

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5
Q

Return on capital employed

A

A financial ratio which identifies a business’s ability to generate profit from the capital used

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6
Q

Net present value (NPV)

A

An accounting term for an amount in the future adjusted to today’s value by a calculation

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7
Q

Define financial modelling

A

Where an organisation uses historical and assumed financial, accounting and business metrics, such as costs and revenue, to project and abstract forecast of the future state of the company

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8
Q

What is financial modelling used for?

A

To forecast an organisations future financial performance

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9
Q

Describe financial models

A

Usually simple spreadsheets that can be used to forecast an organisations future financial performance

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10
Q

What can organisations use to assess the viability of a business case?

A

Financial ratios, specifically investment ratios

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11
Q

Define investment ratios

A

Types of financial ratios that can be used to assess an organisations ability to generate a positive and profitable return

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12
Q

Name 4 examples of financial ratios

A
  1. Return on investment
  2. Return on capital employed
  3. Profitability ratios
  4. Liquidity rations
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13
Q

What should organisations consider net present value for?

A

Any investment decisions associated with the business case

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14
Q

What does NPV assess?

A

The value of a project or investment over time, but with any projected future cash flows converted into the present value

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15
Q

What does NPV enable the visibility of?

A

The financial viability of the business case over multiple time periods

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16
Q

What can financial budgets be created from?

A

Financial modelling

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17
Q

What are financial budgets created to show?

A

The target cost and revenues over a certain time period

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18
Q

What wouldn’t an organisation know without financial budgets? (2)

A
  1. Whether it will have the funds to meet obligations
  2. Whether there will be sufficient surplus finds to reinvest in the business
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19
Q

Name the 3 main activities that are involved in budgeting and managing those budgets

A
  1. Planning
  2. Controlling
  3. Decision-making
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20
Q

What does it mean to control a budget?

A

Gathering and analysing data to show how money is being spent against the budget

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21
Q

Name a common way to see how managing a budget should work

A

Use a cycle of activities called the Plan-Do-Review cycle

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22
Q

Create an overview of the Plan-do-review cycle

A
  1. Plan - develop budget based on the business case approved
  2. Do - monitor variances and take action
  3. Review - evaluate budget performance and re-plan
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23
Q

Name 2 things required to prepare and manage budgets effectively

A
  1. Understand what cost entries apply to the budget
  2. How and when these affect the organisations cash-flow
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24
Q

Cost model

A

A process designed to assess and calculate all costs associated with producing or delivering a product or service and arrive at a provable end cost

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25
Q

What’s the overall aim of a cost model

A

Accurately access all financial information on the resources required to deliver a product or service and transform the data to set a realistic end price for the consumer

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26
Q

What do cost models assess?

A

Whether the overall investment and resources required to deliver a product or service is proportionate to the end value it creates

27
Q

What are cost models essential in evaluating?

A

Evaluating the viability of a potential business venture, by estimating the overall profitability the venture can bring to an organisation

28
Q

Name 2 key considerations within cost models

A
  1. Whole-life costing
  2. Total cost of ownership
29
Q

What is critical for a business to survive?

A

The circulation of funding or cash flow in and out of an organisation

30
Q

What can be used to create cash flow profiles?

A

Statement of cash flows

31
Q

What can cash profiles provide?

A

Insights into a company’s strategy, life-cycle or any key considerations for its current financial position

32
Q

What is the variance of the flow of finances in and out of a business dependent on?

A

Whether the organisation is new or established, profitable or struggling

33
Q

Explain timing of cash flows

A

What is paid and when

34
Q

What does it mean to buy something on credit?

A

It pays for them a certain number of days after it receives them

35
Q

Define working capital

A

The funds in the bank to pay what the business owes before it receives funds from the people who owe it

36
Q

What can’t a business operate without?

A

Working capital

37
Q

Name the 6 steps of the cash flow cycle

A
  1. Receive raw materials and components
  2. Manufacture products
  3. Store in inventory
  4. Pay suppliers
  5. Sell products
  6. Receive funds from customers
38
Q

Name 7 characteristics service industries show in the cash flow cycle

A
  1. A service cannot be put into inventory to be sold later - this means the workforce cannot be kept busy in slow times and sell the service at a later date when business picks up
  2. Most services are intangible - the quality cannot be measured in the same way, the quality of services is often measured based on subjective value judgements by the consumer
  3. Production and consumption by a customer take place at the same time - if there is a short-term imbalance between demand and capacity, either lead times to customers increase or the workforce is idle
  4. Services often result in a wide variety of ‘products’ from the same cost base - businesses have to be careful that they are not paying for service providers’ overhead costs more than once if they buy multiple services from them
  5. Customer-provider interface. The quality of the customer-provider interface will have a large bearing on customer satisfaction and repeat purchases
  6. Can be thought of as generating products - for a hospital, products could be operations
  7. Deliver products with processes - an example could be a product being the insurance policy and the process is the set of activities that take the initial request and turn it into a policy document
39
Q

Accrual

A

An adjustment made to a set of financial accounts to reflect activity that has occurred but for which cash has not yet been received or paid

40
Q

Name 7 main categories of cost entries

A
  1. Revenue
  2. Direct costs
  3. Overheads
  4. Depreciation
  5. Bank loans
  6. Investments
  7. Dividends
41
Q

Explain direct costs

A

The costs of the items that are used directly in the manufacture of the product or to deliver the service

42
Q

Are direct costs internal or external?

A

Both

43
Q

Explain overheads

A

The costs other than direct costs that an organisation incurs, also known as indirect costs

44
Q

Explain depreciation

A

Although the assets are bought up front for the full price, they will not retain that value for the whole period in which they are used. A part of the original cost is apportioned to every year the asset is expected to last

45
Q

Explain bank loans

A

They create cash flow at the time of draw-down

46
Q

Explain investments

A

These may or may not be purchased on credit.

47
Q

Explain dividends

A

Payments made to shareholders in return for investing in the company through shares

48
Q

Mission statement

A

A written statement of the purpose of an organisation which does not change over time

49
Q

Vision statement

A

Sets out the rules and goals by which the organisation will conduct its affairs in order to achieve its mission

50
Q

Name a key management task

A

Monitoring the performance of budgets and taking control when actuals deviate from budgets

51
Q

Name 8 advantages to budgeting and budgetary control

A
  1. It compels management to think about the future and to set out detailed plans for achieving targets for each department, operation and manager
  2. It promotes coordination and communication
  3. It requires managers to be made responsible for the achievement of budget targets for the operations under their personal control
  4. A budget is basically a yardstick against which actual performance is measured and assessed. Departures from budget can be investigated and the reasons for the differences can be divided into controllable and non-controllable factors
  5. It enables remedial action to be taken as variances emerge
  6. It can motivate employees if they participate in the setting of budgets
  7. It improves the allocation of scarce resources
  8. Finally, it economises management time by using the management by exception principle
52
Q

What can there be a tendency for managers to justify after a budgeting system has been in operation for some time

A

Justify the following years budget on the basis of adding an amount to the current budget to cover inflation

53
Q

Zero-based budgets

A

A method of budgeting in which every expense must be justified starting from a base of zero

54
Q

Name an advantage of zero-based budgets

A

They may uncover alternative and more innovative ways to deliver their objectives and so become more efficient and effective

55
Q

Name a disadvantage of zero-based budgets

A

The amount of management time it takes to create a zero-based budget and then review it

56
Q

Name 3 examples of variances that should be looked in to when a budget is monitored

A
  1. Price and quantity variances
  2. Labour variance
  3. Overhead variance
57
Q

What 2 elements are the value of a purchase made up of?

A
  1. Quantity purchased
  2. Unit price
58
Q

Explain labour variance

A

The difference between the budgeted and the actual wage costs

59
Q

What can labour variances be broken down into?

A

A wage rate variance and a labour efficiency variance

60
Q

Why may wage rate variances occur?

A

If more overtime than expected is used or a different grade of worker is used compared to the one planned

61
Q

When do labour efficiency variances occur?

A

When the time spent on a job is different to the planned number of hours

62
Q

Explain overhead variance

A

The cost of overheads can also create a variance from the budget and this can be split into a volume variance and an expenditure variance

63
Q

When is a volume variance created when overheads are apportioned to products or services?

A

If production is greater or less than that budgeted

64
Q

When is overhead expenditure variance created?

A

When the actual overhead is greater or less than budgeted for the level of output produced

CIPS L4M2 - Defining Business Need (12 decks)

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