Decision making to improve financial performance - 5.2 Flashcards
What is the value of budgeting?
- Helps with financial planning as it outlines expected income and expenditure
- Controls and monitor financial performance against set targets and identify variances in actual and budgeted figures
- Ensures financial resources are allocated efficiently and can allow businesses to prioritize spending on essential areas such as marketing or research and development
What is break-even output?
Level of sales where total revenue equals total costs so business is making neither a profit nor a loss. Helpful to determine minimum sales needed to cover costs.
How do you calculate break-even output?
Fixed costs / (Selling price per unit - variable cost per unit)
How can you apply break-even output?
- Determine selling price per unit
- Identify fixed costs
- Calculate variable costs per unit
Using this, you can see how many units to sell to break even, set sale costs and make decisions about pricing and costs.
What is margin of safety?
Measures difference between actual sales and break-even sales. Shows how much sales can drop before business reaches break-even point.
How do you calculate margin of safety?
(Actual sales - Break-even sales) / Actual sales X 100
What is contribution?
Amount of money left over from sales after variable costs are subtracted. Helps understand how much money is available to cover fixed costs and contribute to profits.
How do you calculate contribution per unit?
Selling price per unit - variable cost per unit
How do you calculate total contribution?
Contribution per unit X number of units sold
What is the value of break-even analysis?
- Helps identify break-even point in terms of sales volume or revenue
- Highlights relationship between fixed and variable costs to analyze how changes in costs affect profits
- Helps assess risks associated with new projects or products by understanding how changes in sales volume affect profitability
How can you analyse timings of cash inflows and outflows?
- Create cash flow statement which outlines expected cash inflows and cash outflows
- Look for periods where outflows exceed inflows which indicates potential cash shortfalls and helps understand when you may need additional financing
- Negotiate payment terms with suppliers or implement strategies to encourage faster customer payments
What does payable’s mean?
Amount of money company owes to suppliers or creditors for goods and services that have been received but not paid for. Considered a current liability and helps maintain healthy cash flow.
What does receivables mean?
Amount of money company is owed by customers. Considered a current asset. Effective management is crucial for maintaining cash flow. May implement strategies to encourage timely payments such as discounts for early payments.
How is data used for decision making and planning?
- Use historical data to analyze performance over time including revenue trends and expense patterns. Helps create budgets and allocate resources. Forecasts future revenues, expenses and cash flows. Helps identify potential risks and uncertainties and develop strategies to make secure financial decisions.
What research can be carried out to construct a budget?
- Analyse market to predict future trends in sales and prices
- Research labour costs, fuel, raw materials, possibly negotiate with suppliers for price reductions
- Consider government estimates for wage rises and inflation
How can budgets help with improving financial performance?
- Analyse budgeted and actual expenditure, if one area is overspending, managers can reduce their expenditure
- Analyse revenue data, prices may be too high or not advertising efficiently
- Analyse profits budget, profits below budgeted figure may be caused by excess expenditure or by revenue falling short of expectations
What is variance analysis?
Process of investigating any difference between forecast data and actual figures.
What is favourable variance?
Difference between actual and budgeted figures will result in a business enjoying higher profits than shown in the budget. An example could be actual wages being less than budgeted.
What is adverse variance?
Difference between figures in the budget and actual figures leads to a businesses profits being lower than planned. An example of this could be raw material costs exceeding figure planned in the budget.
How do you construct a cash flow forecast?
- Cash in (cash sales and credit sales)
- Cash out (rent, insurance, wages, fuel)
- Net monthly cash flow (added to opening balance which results in the closing figure)
What is break-even output?
Level of output at which total costs exactly equal revenue from sales.
What is contribution and how do you calculate?
Difference between revenue and variable costs (revenue-variable costs)
What are the advantages of break-even analysis?
- Forecast effect of number of customers on costs, revenue and profit
- Simple meaning no need for training and useful for start-up businesses
- Quick process and can be used at managers of all levels
What are the disadvantages of break-even analysis?
- Doesn’t mention the level of sales a business may achieve
- Businesses don’t sell all products at a single price so difficult to use when a business sells different products with different prices
- Only accurate based on data provided, if something is incorrect, forecasts will be wrong
