finance Flashcards
formula for breakeven
fixed costs / (price - variable cost)
formula for contribution
price - variable cost per unit
formula for total contribution
total revenue - total variable cost
what is the margin of safety
the difference between the level of output that is actually sold and the level of output needed to make breakeven.
advantages of using breakeven
- allows a business to know how many products it needs to sell to make a profit
- find appropriate selling prices
- allows a business to identify where to change costs
- highlights margin of safety
disadvantages of breakeven
-it does not account for costs or prices changing
- if the business sells lots of products it will be difficult to predict the breakeven points if it is averaged out into one graph
risks of not using breakeven
- could set the wrong prices and make a loss
- business costs might be higher than expected
- business wouldn’t be aware of the margin of safety
- the business would not know how many to sell to make a profit
purpose of an income statement
shows income and expenditure, whether they are making a profit or a loss during a given period
trading account
up to and including gross profit
revenue
price x output
cost of sales
variable cost per unit x output
gross profit
revenue - cost of sales
operating profit
gross profit - expenses
net profit
operating profit - tax
adv of income statements
+ shows profit/ loss
+ help fix issues
+ shows where/ how much you’re spending
+ formulate future objectives
+ investors - shows profit or loss
disadv of income statements
- stops future investment if bad
- not specific expenditures
- only published once a year so delayed
- does not look at non- revenue success factors (rep/ brand image)
cash flow
the movement of money in and out of a business
opening balance
closing balance of cash from the previous month
closing balance
net cash flow + opening balance
net cash flow
represents money produced if lost by a business over a period of time
total inflows - total outflows
adv of cash flow
+ determine how much cash your business makes
+ insight into short-term financial viability
+ positive cash flow = strong chance of success
disadv of cash flow
- positive cf is not always good (loan) will have to pay it back
- neg cf is not always bad (investment) boost future rev
overcome cf issues
short term: overdraft, delayed payments to suppliers
long term: raise price, loan, invoice promptly
why use cf forecast
planning to deal w neg cf
setting prices
evaluate costs
looked at by banks and porte risk investors
suppliers - if they can be payed
budgets
an estimate of income and expenditure for a set period
variance
actual expense - budgeted amount of expenses
% of budget
actual - budget
ans / original budget x 100
why budget
staff motivation
monitor performance
corrective action is taken if results differ significantly
unaccounted variances are investigated
zero budgeting
setting all budgets at 0 and the manager of each department makes them
adv of zero budgeting
+ justify requirements
+ prevents same money being given each year without consideration
disadv of zero budgeting
short term perspective of long term situation
tiresome
time consuming
flexible budgets
allows businesses to make adjustments for change in sales so adverse variances are avoided
- cope w change
- taken into account immediately
current ratio
measures a companies availabilty to pay short term obligations or those due in one year
current assests/ current liabilities
acid test ratio
ability of a company to use its near cash or quick assets to retire its current liabilities immediately
current assets - inventory/ current liabilities
under 1- negative
1-1.5- perfect
over 2- business could be more proactive
gross profit margin
gross profit/ revenue x 100
net profit margin
measure of profitability
net income/ net sales x100
return on capital employed
comparing the rejective profitability of companies after taking into account the amount of capital used
operating profit/ capital employed x100
return on equity
measurd of the profitability in realtion to equity. all assets - all liabilities
profit for year/ shareholder equity
advantages of ratios
year to year comparison
stakeholders can assess if safe to trade w
can see if financial objectives have been met
decision making
disadvantages of ratios
infaltion may distort figures
external factors
cannog compare between businesses
net present value
net cashflow x discount factor
+ takes into account inflation
+ view on longterm investment
- time consuming
- your prediction could be wrong
average rate of return
annual return of investment
1. add up all positive cashflows
2. total cash inflows - cost of investment
3. profit/ years in chart = average annual profit
4. average annual profit/ cost of investment = ARR
evaluation of ARR
+ cashflow throughout investment
+ measures profitabilty
+ easy to calculate
- changes in inflation
payback period
amount of time it will take to repay the initial capital cost
longer payback period = greater risk
cummulative cf/ net cf x 365
qualitative factors of investment appraisal
resources available - enough resources for success
economy - level of inflation may impact discount factor
data sources - market research
decisions - who is making them, own agendas
statement of financial position
the financial position of a business at a given time
includes: current assets, current liabilities, working capital
working capital
current assets - current liabilties
stakeholder interest of statement of finacial position
bank - see if the business has ability to pay off a loan
potential shareholders - if business could/ would give good dividends
evaluation of SOFP
+ compare between statements
+ how much bus is worth
+ ability to pay short term liabilities
+ securing a loan
- no profit or trading
- assets could be over valued
net current assets
currents assets - current liabilities
net assets
non current assets + net current assets - long term liabilities
current assets
the ones you can liquidate to make a profit within a year
non current assets
assets needed to generate income
current liabilities
liabilities to be payed off in the next year
non current liabilities
long term paybacks like a loan
depreciation
a reduction in the value of assets overtime. business must estimate the residual value of assets
straight line method of depreciation
purchase price - residual value/ number of years
assets will reduce by same amount each year
cash flow statement
what has actually came in and out of the business
profit centres
separating profits by different types of sections
e.g products, location etc
advantages of profit centres
provides insight into where profit is earned
comparisons can be made between similar centres
finance solvated more efficiently
supports budget controls and sets targets
can motivate those in control of profit centres
disadvantages of profit centres
time consuming
may lead to conflict between different sections of the business
difficulties attributing costs and revenues
profit centres may persue own objectives over wider business
standard costing
the cost a business would normally get for the production of a product.
standard is expected
advantages of standard costing
good idea of target costs
employees have targets to aim for
disadvantages of standard costing
time consuming
quality down
i’m a irate measure if don’t done all the time
reducing balance
taking into account that assets don’t depreciate by the same amount each year
reducing balance calculation
if it depreciates by 20% and machinery is worth £100000 then you do £100000 x 0.2
then £80,000 x 0.2
positive straight line method
expenses lower first few years
higher valuation of fixed assets first few years
higher valuation of share price for rat few years
value of business will be inflated(can get more loans etc)
depreciation lower first few years
negative straight line method
estimation of residual value must be made
assets may last longer when first considered
value of bus will be inflated - may not be able to pay off loans
net realisable value
stock should always be valued at lowest stock
stepped fixed costs
if a business continues to increase production they may need to purchase additional machinery to increase capacity. this is therefore increasing their fixed costs
standard costing
cost a business would normally expect for the production of a product
absorption costing
allocating costs to the department it comes from
gearing
how much the bus is funded my loans
non current liabilities/ capital employed x100
capital employed = equity + NCL
low gearing
this is bad as you are missing out on potential to grow.
adv low gear - keeps costs down, easier for future borrowing.
better for smaller business
high gearing
business may struggle to repay debts. bad if variable rate.
adv high gear - cheap, fewer shareholders to worry about, buying back shares is easy
better for bigger business
interest cover
ability a business has to pay back its debts
operating profit/ interest payable
how many times a business can repay its debts
if below one business can’t pay debts
creditor days
is business taking full advantage of trade credit available? average time it takes bus to settle debts
trade payables/ cost of sales x365
creditor turnover
how many times business pays its creditors in one year
cost of sales/ trade payables.
higher figure is better as improve CF in business. can suggest liquidity problems
debtor days
how long it takes debtors to settle bills w ur business
trade receivables/ revenue
should be lower then creditor days
debtor turnover
revenue/ trade receivables
non current assets turnover
relationship between NCA and revenue, everyone £1 of nca it will generate x amount of sales
revenue/ non current assets. obvs depends if capital or labour intensive.
higher figure means assets are more productive
inventory turnover
how quick a bus can sell the amount of stock it holds.
cost of sales/ average stock
average stock = opening stock + closing stock / 2
higher turnover is better for the business
inventory days
how quick they sell through stock they hold
average stock/ cost of sales x365
dividend per share
amount of return payed to shareholder per share
total dividend payed/ number of shares issued
dividend yield
annual percentage return on share
dividend per share/ market price per share x100
earnings per share
amount of profit/loss earned by each individual share after tax
profit for year/ number of issued ordinary shares
price earnings
comparison between market share and earnings for share. how much does investor pay?
current market price/ earnings per share
accounting - accruals
revenue and expenses are recorded when they occur and not when cash is received or payed out
accounting - consistency
once a method has been chosen it should always be used unless agreed otherwise
