Finance Flashcards
What should a business consider when choosing a source of finance?
What the business intends to use the finance for
The amount of finance needed
The length of time it is needed
The repayment terms
The type of business
Describe a loan from friends and family
This is borrowing money from family and friends
What are the advantages of a loan from friends and family
Likely to be more flexible with repayment terms
May not add interest to the amount borrowed
What are the disadvantages of a loan from friends and family
Disputes may occur between family members
Describe a bank overdraft
This is an agreement between the bank and the business to withdraw more funds from a bank account than are currently available i.e. the business will have a negative balance.
What are the advantages of a bank overdraft
A customer can spend more than they have in their bank account up to an agreed limit.
Interest is only charged on the amount overdrawn
What are the disadvantages of a bank overdraft
Interest is charged daily and tends to be a higher rate than a bank loan.
The facility may be withdrawn immediately if the limit is exceeded.
Describe trade credit
This is the length of time the business has to pay for goods they have purchased from suppliers, on credit e.g. 28 days
What are the advantages of trade credit
The products can be sold at a profit before the business has to pay their suppliers
What are the disadvantages of trade credit
Will not benefit from prompt payment discount.
Suppliers may be reluctant to sell more goods on credit if the business does not pay on time.
Describe a grant
This is a source of finance from central or local government, Business Gateway or the Prince’s Trust.
What are the advantages of a grant
In most cases the money does not have to be repaid.
What are the disadvantages of a grant
It is usually a one-off payment and certain conditions, or criteria must be met before it can be obtained.
Usually the business is told what the money must be used for.
Describe a bank loan
This is when the business borrows a fixed amount of money, which is paid back in fixed instalments over a fixed period of time e.g. 3–10 years.
What are the advantages of a bank loan
The business can purchase machinery now and use it in the business to start generating profit
Repayments are spread over a period of time which improves cash flow.
What are the disadvantages of a bank loan
The business must ensure it can pay all monthly instalments on time and in full
Interest is usually charged on top of the initial loan amount and so this can be a very expensive way of purchasing equipment and machinery.
Describe hire purchase
This is when a business buys an asset such as a delivery van and pays it back over period of time e.g. 36 months.
What are the advantages of hire purchase
Only a deposit is required when the asset is acquired
Therefore, the business can purchase items like machinery and equipment with only a small initial outlay of money.
What are the disadvantages of hire purchase
The business does not legally own the asset (machinery or equipment) until the last payment has been made.
Interest is usually charged and so it can be an overall more expensive way of purchasing large items.
Describe leasing
This is when a business rents an asset. The business never legally owns the asset.
What are the advantages of leasing
The leasing company will replace the asset if it breaks or becomes obsolete
The leaser is responsible for any repairs and maintenance.
What are the disadvantages of leasing
The business will never own the asset.
Rental charges or leasing costs could be higher than purchasing the asset in the first place.
Describe mortgage
This is when a large amount of money borrowed from the bank, over a long period of time, specifically to purchase land or premises e.g. shop, factory.
What are the advantages of mortgage
The business is given a long period of time (25 years) to pay the mortgage back
What are the disadvantages of mortgage
Interest is paid in addition to the initial amount borrowed
If the business cannot pay the mortgage back the bank can claim ownership of the property or land.
Describe retained profits
This is when a business may set aside profits each financial year which can be used to reinvest in the business at a later date, e.g. to purchase equipment.
What are the advantages of retained profits
There is no interest to be paid
The business is not incurring any debts
The business will own the assets straight away
What are the disadvantages of retained profits
If a business spends all of its retained profits it can run into cash flow problems.
The business may not be able to pay for unexpected costs or expenses as all profit has been spent.
Describe a share issue
This source of finance is only available to private (Ltd) or public (plc) limited companies. Ltd.’s will invite new shareholders to purchase shares
What are the advantages of a share issue
Large amounts of finance can be raised – particularly plc’s
Finance raised does not have to be repaid
What are the disadvantages of a share issue
Shareholders become part owners of the business
Shareholders need to be paid dividends each year
It is expensive to organise the sale of shares on the stock market (plc’s)
Describe crowdfunding
This is when the business receives small amounts of finance from a large number of people. This is usually done through social media or crowdfunding websites.
What are the advantages of crowdfunding
Access to a large amount of investors
Finance can be raised by a business which banks etc view as too risky
Usually the funds are donated so there is nothing to repay
What are the disadvantages of crowdfunding
Privacy can be a problem as ideas become public and can be copied by competitors
If the target amount is not reached the money raised is returned to investors and business is left with nothing
Describe cash budgeting
All businesses will have money coming in (cash inflows) and money going out (cash outflows)
A cash budget is used by a business to show when cash will come into and go out of the business – that is the timing of the cash flow
This is important as a business needs to make sure they have enough inflows to pay for their outflows when needed e.g. wages, rent
If a business does not have enough cash they could fail
A cash budget does not show profit
What are inflows
Money received from customers and other sources
Give examples of inflows
Revenue from sales
Capital invested by owners
Bank loan
Grant
What are outflows
Money paid out by the business for expenses
Give examples of outflows
Rent for premises
Utility bills e.g. gas, electricity
Suppliers
Wages and salaries to employees
What are receipts
Money coming in
What are payments
Money coming out
Describe the purpose of a cash budget
Highlights periods when a negative bank/cash balance is expected
Highlights when surplus cash will be available for investment
Allow corrective action to be taken for expected overspend
Help to avoid liquidity problems e.g. secure overdraft, bank loan in advance of it being needed.
Reduced uncertainty and allows a business to anticipate future problems
Describe the sources of cash flow problems
Suppliers only offer a short period of credit e.g. 14 days instead of 28 days
Purchasing assets e.g. a van, computer or machinery when the business cannot afford it
The owners withdraw too much money from the business
An unexpected increase in expenses
Borrowing more than the business can afford to repay
Describe ways to resolve cash flow problems
Increase advertising to make customers aware of product/service
Offer discounts to customers who pay cash when they make the purchase
Reduce borrowing by investing personal savings into the business
Arrange an overdraft or loan from the bank in advance
Reduce costs by cutting waste and increasing efficiency
Describe income statements
An income statement shows how much profit a business has made over a period of time (usually one year). The income statement has two sections:
Trading Account which shows the profit from buying and selling finished goods. This is known as the Gross Profit.
Profit and Loss Account which shows the profit after deducting all other expenses from Gross Profit. This is known as the Profit for the Year.
What are the trading account key terms?
Sales - The income (revenue) received by the business from selling its goods/services
Opening Inventory - The inventory left over from last year which can be sold in the current year
Purchases - The amount of inventory purchased in the current year
Closing Inventory - The amount of inventory left at the end of the current year which has not been sold (this becomes the opening inventory for the following year).
Cost of Sales - The cost of buying/making the products sold. The calculation is Opening Inventory add Purchases less Closing Inventory
Gross Profit - This is the profit made from selling products/services before other expenses are deducted. The calculation is Sales less Cost of Sales
What are the profit and loss account key terms?
Expenses - The expenses incurred in running the business e.g. telephone and utility bills (gas, electricity)
Profit of the Year - This is the actual profit made by the business after all expenses have been deducted. The calculation is Gross Profit (from the Trading Account) less expenses
What are the reasons for an income statement?
To compare performance with previous years
To assist with decision making
Legally required to produce an income statement
To calculate the tax payable by the business (based on profit)
To calculate the cost of sales for the year
What is the information in income statements used for?
It will help the business to identify reasons a profit or loss has been made. Managers can then take action to solve any problems, this usually means:
Increasing sales revenue
Reduce costs
Describe increasing sales revenue
Increased advertising
Short term sales promotions e.g. BOGOF
Expanding channels of distribution
Describe reducing costs
Find a cheaper supplier of inventory
Reduce number of employees
Reduce number of hours worked by employees (e.g. overtime)
Find a cheaper supplier of utilities e.g. gas
Buy stock in bulk to receive discounts
Use Just in Time inventory control
