Finance Flashcards

Question

What are other businesses as a source of finance?

Answer 1

Other businesses may wish to invest in startups if they have surplus profit and they get good return on their investment

Answer 2

A method of

Answer 3

A method of finance is the use/type of finance or what the finance will be used for

Answer 4

Loans are where a fixed amount of money is borrowed and paid back over a fixed period of time with interest The amount paid back depends on the interest rate and length of time taken for the loan Banks will lend to small businesses but may not lend when they first start up as there is no track record or history of them making money Loans are quick to set up and security may be required for a loan such as a house in-case loan isn't repaid Loans are a good long-term source of finance for start up businesses paying for assets

Answer 5

Pros: -As the loan is fixed for a certain length of rime the business owner can plan ahead and knows exactly what the repayment will be and when they leave the bank account -Banks will not ask for a % of the business ot get involved in the running of the business - Straight forward process getting into highstreet banks apply for loans Cons: - A bank will charge interest on the loan -Not very flexible businesses may incuyr a penalty if they settle loan early - A bank will ask for security for coll - Very expensive source of finance - Not suitable for large amounts over a long period of time

Answer 6

Share capital is private and public companies who can be financed in the long term using ordinary share capital Share capital is money raised by selling shares This is an external long-term method of finance but would apply apply for businesses with plc after their name.

Answer 7

Pros: - Investors are often prepared to provide extra funding as the business grows - More cost effective way to raise finance than a loan- no interest to pay back - Finance is based on acquiring more equity rather than getting into further debt Cons: - Potential investors may reuqire a great deal of background information before they buy the shares - The more the shares are sold the more profit have to be divided up and paid out to investors and as dividends - Can be expesnive and slow process to organise

Answer 8

Venture capital is money that can be used as a method of finance for a bsuiness that is at huge risk but has potential to be successful could be a business that is just starting up or an existing business that is wanting to grow Venture capitalists invest large sums of money into businesses in return for shares of the business and will typically VCs will invest at least £50,ooo in a small regional business and can rise into millions

Answer 9

Pros: - Useful if business is looking to raise large amount of money in short space of time -The business gets all the skills of venture capiyal business their network and links may incrwase revenue streams -great for owners who have been refused a loan from the bank Cons: - Venture cpital firms typically want 20-30% stake in the business - venture capital firms look for a strong business plan sound managemnt and a proven track record making it difficult for some start up businesses to attract investment

Answer 10

Overdrafts is where a bank lets a business have a negative amount of money in its bank account short term lending of small amount of money once arranged a business can dip into it or pay it back as they fit overdrafts are easy to arrange and flexible and can borrow as little or as much as they need

Answer 11

Pros: - This would be ideal as a quick fix method to lift the business over a difficult month of trading -An overdraft can be arranged on the phone or online with an instant decsion from bak -The business will only pay interest on the amount of money - As soon as business improves they can repay the overdraft Cons: -If the business goes over the amount the overdraft will be unauthorised and business will be charged heavily - Very expensive source of finance- very high charges and interest rates - Not suitavle for a large amounts over a lomg period of time

Answer 12

Leasing if a business doesnt have enough money to buy new assets they can lease assets instead Leasing means paying in monthly sums over a set period of time After leasing item is returned and they will never own the asset

Answer 13

Pros: - Lower monthly costs for a business than a loan - Can be arranged withput any advanced fees being paid - The leasing firm maintain the equipment on and will be up to date and wont be faulty Cons: - Leasing is often over a fixed term if the business changes its mind and wants to lease from a diff company contracts may be difficult to cut off - Can be costly

Answer 14

Trade credit is when a business buys a good or service and doesn't have to pay straight away the business pays within an agreed time limit (30-90 days) of receiving the products The buyer has time to sell the goods in their own shop before they have to pay for their own may give business a discount

Answer 15

Pros: - Businesses can sell the goods before they hold the needs to be paid for so can make profit before costs need to be paid -No interest has ro be paid on trade credit - Businesses that pay reguarly on time can build relationships with their suppliers secure better deals - Helps with cash flow Cons: - Not all stock is avaliable to buy using the trade credit method only applies to certain industries - If the business does not pay in time they risk being refused further credit by supplier in the future - Miss out on discounts

Answer 16

A grant is a fixed sum of money given to a business often by the government in order to overcome problems of unemployment and are usually given fund specific projects in a business Government grants do not usually have to be paid back and are businesses keep full control of business A business needs to apply for their grant and supply lots of information

Answer 17

Pros: - The business wont have to pay back the grant - Unlike a loan there will be no interest to pau - The business owner will get funds without any loss of control of the business - Application process forces the business to think thoroughly about their decision Cons: -A business will have to find a grant that suits their specific project which can be difficult - There's lots of competition for grants -The business may be exposed to match the funds they are awarded - Grants usually awarded for proposed projects not others that have already started - Application process can be complex and time consuming. -

Answer 18

The business owners and business are seen as one under the law This is the case for sole traders and partnerships This means business debts become personal debts of the owners and businesses can be forced to sell personal assets

Answer 19

Owners arent personally responsible for the debts of the business The share holders of both private and public companies have limited liability because a limited company has a seperate legal identity to its owners The most the shareholders can lose if business fails is the money they invested

Answer 20

-Businesses with limited liability usually find it easier to encourage people (angels) to invest in their business as people are more willing to invest knowing they wont lose any money - Can raise lots of finance via share capital

Answer 21

- Harder to encourage investors - Sole traders and partnerships are likley to rely on internal sources of finance and external sources that dont require investor to become part owner - Arent owned by share holders so cant rely on share capital however they can encourage people to invest for a share of the business but their unlimited liability may limit amount of money and number of people they can encourage - Some cases it is easier to raise finance -If a business becomes limited investors may be wary that they are trying to protect themselves as they know the business is risky

Answer 22

A business plan is a document that aligns what a business plans to achieve and how it plans to achieve it. Plans are important for new businesses but it is also important for established businesses as a way of monitoring performance and keeping on track

Answer 23

A good business plan should include: - A business overview who is setting up the business? why? etc - The businesses aims and objectives - The marketing sales stratergy - details of who will work in the business Financial forcecasts ( break even, cash flow, budgets, profit etc)

Answer 24

Cash flow forecasts show cash inflows and cash outflows and they show the amount of money that managers expect to flow into the business and flow out of the business over a period of time

Answer 25

Cash-inflows are sums of money received by a business e.g. from product sales or loans

Answer 26

Cash outflows are sums of money paid out by a business e.g. to buy raw materials or pay wages

Answer 27

Working capital is the amount of cash that a business has available for day-day spending Businesses need to pay out money for costs of producing an order before they get paid for the order so they need to make sure they always have enough working capital available

Answer 28

Debtors are people who owe the business money and the owed money is known as receivable This happens when a customer buys a product they might not get the money straight away ( customer may get the product on credit)

Answer 29

Creditors are people who are owed money by the business and the money is known as payable This occurs if business buys goods using Trade-credit and doesnt pay the supplier straight away

Answer 30

- used by managers to make sure they always have enough cash to pay suppliers and employees - can predict when the business will be short of cash and organise a loan or overdraft - Businesses include forecasts in their business plans as sources of finance will want to see the forecasts when deciding to give the business a loan - cash flow forecasts prove that businesses have done their research and have an idea of where theyll be in the future - can check firm isnt holding too much cash

Answer 31

- Good cash flow forecasting needs lots of experience and research into the market so it is time consuming - Businesses exist in dynamic markets where circumstances can change suddenly and frequently - Competitors can enter or leave the market - Businesses may need to make changes to some activities due to these changes in cash flow - An inaccurate cash flow can be disastorous as businesses that run out of cash will become insolvent and have to close down the business

Answer 32

Sales forecasting is predicting future sales volume and sales revenue based ob the past sales data and market research

Answer 33

-Sales revenue is usually a firms main source of cash inflows so sales forecast is important to be able to generate accurate cash flow forecasts - Helps a firm to know when it might need more finance to prevent running out of cash

Answer 34

- Firms use different marketing methods to drive sales - Sales forecast and actions of the marketing department are closely linked

Answer 35

-How much of a product a firm sells affects how many resources it needs - More of the product sold= more resources needed - Sales forecast helps to make sure the firm has all the resources it needs so it can meet the predicted demand but doesnt waste money on resources it needs when sales are expected to be low

Answer 36

Consumer trends: sometimes these are predictable ( more people buy fairy lights at christmas) but sometimes they are more uncertain ( scientific research in 2010s showing butter isnt bad for health) Economic variables: changes in economic variakes affects how much disposable income and therefore how many products they buy how much it changes depend son the nature of the firm and the products it sells Actions of competitors: if a competitor decreases their prices or launches a new product a firms predicted sales may decrease

Answer 37

- A accurate sales forecast are very hard to make and especially in dynamic markets when external factors are constantly changing - Difficult to know in advance how the factors are gonna change -Difficult know the knock on effects - difficult to make accurate sales forcast

Answer 38

Break even analysis is a method of determining the level of sales at which an will either make profit or a loss

Answer 39

The break even point is the level of sales a business needs to cover its costs

Answer 40

Businesses make a profit when sales are above the break even point as revenue exceeds costs

Answer 41

A business makes a loss when sales are below the break even point as costs are more than revenue

Answer 42

- New businesses should always do a BEA to find the BEp as it tells the business how much they need to sell to break even - Anyone thinking to loan money to a business may want to see BEA as a part of their business plan as it helps them to decided whether to lend the money - Established businesses use break even when preparing to launch new products to work out how much profit theyre likley to make and predict the impact it will have on their cash flow

Answer 43

Contribution per unit is the difference between the selling price of a product and the variable cost it takes to produce the product

Answer 44

Contribution per unit= selling price - variable costs per unit

Answer 45

Total contribuion is used to pay fixed costs and the amount left over is profit

Answer 46

Break even point = total fixed costs / contribution per unit

Answer 47

Break even chart shows the costs and revenue plotted against the revenue

Answer 48

The margain of saftey is the amount sales can fall before the break even point is reached and the business makes no profit

Answer 49

Margain of saftey = actual output - break even point

Answer 50

benefits : - Its easy to do if you can plot figures on a graph accurately you can do break even analysis - Its quick managers can see the break even output and margin of saftey immediately so they can take quick actions to cit costs or increase sales if they need to increase MOS - BEA lets businesses forecast how variations in sales will affect costs revenue and profit and how the variations in price and costs will affect how much they need to sell - Businesses can use break even anaylis to help persuade sources of finance to give them money - Break even analysis influences decisons on whether new products are launched or not Drawbacks: - BEA assumes that VC always rise steadily this isnt always the case - BEA is simpel for a single product but most businesses sell lots of products so it becomes complicated - If data is inaccurate results will be wrong - BEA assumes the business sells products without any waste - BEA only tells you have much you need to sell not how much you're going to sell

Answer 51

A budget is a financial plan for the future * it forecasts future earnings and future sprending usually over a 12 month period

Answer 52

Income budgets forecasts the amount of money that will come into the business as revenue - The business needs to predict how much it will sell and at what prices - Managers estimate this using sales figures from previous years as well as market research - To set income budget businesses research and predict how sales are going to go up and down through the year

Answer 53

Expenditure budget = predict what the businesses total costs will be for the year and taking into account both fixed and variable costs - variable costs increase with output so managers must predict output based on sales estimates - EB is often broken down into department EB each department is allocated a certain amount of money to spend

Answer 54

Profit budget = uses the income budget minus the expenditure budget to calcuate expoecrted profit or loss will be fir the year

Answer 55

Budget holders = people who are responsible for spending each budget - despartment expenditure budgets are broken down into budgets for specific activities within the department

Answer 56

Benefits: - Targets could motivate workers as it gives them something to work towards - Help to control income and expenditure - Help managers to review activities and decsions - Departments can coordainate spending - Help persuade invertsors that the busienss will be succesfull Drawbacks: - Can cause resentment and rivarly if departments compete - Restrictive - not chaning to makret conditons (pestle) - Time consuomh (opportunity cost) - Inflation is difficult to precit ( economy) - Start up businesses may striggel to get data from other firms so may be inaccurate - Use it or lose it mentality

Answer 57

Zero based budgeting = when start up businesses have to develop their budgets from scratch - BHS start with a £0 budget and have to get approval to spend money on activities - Figures used in budget are based on potential performance so they need to plan all years activities and ask for money on them and be prepared to justify their request to finance director -takes longer than historical - If done properly more accurate than historical

Answer 58

Historical budget = the budgets are updated each year based on percenyahe increase or decrease from last years budget - can be quicker but assumes codntions are unchangebale

Answer 59

Fixed budgeting means budget holders jave to stick to their budget plams thrpughput the year even if conditions change - this can prevent a firm reacting to new opportunities and threats that they didnt know about when they set the budget - Provide discpline and certainity which helps to control cash flow

Answer 60

Flexible budget allows budgets to be altered in response to significant changes in the market or economy

Answer 61

Variance = the difference between actual figures and budgeted figures - a variance means the business is performing worse or better than expected

Answer 62

A favourable variance = occurs when a firm is performing better than expected - it can be called a positive variance - if revenue or profit is more than the budget says - if costs are below cost predictions

Answer 63

Adverse variance = occurs when a form is performing worse than expected- it can be called a negative variance - selling fewer items than income budget predicted - spending more on marketing than expected

Answer 64

Variance = actual figure - budgeted figure

Answer 65

Cumulative variance = all the variances added up and combined as one

Answer 66

Internal : - improving efficiency causes favourable variances - a firm may over estimate the amount of money it can save by streamlining the production methods - a firm might under estimate the cost of making a change to its organisation - changing selling price changes revenue which creates a variance Internal causes of a variance are a big concern as it suggests internal communication needs improving

Answer 67

Small variances aren’t a problem as they can help to motivate workers - staff try to catch up and sort out small variances themselves

Answer 68

Large variances can demotivate staff as staff don’t work hard if they have a large favourable variance as they don’t see the need and large adverse variances may seem impossible to overcome

Answer 69

- They can change the marketing mix. Cutting prices will increase sales but only if demand is price elastic. Updating the product might make it look more attractive to customers. Businesses can also look for a new market for the producy , or change the promotional stratergy - Streamlining production makes the business more efficient, so this reduces costs - Try to motivate employees to work harder - Businesses can try cut costs by asking their suppliers for a better deal - Businesses may need to do additional market research to improve forecasts in the future

Answer 70

- If a favourable variance is caused by a pessimistic budget, they can set more ambitious tagrets next time - If the variance is because of increase productivity in one part of the business they can try to get everyone doing wahtever was responsible fir the improvment and set higher targets in the next budget - A favourable variance could indicate more sales than predicted so a business may need to increase the production of a product or take on additional staff to meet demand.

Answer 71

Profit is the difference between total revenue and total costs

Answer 72

Percentage change in profit = current years profit - previous years profit / previous years profit x 100

Answer 73

Gross profit is the amount left over when the costs of sales is subtratced from total revenue. Cost of sales is the costs directly realted to making the product

Answer 74

Gross profit = total revenue - cost of sales

Answer 75

Operating profit considers both the costs of sales and operating expenses such as administrative expenses. If a businesses gross profit is increasing but its operating profit is decreasing it usuaully means the business is not controlling

Answer 76

Operating profit = gross profit - other operating costs

Answer 77

Profit for the year ( net profit) takes into consideration the cost of any interest the business has to pay for borrowing money

Answer 78

Net profit = operating profit - interest

Answer 79

A statement of comprehensive income ( also known as a profit and loss account) shows how much money has been coming into the business ( revenue) and how much has been going out over a period of rime (expenses).

Answer 80

Profit margin = measure the relationship between the profit made and the revenue. They tell you what percentage of the selling price if a product is actually profit

Answer 81

Profitability = the amount of profit relative to revenue or investment

Answer 82

The gross profit margin (GPM) measures gross profit as a percentage of revenue GPM = gross profit / revenue x 100 - Depends on the business what counts as good GPM- higher percentage usually better - GPM can be improved by increasing prices or reducing the direct cost of sales

Answer 83

The operating profit margin ( OPM) takes into account all the costs of regular trading OPM = operating profit/ revenue x 100

Answer 84

Net profit measures the profit for the year as a percentage of revenue NPM = net profit/ revenue x 100

Answer 85

- Businesses can improve their profit margins by increasing their revenue- they could do this by increasing the prices, or reducing their prices to increase demand - They could improve product quality which could lead to greater sales vokume and possibly a higher selling price, both of which could increase revenue - Reducing costs of sales - To increase OPM they could reduce operating expenses

Answer 86

Profit = is the money that a business has left from its revenue once costs have been paid Cash = what a business has now to pay its bills. Cash is constantly flowing in and out of a business.

Answer 87

**Statement of financial position** can also be called balance sheets They are a snapshot of a firms finances at a fixed point in time They show **the value of all the businesses assets** ( things that velong to the business, including cash in the bank) and all its** liabilities ** ( the money the business owes) They show all **the value of all the capital **(money invested into the business) and the **source of that capital** ( loans etc)

Answer 88

**Current assets **are assets that the business is **likley to exhcange for cash within the accounting year, **before the nextstatement of financial position is made. All the current assets are added togehthee to give the **total current aseets value. Current assets include recieveables, and invetory. **Non current assets **are assets taht the business** is likely to keep for more than a year** ( property). The total non- current assets value is the combined value of all the businesses non current assets - they often lose value overtime and this is called depreciation .

Answer 89

**Current liabilities** = are debts wgich need to be paid off within a year. they include overdrafts, taxes due to be paid, payables ( money owed to creditors) and dividends due to be paid to shareholders. Total current liabilities are deducted from total non current and current assets to give the value of assets employed **Non current liabilities** = are debts that the business will pay off over several years ( mortgages and loans)

Answer 90

The net assets value is the totatl fixed and current assets minus rotal current and non current liabilities - It is always the same as the total equity value Total equity= the total of all the money thats been put into the business

Answer 91

current assets- current liabilities

Answer 92

Retained profit= value of money retained by the business and not given back to shareholders as dividends.

Answer 93

Bad debts= debts that dont get paid and cant be included on the statement of financial position as an asset

Answer 94

**The liquidity of an asset is how easily it can be turned into cash and used to buy things** -Cash is very liquid, non current assets such as factories are not liquid, and inventory and money owned by debtors ( receivables) are in between - A business that doesn't have enough current assets to pay its liabilities when they are due is insolvent, either has to quickly find money to pay them o=, ask creditors if it can pay its debt over long period of time or go into liquidation ( cease trading and sell all of its assets to pay off its debts) - Liquidity can be improved by decreasing stock levels, speeding up collection of debts owed to the business, or slowing down payments to creditors

Answer 95

The current ration compares current assets to current liabilities Current ration = current assets/ current liabilities The current ratio should be higher than 1. 1.5-2 is considered ideal - Much below 1.5 is considered a liqudity problem - A value much higher than 2 suggests firm has more assets than it really needs

Answer 96

The acid test ration is a tougher measure of liquidity than current ratio as it accounts for the inventory Inventory can take a long time to sell or it might not sell at all- by removing inventory from current assets it gives a more accurate measure of the ability of the firm to pay its current liabilites Acid test ratio= current assets- inventory / current liabilities *Most businesses should have an acid ratio higher than 1

Answer 97

Working capital is the amount of cash ( and assets that can be easily turned into cash) that the business has avaliable to pay its day-day debts. The more working capital a business has the more liquid it is.

Answer 98

Working capital = current assets - current liabilities

Answer 99

Businesses need just enough cash to pay short term debts but they shouldn't have too much cash -spare cash is great at paying off debts but lousy at earning for the business

Answer 100

Business failure is when a business can no longer stay open because it isn't making enough money to cover its costs. The business isn't able to continue trading and shuts down while still owing people money. - A business usually fails because it doesn't have enough cash to pay current liabilities - A businesses lack of cash ( and therefore failure) can be due to inside the business factors and outside the business, and these can be financial or non financial factors.

Answer 101

-**Bad management of working capital**can cause business failure. This can result in a business not having enough cash avaliable to pay its day-day running costs such as paying suppliers and employees. If the business cant pay these costs it will quickly fail. A business needs to have accurate cash flow forecasting to make sure this doesnt happen - **Poor efficiency can lead to business failure.**This is becayse a business with poor efficiency has costs that arent as low as they could be. This could man that they need to charge higher prices than their competitors to still make a profit, which could lead to them not generating the revenue needed to keep operating - **Bad decsions about how a firm is financed** can lead to business failure. For example, a firm may rely on expensive forms of finsncr such as overdrafts in the long term meaning costs are very high. It may also take on too much debt at once and retain very little profit. If it needs more finance in the future to prevent it from failing it may find it very difficult to find a source of financr willing to lend it money at an affordable interest rate.

Answer 102

-Poor communication can result in business failure because it can mean that the different departments of the business arent working well together which reduces the efficiency of the business. It also means that messages about problems that arise and stratergies to fix them arent being passed on effectivley between managers and workers on different departments meaning they dont get resolved quickly. - Inadequate market research and analysis means the business fails to monitor changes in the market that could effect it such as customers needs and preference. If a business doesnt sell products that people want to buy then there will be low demand for the products. May mean a lack of revenue and the business runs out of money that it needs to pay for expenses - Marketing is used to drive demand for products. If marketing isnt done well ( at right time or strongly enough) then sales might not be high enough to generate sales revenue to cover businesses costs - Failure to innovate can cause business failure. If a business fails to keep up with consumer preferencres by lacking innovative new products its likley to fail.

Answer 103

Economic recession can result in consumers having less money to spend. This can cause a fall in sales especially for luxury items ( items with positibe income elascity more than 1) - A change in exchange rates can also have huge effects on demand for a firms product. If the pound strengthend then foreign firms exporting goods to the UK would offer cheaper prices than firms inside the UK. This would mean that the demand for imports would increase and would lead to a fall in demand for domestic goods. Also the demand for exports from the UK by other countries would decrease as it would be more expensive. This could lead to firms having to close if they couldn't compete in long term with cheaper rivals or if they lost too many oversea customers

Answer 104

The actions of competitors are a common cause of business failure. If competitors are able to offer a similar product at a lower price or develop new prodicys yjat are more desirable customers may choose the competitors. Cause firms sales to fall loss of revenue and business failure - A change in consumer trends can lead to business failure, If customers suddenly stop wanting to buy a product then this will cause a sudden drop in revenue unless the business has a wide range of products and can react quickly. - Poor communication outside of the business can cause failure. If business fails to communicate well with suppliers it could lose suppliers and may not be able to keep up production of products. Also if communication with customers is poor the business may get a bad reputation for poor customer service which may result in a loss of revenue and potentially business failure.

Answer 105

The factors that are most likley to cause a business to fail depends on lots of things such as the experience of owners, size of the business and the product and market its in. - Businesses that operate in a dynamic market such as tech market, a lack of innovation can be a big cause of business failure - For businesses that sell very price elastic products, economic changes increase the relative price of products and can have a big effect on demand - Large and fast growing businesses are more likely to fail due to communication problems compared to smaller or slower growing firms

Answer 106

- A business with long working capital cycle needs more cash than a business with short working capital cycle ( has to wait for money to come in) - Inflation increases the costs of wages and buying or holding stock, so businesses need more cash when inflation is igh - When a business expands it needs more cash to avoid overtrading Overtrading= means producing so much that the business cant afford to pay its suppliers until it gets paid by its customers

Answer 107

The working capital cycle= the length of time between buying raw materials and getting cash from sales of the finished product usually measured in days

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