Finance Flashcards
Break Even Analysis
Fixed costs - Costs that do not change with the level of product made or sold
Variable costs - Costs that do change with the level of product made or sold
Break even - sales = Total costs
3 distinct sections of the BEC model
A- Costs > Sales = loss
B- Break even point. Total costs = Total sales
C- Costs < Sales = profit
D- Margin of safety - Point between break even point and profit
Positives and Negatives of Break even chart
Contribution method:
Fixed costs / Selling price - Variable costs
Limitations:
- Assumes linear behaviour of costs and sales
- Doesn’t consider external influences
- Not accurate for all situations
Positives:
+Provides good visual representation
+Costs and sales can be altered to see different outcomes
+Helps businesses make important decisions
Cash Flow Forecasting - The prediction of what is likely to happen to the flow of cash
Opening balance - the amount of cash in the account when opened
Cash in - Receipts of cash
Cash out - Payments of cash
Net flow - Cash in minus cash out
Closing balance - Opening balance + Net flow gets carried to next month
Cash is needed by a business to thrive, a negative cash flow is a very big problem.
Cash flow problems
>A negative cash flow means the business account has over spent
>A negative cash flow means a business may need to recover the money
>A negative cash flow needs urgent attention
How a negative cash flow can be managed:
> Overdraft - short term loan from bank or financial provider
Credit terms with suppliers
Call in debts and debtors
Sell assets
Cash is more important than profit, debt can be negotiated if someone knows your cash position.
Overdraft \+Quick to arrange \+Immediate source of cash -Expensive -High interest charges -Puts you in a worse position
Budgets
>A budget is a plan of what someone thinks is going to happen
>Businesses will budget based on expected sales and expenditure for usually 1 year
>Budgets must be linked to business objectives and relative
Accurate Budgeting:
>The accuracy is measured using variance analysis
Variance = Budget - Actual Figures
Favourable Variance = In your favour
Adverse Variance = Not in your favour
Forecasting Income and Expenditure
>Process must be specific and careful
>Identify income sources and expenditure
>Allow comparisons between other items
Income sources: >Grants >Donations >Investments >Extraordinary items
Managing budgets:
>Favourable variance could show a missed opportunity for profit
>Adverse variance may create suffering and investors may second guess it
How to budget:
>Historical using past information
>Zero based budgeting starting with market research
>Activity based - More specific to each activity
Profit and Loss account
Row 1 - Sales
Row 2 - Cost of Sales = Your opening stock + Purchases during the year - Closing stock
Row 3 - Gross Profit = Sales - Cost of sales
Row 4 - Operating profit = Gross profit - Operating costs
Row 5 - Net Profit = Operating Profit - Tax
1
Profit
Profit Mark Up - Method used to set price up easily = Cost of manufacture + % of cost = Product Price
Profit Margin - A Measure of the profit as a percentage of the sales price = Any profit / Sales X 100
How to affect gross profit
>Increase selling price
>Reduce selling price to increase sales
>Reducing costs - negotiating lower costs with suppliers
How to affect operating profit
>Control overheads
>Difficult to affect in the short term
Contribution = Sales price - Variable costs only
Profit = Sales price - (Variable + Fixed Costs)
Profit and Cash flow are similar but must be treated separately.
> A positive cash flow is not a profit
A profit or loss considers ALL sales and costs
A cash flow only considers cash transactions
Profit and Loss Account calculations
> Net cash flow: Cash receipts - Cash payments
Gross Profit: Total sales - Cost of sales
Operating profit: Gross profit - Overheads
Net profit: Operating profit - Tax
Balance sheets
>A balance sheet is a financial statement
>The purpose is to show how much a business is worth on a given day
>It is a legal requirement for private and public limited companies
>Can also he used for a number of other businesses
1) Fixed assets - Major items; land, cars, machinery
2) Current assets - People who owe money or items sold to generate money.
>Total assets = Fixed + Current assets
3) Current liabilities - Include people who owe money, can be suppliers.
4) Working capital - Current assets - liabilities
5) Net asset value = (Fixed+Current assets)- Current liabilities
6) Capital - The money belonging to the business
Financial Ratios of
>Profitability
Gross and net profitability are not much use on their own. They need to be compared between years.
Roce - Can be compared to other measures of return on a bank account.
Gross Profitability -> Gross profit/Sales X 100
>Uses Gross profit and sales figure from profit and loss
Net (operating) profitability-> Operating profit/sales X 100
>Uses net profit and sales figure from profit and loss
Return on Capital employed -> Net operating profit / Capital employed X 100
>Uses operating profit from p+l and Finance from balance sheet
>Used when looking to invest capital
Ratios for Liquidity
This is a proportional representation of the current assets to the current liabilities
Current assets:Current liabilities as a ratio
Higher assets is a good position for the business as all liabilities are covered.
The Acid Test Ratio:
Current Assets - stock:Current liabilities
This is also a proportion but the stock is not included. Stock is the least liquid of all current assets. Objective is to be no worse than 1:1.
Ratio for Solvency
> Solvency considers the value of businesses and the level of long term loans that are used to finance the value of the business.
The level of solvency is referred to the level of gearing.
Formula:
Long term liabilities / Value of business X 100
