Finance and Accounting Flashcards
Purpose of accounts for stakeholders
- By referring to its accounts, an organisation can analyse its performance in terms of profitability, liquidity, efficiency and gearing in combination with accounting rations. Given this, accounts allow senior managers to make adjustments to a tatical and strategic direction.
- Accounts satisfy legal requirements in the case of publicly traded companies and thus allow calculation of corparate tax liabilities demanded by the goverment.
- Accounts allow a degree of transparency on the company’s financial position to external stakeholders such as potential investors, lenders and suppliers.
In detail:
- Current and potential investors are especially concered with profitability and gearing aspects of the balance sheets. The wish to see the balance sheet over time and an picture of the external enviroment.
- Lenders of fund are concered with liquidity, profitability and gearing, and amount of fixed assets for collateral purposes.
- Suppliers will be interested with liquidity arising from the current assets and liability sections.
Sidenote: Nowadays, much is automated with software.
Final accounts to stakeholders
Published accounts that outline the performance of the company.
Internal accounts (aka. managerial accounts)
Very detailed and revealing accounts that are, for that reason, not made available to competitors or other external competitors.
Turnover
- Accounting: (1) The annual sales volume net of all discounts and sales taxes. (2) The number of times an asset (such as cash, inventory, raw materials) is replaced or revolves during an accounting period.
- Human resource management: The number of employees hired to replace those who left or were fired during a 12 month period.
- Finance: The volume or value of shares traded on a stock exchange during a day, month, or year.
examples of intangible assets
An asset that cannot be physically touched or seen.
- branding (reprising a personality trait, the power to define people)
- goodwill (typically in the form of ownership change with the acquirer paying more than the book value in recognition of the previous owner’s past branding efforts or workers working additional hours for no extra pay, which is an valuable asset for an organisation [e.g. health and education sector])
- patents (provide entrepreneurs with exclusive rights to use, sell or control their new invention; patents expire and therefore loose book value with each year)
- loyality?
Depreciation (HL)
A reduction in value of an asset over time, due to wear and tear.
- encourages forward planning
- appropriate price for customer
- is noted in the business balance sheet
The role of finance
Capital expenditure
&
Revenue expenditure
Capital expenditure - Long term
The purchase of fixed assets. It involves the purchase of resources that an organisation intends to keep for longer than one year and that help with the productive capacity now and in the future (e.g. buildings, machinery, vehicles).
Revenue expenditure - Short term
Fixed assets will need maintaining/repairing and these costs are counted as revenue expenditure. Working capital such as labour, material, electrical power.
Internal finance
- personal funds (for sole traders)
the initial contribution to start a business; is risky and may cause family conflict
- retained profit
retained earnings finance projects with no interest and dilution of ownership (might be perceived positively or negatively by stakeholders, depending on their objectives)
- sale of assets
a firm disposes of old fixed assets, which may weaken productive capacity, balance sheets and shareholders value and therefore be unpopular; however, with a good use of that cash, it can be popular too
- improving the working capital cycle
External finance
- share capital (sales of shares)
A publicly traded company may issue further shares to existing shareholders or to new shareholders. +Significant sums can be raised -dilution of ownership (debt vs euqity dilemma)
In order for the share issue to be successful, a clear growth objective or strategic plan will need to be given to encourage shareholders. Shares might not be purchased if the perception is that the funds are only going to pay off existing debts.
- loans & overdrafts
borrowing additional funds are loans; overdrafts are very short term while loans vary in duration from 1 to 30 years depending on the reason
- debentures
Fixed interest loans by firms or individuals. Debenture holders usually have first claim on firm’s asset if the company is put into liquidation and bankruptcy proceedings are started.
- trade credit
Offering trade credit means allowing customers to receive goods and services wihtout full upfront payment, or allowing discounts for early payment.
- grants & subsidies
Governments or local community bodies may provide grands and subsidies to encourage new business start-ups. A grant may be a simple sum and subsidies may allow discounts. No repay needed. However, usually small in size.
- debt factoring
It allows a third party or debt factor to collect an unpaid owed to a business. The debt factor charges a fee for this service.
- leasing
The firm sells an asset but then lease or hire it back to use without the responsibility of ownership.
- venture capital
volatile capital made available by individuals/institutions to be put into potentially profitable but risky projects. Sometimes, the investors are too short-term focused.
- business angels
the informal investment given by affluent individuals who seek potential investments and provide start-up capital in return for some ownership or equity stake. In contrast to the aggressive and more decision-making demand, the angles are more hands-off.
Financal timescales
short term – to meet immediate liquidity needs and those up to six months
medium term – achieve objectives within six months to two years
long term – longer-term strategic plans
The appropriateness, advantages and disadvantages of sources of finance for a given situation
Purpose and time considerations
For immediate liquidity concerns, an extension to a bank overdraft should be sufficient. For other short-term finance, internal methods may give quicker access to funds, like using profit reserves, rather than trying to raise external finance. An extension of credit or the use of a debt factor may be appropriate.
For medium-term financing, debentures or other external sources with fixed interest rates are appropriate.
For longer-term (larger sums), SWOT analysis and proffesional consultants are the most effective method.
Cost considerations
Planning and size are important factors in determining the cost of finance. Lazy planning will cost the business more money. TNCs have a economies of scale and trust of institutions.
The debt versus equity dilemma
In response to a new strategic plan or aim, does a large organisation issue more shares, and consequently dilute ownership for existing shareholders? This would raise more funds without the need to borrow and interests.
Or does the organisation allow more debt onto the balance sheet to finance this new strategic goal? However, if the new goal is poorly received, the organsiation keeps the existing level of control, there is no dilution and less potential threat of a takeover.
Types of cost
Fixed or indirect (overhead) – costs that have to be paid but are not dependent on the level of output, indrectly connected to product. (e.g. rent, insurance)
Variable or direct – output dependent costs, directly connect to product (e.g. material, wages)
Semi-variable – may be fixed costs intially but after a certain level of output may rise (e.g. electricity, telephone charges)
Total revenue (definition)
The amount of money generated from trading activities. The amount of debtors listed under current assets on a balance sheet can be counted as a form of deferred revenue.
Non-operating income refers to revenue earned things other than trading (e.g. dividends from investments).
Revenue streams
A method to collect revenue.
examples for online businesses
- subscription payments
- advertising fees
- transaction fees
- volume and unit selling
- franchising
- sponsorship and co-marketing partnerships
contribution (definitition and purpose)
Formulas:
contribution per unit
total contribution
profit calculated from contribution
Contribution can be used in calculating how many products need to be sold in order to cover a firm’s costs.
It determines how much a product contributes to its fixed costs and proft after deducing the variable costs.
It is important when determining the overall proftiability brought by a product (not the same as profit).
contribution per unit = price per unit - variable cost per unit
If a table sells for 150€ and its variable cost per table is 60€, then the business makes a contribution of 90€ per table towards paying its fixed costs.
- total contribution = total revenue - total variable cost*
- or*
- total contribution = contribution per unit x # of units sold*
Following from the above example, if the business sells 100 tables, then:
total contribution = (150 x 100) - (60 x 100) = 9,000€
profit = total contribution - total fixed costs
Purpose of break-even analysis
Break-even and contribution anaylsis are important decision-making tools.
Should organisation X release a new improved version of an existing product?
How many units of the new improved version the company will need to sell before it covers the osts of introducing it?
In case this improved version may not generate a large profit given the estimated break-even point is higher, what if the new version provides contribution to fixed or indirect costs and makes a small loss?
Dealing with liquidity problems
