Finance (Mr Gibbins) Flashcards
Overdraft
Short term and flexible source of finance with high interest.
Name a benefit of an overdraft.
- Relatively easy to arrange.
- Flexible.
- Interest (only paid on amount borrowed)
Name a drawback of overdrafts.
- Can be withdrawn at short notice.
- Interest charge varies.
- Higher interest rates than a bank loan.
Factoring
A way a business can raise cash by selling their sales invoices to a third party at a discount.
Name a benefit of factoring.
- Receivables are turned into cash quickly.
- Business can focus on selling rather than collecting debts.
Name a drawback of factoring.
- Quite a high cost.
- Customers may feel their relationship with the business has changed.
Trade Credit
Amounts owed to suppliers for goods/services supplied on credit and not yet paid for.
Benefit of trade credit.
- Effectively ‘free’ finance.
- Flexible.
- Commonly available and expected.
Drawback of trade credit.
- Wrong to abuse supplier goodwill.
- Costs of non-payment.
Bank Loan
Loan provided over a fixed period.
Benefit of bank loans.
- Greater certainty of funding.
- Lower interest rate than overdraft.
Drawback of bank loans.
- Requires security.
- Harder to set up.
- Interest paid on full amount outstanding.
Leasing
A form of renting an asset; beneficial use of it without owning it.
Benefit of leasing.
- Predictable cash flows.
- Asset owner carries the risk.
- Lower interest rate than bank loan.
- Widely available.
Drawback of leasing.
- More expensive than buying asset outright?
- Do not own asset.
- May be difficult to cancel.
- May need a deposit.
Retained Profits
Earned from profitable trading.
Benefit of retained profit.
- Flexible
- business owners in control
- low cost.
Drawback of retained profits.
- A drain on finance if loss making.
- Danger of hoarding profits.
Debt
Finance provided through external parties.
Equity
Amount of finance by business owner.
Accounting
A process of control on the expenditure of a business and is a vehicle for the publication of figures for profit, value and cash.
Fixed costs (Indirect costs)
Do not change in relation to output.
Variable Costs (Direct costs)
Costs which change as output varies.
Contribution
What a business needs to achieve from selling products in order to first cover its fixed costs and thereafter make a profit.
Total contribution equation
Revenue - total variable costs.
Break-even
The profit at which cost and income are equal and there is neither profit or loss.
Strength of breakeven
- Helps to gain finance.
- Identifies margin of safety, used to forecast.
- Calculations quick and easy.
Limitation of break even
- Unrealistic assumptions (different prices)
- Variable costs do not always stay the same.
- Most businesses sell more than one product so hard to calculate.
Investment Appraisal
The process of analysing whether investment projects are worthwhile.
Benefit of Payback periods
- Simple and easy to calculate
- Focuses on cash flows
- Straight forward to competing markets.
Drawback of payback periods
- ignores cash flows after payback has been reached.
- ignores qualitative aspects of a decision.
ARR equation
Average annual return / investment
Advantage of average rate of return (ARR)
- looks at whole profitability of a product
- can be compared with a target return.
Disadvantage of average rate of return (ARR)
- does not take into account cash flows.
- no account of the time value of money.
