Finance - Processes Flashcards
Planning and Implementing
Planning and Implementing
- Financial Needs
- Budgets
- Record Systems
- Financial Risks
- Financial Control
* debt and equity financing
* matching the terms and source of finance to business purpose
Planning and Implementing
Financial Planning
How a business’s goals will be achieved
Planning and Implementing
Financial Needs
Determined by business size, current lifecycle phase, future plans, capacity to source finance.
* Financial Management sets out the financial requirements
* Financial statements needed to show the business can achieve a retunr on investment
Planning and Implementing
Budgets
Provide info in quantitative terms, about requirements to achieve a particular purpose
* Operating»_space; main activities of the business and may include budgets relating to sales, production, raw materials, direct labour, expenses and COGS
* Project»_space; capital expenditure and research + development
* Financial»_space; financial data of a business. Include the budgeted income statement, balance sheet and cash flows.
* Income statement + balance sheet = results of operating activities + cash flow statement = liquidity
Planning and Implementing
Record Systems
Mechanisms employed, to ensure data is recorded + the info provided is accurate, reliable, efficient, + accessible.
- critical process = minimise errors in recording process
- Double Entry System»_space; used to avoid possibility of errors. Important control mechanism that balances entries + finds errors quickly.
Planning and Implementing
Financial Risks
The risks to a business of being unable to cover its financial obligations.
Planning and Implementing
Financial Controls
Policies + procedures that ensure that the plans of a business will be achieved in the most efficient way
Planning and Implement
Debt Financing
Relates to short and long-term borrowing from external sources
Advantages
* Funds are readily available + can be acquired at short notice
* Interest repayments are tax deductable
* Will not dilute the current ownership of the business
Disadvantages
* Increased risk if debt comes from variety of financial institutions due to interest changes
* Regular repayments need to be made
* Security may be required by the business
Planning and Implementing
Equity Financing
Relates to the internal source of finance in the business
Advantages
* Cheaper as there are no interest repayments
* Owners who have contributed to the business retain control over the finances
* Does not have to be repaid unless the owner leaves the business
Disadvantages
* Lower profits + returns for owners
* Expectation that the owner will have about the return on investment
* Ownership is diluted + current owners have less control
* Long + expensive process to get funds
Monitoring and Controlling
Monitoring and Controlling
cash flow statement
income statement
Monitoring and Controlling
Monitoring and Controlling
Financial Statments
* Cash Flow Statement
* Income Statement
* Balance Sheet
Monitoring and Controlling - Financial Statements
Cash Flow Statements
Indicate the movement of cash receipts + payments resulting from transactions over a period of time
* opening balance
* inflows and outflows
* closing balance
* opening + inflows - outflows = closing
Insolvency: when expenditure has exceeded income for an unnacceptable period of time and the firm is unable to pay debts
Monitoring and Controlling - Financial Statements
Income Statements
summary of the income earned and the expenses incurred over a period of time
Categories include - total sales revenue, COGS, gross profit, expenses and net profit
* COGS = opening stock + purchases - closing stock
* Gross Profit = sales - COGS
* Net Profit = gross profit - expense
Income statements show profit whereas cash flow statements do not as they don’t explicity show sales.
Monitoring and Controlling - Financial Statements
Balance Sheet
Represents assets + liabilities at a particular point in time + represents the net worth of the business.
* Assets
* Liabilities
* Owner’s Equity
* Capital
* Retained Profits
Shows level of retained profits and owner’s equity
* Assets = Liabilities + Owner’s Equity
Financial Ratios
Financial Ratios
Tools used by financial managers to analyse + interpret financial statements.
* Liquidity
* Gearing
* Profitability
* Efficiency
* Comparative Ratio Analysis
Financial Ratios
Liquidity
The extent to which a business can meet its financial obligations in the short – term
Measured using current ratio
* current ratio = current assets / current liabilities
* measures ability to pay back current liabilities with current assets.
* too high = using assets inefficiently
* too low = risk of not meeting financial obligations
* suggested ratio = 2:1
Strategies to improve
* reduce current liabilities through equity financing
* sell non-current assets
* sell inventory
Financial Ratios
Gearing
Solvency: the extent to which a business can meet its financial obligations in the long-term
Gearing: proportion of debt (external) and the proportion of equity (internal) that is used to finance business activities
Gearing ratio determines solvency
* Solvency = total liabilities / total equity
* acceptable ration: 0.5:1 (small bus) 1:1 (large bus)
Financial Ratios
Profitability
The earning performance of the business + indicates its capacity to use its resources to maximise profits.
* Gross Profit Ratio
* Net Profit Ratio
* Return on Owner’s Equity
Financial Ratios - Profitability
Gross Profit Ratio
Gross Profit / Total Sales
* over 50% = preffered
* determines the percentage of each dollar of sales as gross profit
Financial Ratios - Profitability
Net Profit Ratio
Net Profit / Total Sales
* 13 - 20% = preferred
* the higher the ratio, the better financial position the business is in
Financial Ratios - Profitability
Return on Owner’s Equity
Net Profit / Total Equity
* 10% = good; 20% = excellent
* the higher the ratio, the better the return
Financial Ratios
Efficiency
The ability of a business to min its costs + manage its assets so that max profit is achieved w/ the lowest level of assets
Financial Ratios - Efficiency
Expense Ratio
Total Expense / Total Sales
* 30 - 50% preferred
* Measures how efficient/productive a firm is in producing revenue
* Decline = lower interest rates in economy or business is using less debt.
* Increase = business must find ways to monitor + control expenses + avoid unnecessary expenses
Financial Ratios - Efficiency
Accounts Receivable Ratio
Sales / Accounts Receivable
* 12 times a year = ideal
* Measures the effectiveness of a business’ credit policy and how efficiently it collects its debts
* 365 / Accounts Receivable Ratio = avge no. of days it takes to convert the balance into cash
* 30 days or less = ideal
