Theme 2 Flashcards
What is Break-Even
Level of sales a business needs to cover its total costs:
Total fixed costs + Total variable costs = Total revenue
What is Contribution (per unit) and the equation
Contribution per unit is the difference between the selling price of a product and the variable costs it takes to produce it:
Contribution per unit = selling price - variable cost per unit
What is total contribution
Is used to pay fixed costs. The amount left over is profit. The break even point is where total contribution = fixed costs
Break-Even point
Break-Even point = total fixed costs
——————————
contribution per unit
What is Martin of Safety
Actual Output - Break-Even Output = Margin of Safety
On a graph it is the difference between output and break-even point
Advantages of Break-Even Analysis
- Easy to do
- Quick - easy to read
- Forecasts how variations in sales will affect costs, revenue and profits
- Can help persuade sources of finance to give them money.
- Influences decisions on whether new products should be launched or not
Disadvantages of Break-Even Analysis
- Assumes that variable costs always rise steadily
- Simple for a single product but difficult for multiple products
- If data is inaccurate, then the results will be wrong
- Break-Even assumes all products will be sold without any wastage
- Only says how many products you need to sell and not how many you will actually sell
What are the 3 budgets
- Income Budgets: forecasts the amount of money that will come into the business as revenue. How much the business will sell and at what price.
- Expenditure Budgets: Predicts what the business’s total costs will be for the year, taking into account both fixed and variable costs.
- Profit Budgets: Uses the income budget minus the expenditure budget to calculate what the expected profit (or loss) will be for that year. Income Budget - Expenditure Budget
Advantages of Budgets
- Budgets can be motivating-allow workers to have a target towards
- Help control income and expenditure
- Helps managers make decisions
- Focus on priorities
- Departments coordinate spending
- Helps persuade investors
Disadvantages of Budgets
- Can cause resentments and rivalry across departments
- Budgets can be restrictive
- Time-consuming
- Inflation is hard to predict
What are the 2 different type of budgeting methods
Historical Budgeting - based on past figures
Zero-based Budgeting - Based on new figures without the help of past figures
What are fixed and flexible budgets
Fixed Budgets - Budget holders have to stick to their budget plans throughout the year - even if market conditions change. This can prevent a firm from reacting to new opportunities or threats that they didn’t know about when they set the budget
Flexible Budgets - Allows budgets to be altered in response to significant changes in the market or economy
What is a Varience
A varience means the business is performing either worse or better than expected
What are the 2 types of varience
Favourable Variance - When a firm is performing better than expected. Spend under budget or sell more products
Adverse Variance - When a firm is performing worse than expected spending over budget or selling less products
External factors that cause variances
- Competitor behaviour and changing fashions may increase or reduce demand for products
- Changes in the economy can change how much workers wages cost the business
- The cost of raw materials can go up - e.g. if a harvest fails
