Theme 2.3: Managing Finance Part 2: Final Accounts Flashcards
What are the main measures of profit
. Gross profit
. Operating profit
. Profit for the year (net profit)
Gross profit
Turnover minus Variable costs, usually known as cost of sales
Operating Profit
Gross profit minus fixed costs (overheads)
Profits for the year (Net profit)
Operating profit minus tax and interest (can be both positive and negative)
Statement of comprehensive income (Profit and loss account)
Sets out figures for sales revenue and deducts each different groups of costs to get a figure that represents either a profit or a loss
Statement of comprehensive income calculation steps
. Revenue - cost of sales = Gross profit
. Gross profit - other operating expenses = operating profit
. Operating profit - taxes and interest = profit for the year
Profitability
The ability a business has to make profit from its resources. Related to the size of the business.
Profit margin
What percentage of turnover is actually profits for example turnover may be 100,000 and profit 23,000 so the profit margin is 23%
Calculating profit margin
Profit divided by turnover times by 100 expressed as a percentage
Gross profit margin calculations
Gross profit divided by turnover times 100
Operating profit margin calculations
Operating profit divided by turnover times 100
Profit for the year margin calculations
Profit for the year divided by turnover times 100
Ways to improve profitability
. Increase the difference between revenue and costs
. Alter price by increasing it to secure more money per unit, whether this works depends on the price elasticity of demand
. Increase the quantity sold which would improve profitability plus fixed costs can be spread over a greater amount of products thus lowering the average
. Reduce the cost to allow for a bigger profit margin
. Increase efficiency so that more is made in less time so less staff needed, less hours needed and so on.
Difference between cash and profit
Cash is usually in the form of money or bank deposits, profits is the difference between total sales revenue and total production cost
Reasons for cash flow problems
. Delay in payments from customers . Overtrading . Working capital . Debts . Poor financial maintenance
Overtrading
When a business expands too quickly and tries to engage in more business than their investment in working capital will allow I.e money isn’t coming in quick enough
Working capital
Cash used to pay bills and wages
Liquidity
The ability a business has to pay its debts low liquidity means a business will struggle to pay its debts high liquidity means it is much easier to pay their debts
Statement of financial position
Shows the assets, liabilities and net worth of a business on a given date. Useful in highlighting problems with liquidity and can help obtain further financial information
Difference between an income statement and statement of financial position
. Income statement represents a period in time
. Statement of financial position represents a single moment in time
Total Equity
The same as Net Assets, represents the worth or value of the business and is calculated by doing total assets minus total liabilities so basically the money they have minus the money the owe.
Non-Current (fixed) assets
Assets that have lasting value to the business, this includes tangible items I.e land, buildings and machinery plus some intangible items such as brands, patents and so on. These assets can lose value over time which is known as depreciation.
Depreciation
When something looses its value over time for example when you buy a car it goes down in value as soon as it leaves the garage
Current assets
Assets that businesses have for a short period of time such as inventory, debtors and cash. Inventory includes inputs and outputs which can be sold to cover debts, usually can be turned into cash within one year
Current liabilities
Debts that business need to pay within the next year and often sooner than that, includes money owed to creditors, bills and tax
New current assets
Current assets minus current liabilities, represents the working capital of the business
Net Assets
The worth or value of a business calculated by total assets minus total liabilities
Non-current liabilities
Long term debts that a business lays off over several years such as bank loan repayments
Shareholders equity
Money put into a business by a shareholder, isn’t gained back in the case of insolvency unless all other debts are paid
Retained earnings
Includes both retained profits and increase in asset value such as property, count as a liability as they are a source of finance
Current ratios
The number of times liquid assets exceeds current liabilities, current ratio equals current assets divided by current liabilities and is expressed as a ratio
Acid test ratio
Acid test ratio refers to how much money a business has to pay its debts, expressed as a ratio for example if the ratio is 1.25:1 it means for every £1 of debt they have, they have £1.25 to pay it so are okay. A low acid test ratio means a business will struggle to pay debts and this could have huge negative impacts so needs to be investigated. High acid test ratios can also be negative as it means they could be investing in other things rather than holding onto money.
Ways to improve liquidity
. Increase revenue . Decrease cost of production . Increase profitability . Try to minimise any future debts . Sell current assets to increase cash . Persuade customers to pay quicker . Use trade credit to the full . Implement a just in time system to lower costs
Internal causes of business failure (Financial)
. Liquidity
. Poor accounting
Internal causes of business failure (Non-financial)
. Management error . Wrong strategy . Poor communication . Failed expansion . Poor quality of products . Lack of investment and innovation . Poor marketing
External causes of business failure (Financial)
. Exchange rates . Interest rates - high interest encourages low spending and more saving, low interest encourages investment and less saving . Lack of finance . Recession . Financial crisis
External causes of business failure (Non-financial)
. Structural change
. Competition
. Natural phenomenon for example when a volcano erupted in Iceland, it caused huge problems for businesses in the uk especially for planes
. Government regulations
. Supplier problems e.g KFC UK had a chicken shortage when they switched to a new supplier causing massive problems with the majority of stores remaining closed and custom lost
