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Business IB SL > Unit 3 > Flashcards

Unit 3 Flashcards

1
Q

Start-up capital

A

Capital needed by an entrepreneur to set up a
business

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2
Q

Working capital

A

The capital needed to pay for raw materials, day-
to-day running costs and credit offered to
customers.

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3
Q

Working capital (in
accounting terms)

A

Working capital = current assets - current liabilities

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4
Q

Internal finance

A

Money raised from the business’s own assets or
from profits left in the business (retained profits)

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5
Q

External finance

A

Money raised from sources outside the business
(e.g. share issue, leasing, bank loan)

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6
Q

Sources of
internal finance:

A

Retained profits
Sales of assets
Reduction in working capital

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7
Q

Sources of LONG
TERM external
finance:

A

Share issue
Debentures
Long-term loan
Grants

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8
Q

Sources of MEDIUM
TERM external
finance:

A

Leasing
Hire purchase
Medium-term loan

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9
Q

Sources of SHORT
TERM external
finance:

A

Bank overdraft
Bank loan
Creditors
Trade credit
Debt Factoring

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10
Q

Overdraft

A

An agreement with a bank for a business to
borrow up to an agreed limit as and when
required

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11
Q

Factoring (debt
factoring)

A

Selling of claims over debtors (individuals or
organisations who owe the business money) to a
debt factor in exchange for immediate liquidity
only a proportion of the value of the debts will be
received as cash

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12
Q

Leasing

A

Obtaining the use of equipment or vehicles and
paying a rental or leasing charge over a fixed
period. this avoids the need for the business to
raise long-term capital to buy the asset.
Ownership remains with the leasing company.

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13
Q

Long-term loans

A

Loans that do not have to repaid for at least one
year

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14
Q

Equity finance

A

Permanent finance raised by companies through
the sale of shares

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15
Q

Debentures

A

Bonds issued by companies to raise debt finance,
often with a fixed rate of interest (long-term
bonds)

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16
Q

Long-term bonds

A

Bonds issued by companies to raise debt finance,
often with a fixed rate of interest (debentures)

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17
Q

Rights issue

A

Existing shareholders are given the right to buy
additional shares at a discounted price

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18
Q

Venture capital

A

Risk capital invested in business start-ups or
expanding small businesses, that have good profit
potential, but do not find it easy to obtain finances
from other sources

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19
Q

Advantages of debt
finance:

A
  1. As no shares are sold, the ownership of the
    company does not change and is not ‘diluted’ by
    the issue of additional shares
  2. Loans will be repaid eventually, so there is no
    permanent increase in the liabilities of the
    business
  3. Lenders have no voting rights therefore there is
    no loss of control of the company
  4. Interest charges are an expense and are thus
    tax deductible (reduce the total company tax
    paid by the business)
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20
Q

Advantages of
equity finance:

A
  1. It never has to be repaid
  2. Dividends do not have to be paid every year. In
    contrast, interest must be paid when demanded
    by the lender
  3. Much larger amounts of finance can possibly
    be raised than through debt financing
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21
Q

Capital expenditure

A

Spending by businesses on fixed assets such as
the purchase of land, buildings and machinery
(investment expenditure).

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22
Q

Creditors

A

Individuals or organisations that the business
owes money to that needs to be settled within the
next twelve months

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23
Q

Revenue
expenditure

A

Spending on the day-to-day running of a business
(e.g. rent, wages and utility bills)

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24
Q

Examples of
revenue
expenditure

A
  • Rent
  • Wages
  • Utility bills (e.g., water and electricity)
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25
Q

Examples of capital
expenditure

A

The purchase of any fixed asset:
- land
- buildings
- machinery

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26
Q

Fixed assets

A

Tangible assets as the have a physical existence
(so not a brand, for example) and are expected
to be retained and used by the business for more
than 12 months (e.g. land, buildings, vehicles and
machinery)

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27
Q

Investment
appraisal

A

Evaluating the profitability or desirability of an
investment project

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28
Q

Information
quantitative
investment
appraisal requires:

A
  1. Initial capital costs of the investment
  2. Estimated life expectancy
  3. The expected residual value (additional net
    returns from the sale of the asset at the end of its
    useful life)
  4. Forecasted net returns or net cash flows from
    the project (expected returns less running costs)
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29
Q

Methods of
quantitative
investment
appraisal

A
  1. Payback period
  2. Average rate of return
  3. Net present value using discounted cash flows
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30
Q

How external
factors (future
uncertainty) can
influence revenue
forecasts:

A
  1. Economic recession could reduce demand
  2. Increases in oil prices may increase costs of
    production
  3. Interest rates may decrease (both reducing
    costs of finance and inflating future returns)
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31
Q

Payback period

A

The length of time it takes for net cash inflows to
pay back the original capital costs of the
investment

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32
Q

Average rate of
return ARR

A

Measures the annual profitability of an
investment as a percentage of the initial
investment

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33
Q

4 stages in
calculating ARR

A
  1. Add up all positive cash flows
  2. Subtract cost of investment
  3. Divide by lifespan
  4. Calculate the % return to find the ARR
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34
Q

Criterion rate or
level

A

The minimum level (maximum for payback period)
set by management for investment appraisal
results for a project to be accepted

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35
Q

Why future
cashflows are
discounted

A
  1. Inflation: The same amount of money in the
    future will not purchase the same amount of
    goods and services as it can today
  2. Interest foregone: Money can be invested for a
    return. If you invested the money safely now, it
    will be worth more in the future.
  3. Uncertainty: The cash today is certain, but the
    future cash on offer is always associated with at
    least a degree of risk and uncertainty
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36
Q

The present value
of a future sum of
money depends on
two factors:

A
  1. The higher the interest rate, the less value
    future cash in today’s money
  2. The longer into the future cash is received, the
    less value it has today
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37
Q

Net present value
(NPV)

A

Today’s value of the estimated cash flows
resulting from an investment

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38
Q

Qualitative
investment
appraisal

A

Assessing non-numeric information in examining
an investment choice

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39
Q

Examples of
qualitative factors
in investment
appraisal

A
  1. Impact on the environment
  2. Planning permission (will local governments
    allow the investment?)
  3. Aims and obiectives of the business
  4. Risk
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40
Q

3 stages in
calculating NPV

A
  1. Multiply discount factors by the cash flows
    (cashflows in year 0 are never discounted)
  2. Add the discounted cashflows
  3. Subtract the capital cost to give the NPV
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41
Q

Factors in assessing
an ARR percentage
value

A
  1. The ARR on other projects (the opportunity
    costs)
  2. The minimum expected return set by the
    business (the criterion rate)
  3. The annual interest rate on loans (ARR needs to
    be greater than the interest costs of borrowing;
    even if the firm doesn’t need to borrow there’s
    always an opportunity cost of interest foregone
    by keeping the money in the bank)
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42
Q

Working capital

A

The capital needed to pay for raw materials, day-
to-day running costs and credit offered to
customers.

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43
Q

Working capital
(accounting terms)

A

Working capital = current assets - current
liabilities

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44
Q

Liquidity

A

The ability of a firm to pay its short-term debts

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45
Q

Liquidation

A

When a firm ceases trading and its assets are sold
for cash. Turning assets into cash may be insisted
on by courts if suppliers have not been paid.

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46
Q

Working capital
cycle

A

The period of time between spending cash on the
production process and receiving cash payments
from customers

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47
Q

Cash flow

A

The sum of cash payments to a business (inflows)
less the sum of cash payments made by it
(outflows)

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48
Q

Insolvent

A

When a firm cannot meet its short-term debts

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49
Q

Cash inflows

A

Payments in cash received by a business, such as
those from customers (debtors) or from the bank:
e.g. receiving a loan

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50
Q

Debtor

A

An individual or an organisation who has bought
on credit (or received a loan) from the business
and owes the business money

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51
Q

Creditor

A

An individual or organisation to whom money is
owed by the business

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52
Q

Cash outflows

A

Payments in cash made by a business, such as
those to suppliers or workers

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53
Q

Examples of cash
outflows include:

A
  • Lease payments for premises
  • Annual rent payment
  • Electricity, gas and telephone/internet bills
  • Labor cost payments
  • Variable cost payments (e.g., raw materials)
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54
Q

Cash flow forecast

A

Estimate of the firm’s future cash inflows and
outflows

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55
Q

Net monthly cash
flow

A

Estimated difference between monthly cash
inflows and outflows

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56
Q

Opening cash
balance

A

Cash held by the business at the start of the
month

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57
Q

Closing cash
balance

A

Cash held at the end of the month becomes next
month’s opening balance

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58
Q

Benefits of cash
flow forecasts:

A
  • By showing periods of negative cash flow, plans
    can be put into place to provide additional
    finance; e.g. arranging a bank overdraft or
    preparing to inject owner’s capital
  • If negative cash flow appears to be too great,
    then plans can be made for reducing these; e.g,
    by cutting down on purchases of new materials or
    reducing credit sales
  • A new business proposal will never progress
    beyond the initial planning stage unless investors
    and bankers have access to a cash flow forecast
    (and the assumptions behind it)
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59
Q

Limitations of cash
flow forecasts:

A
  • Mistakes can be made in preparing the revenue
    and cost forecast (inexperience, seasonal
    variations, etc)
  • Unexpected cost increases can lead to major
    inaccuracies (e.g. fluctuations in oil prices
    affecting cash flows of airline companies)
    Wrong assumptions can be made in estimating
    the sales of a business (e.g., poor market
    research)
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60
Q

Causes of cash flow
problems:

A
  1. Lack of planning
  2. Poor credit control
  3. Allowing too much credit
  4. Expanding too rapidly
  5. Unexpected events
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61
Q

Credit control

A

Monitoring of debts to ensure that credit periods
are not exceeded

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62
Q

Bad debt

A

Unpaid customers’ bills that are now very unlikely
to ever be paid

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63
Q

Ways to improve
cash flow:

A
  1. Increase cash inflows
  2. Reduce cash outflows
    (careful! its the cash position of a business, NOT
    sales revenues or profits)
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64
Q

Methods to
increase cash flow:

A
  1. Overdraft
  2. Short-term loan
  3. Sale of assets
  4. Sale and leaseback
  5. Reduce credit terms to customers
  6. Debt factoring
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65
Q

Debt factoring

A

Short term liquidity problem, sell debt to a
factoring agency, instant inflow of cash but the
cost is a fee payable to the agency that lowers
the profit on the original business

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66
Q

Overdraft

A

A negative balance in a business’s bank account

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67
Q

Overdraft facilitv

A

An ability to have a negative balance up to an
agreed limit in a business’s bank account

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68
Q

Sale and leaseback

A

Assets can be sold (e.g. to a finance company),
but the asset can be leased back from the new
owner

69
Q

Evaluation of
overdraft as a way
to increase
cashflow

A
  1. Interest rates can be high
  2. Overdrafts can be withdrawn by the bank and
    this often causes insolvency
70
Q

Evaluation of short-
term loan as a way
to increase
cashflow

A
  1. The interest costs have to be paid
  2. The loan must be repaid at the due date
71
Q

Evaluation of sale
of assets

A
  1. Selling assets quickly can result in a low price
  2. The assets may be required at a later date for
    expansion
  3. The assets could have been used as collateral
    for future loans
72
Q

Collateral

A

An asset that is the subiect of a secured loan, and
can be sold by the lender to recover the amount
owed

73
Q

Secured loan

A

A loan backed by an asset of value, such as
property or vehicles

74
Q

Evaluation of sale
and leaseback as a
way to increase
cashflow

A
  1. The leasing costs add to the annual overheads
  2. There could be loss of potential profit if the
    asset rises in price
  3. The assets could have been used as collateral
    for future loans
75
Q

Evaluation of
reduce credit terms
to customers as a
way to increase
cashflow

A
  1. Customers may purchase products from firms
    that offer extended credit terms
76
Q

Evaluation of debt
factoring as a way
to increase
cashflow

A
  1. Only about 90-95% of the debt will n ow be
    paid by the debt factoring company - this reduces
    profit
  2. The customer has the debt collected by the
    finance company - this could suggest (give the
    perception) that the business is in trouble
77
Q

Methods to reduce
cashflow

A
  1. Delay payment to suppliers
  2. Delay spending on capital equipment
  3. Use leasing, not outright purchase of capital
    equipment
  4. Cut overhead spending that does not directly
    affect output; e.g. promotion costs
78
Q

Evaluation of delay
payments to
suppliers
(creditors) as a way
to reduce cashflow

A
  1. Suppliers may reduce any discount offered witht
    he purchase
  2. Suppliers can either demand cash on delivery
    or refuse to supply at all if they believe the risk of
    not getting paid is too great
79
Q

Evaluation of delay
spending on capital
equipment as a way
to reduce cashflow

A
  1. The business may become less efficient if
    outdated and inefficient equipment is not
    replaced
  2. Expansion becomes very difficult
80
Q

Evaluation of use
leasing, not
outright purchase
of capital
equipment as a way
to reduce cashflow

A
  1. The asset is not owned by the business
  2. Leasing charges include an interest cost and
    add to annual overheads
81
Q

Evaluation of cut
overhead spending
that does not
directly affect
output as a way to
reduce cashflow

A
  1. Future demand may be reduced by failing to
    support products effectively
82
Q

Budget

A

A detailed financial plan of the future

83
Q

Budget holder

A

Individual responsible for the initial setting and
achieving of the budget.

84
Q

Delegated budgets

A

Control over budgets is given to less senior
management

85
Q

Incremental
budgeting

A

Incremental budgeting uses last year’s budget as
a basis and an adjustment is made for the
following year

86
Q

Zero budgeting

A

Setting budgets to zero each year and budget
holders have to arque their case to receive any
finance

87
Q

Variance Analysis

A

The process of investigating any differences
between budgeted figures and actual figures

88
Q

Adverse variance

A

Exists when the difference between the budgeted
and actual figure leads to a lower than expected
profit

89
Q

Favourable
variance

A

Exists when the difference between the budgeted
and actual figure leads to a higher than expected
profit.

90
Q

Limitations of
budgets

A
  1. Lack of flexibility.
  2. Focused on the short-term.
  3. Result in unnecessary spending.
  4. Training needs must be met
  5. Setting budgets for new projects.
91
Q

Purposes of setting
budgets and
establishing
financial plans for
the future:

A
  1. Planning
  2. Effective allocation of resources
  3. Setting targets to be achieved
  4. Coordination
  5. Monitoring and controlling
  6. Modifying
  7. Assessing performance
92
Q

Master budget

A

The overall or consolidated budget, comprised of
all the separate budgets within an organisation.
The Chief Financial Officer (CFO) will have
general control and management of the master
budget.

93
Q

Importance of
Variance Analvsis:

A
  1. It measures differences from the the planned
    performance of each department.
  2. It assists in analysing the causes of deviations
    from budget.
  3. An understanding of the the reasons for
    variations form the original planned levels can be
    used to change future budgets in order to make
    them more accurate.
  4. The performance of each individual budget-
    holding section may be appraised in an accurate
    and objective way.
94
Q

The three main
business accounts:

A
  1. Income statement
  2. Balance sheet
  3. Cash-flow statement
95
Q

Income statement

A

Records the revenue, costs and profit (or loss) of
a business over a given period of time

96
Q

Three sections of
an income
statement:

A
  1. Trading account
  2. Profit and loss account
  3. Appropriation account
97
Q

Gross profit

A

Gross profit = sales revenue less cost of sales

98
Q

Sales revenue

A

The total value of sales made during the trading
period = selling price x quantity sold (sales
turnover)

99
Q

Sales turnover

A

The total value of sales made during the trading
period = selling price x quantity sold (sales
revenue) Sales revenue

100
Q

Cost of sales

A

This is the direct cost of purchasing the goods
that were sold during the financial year (cost of
goods sold)

101
Q

Cost of goods sold

A

This is the direct cost of purchasing the goods
that were sold during the financial year (cost of
sales)

102
Q

Operating profit

A

Operating profit = gross profit - overhead
expenses (net profit)

103
Q

Net profit

A

Net profit = gross profit - overhead expenses
(net profit)

104
Q

Dividends

A

The share of profits paid to shareholders as a
return for investing in a company

105
Q

Retained profit

A

The profit left after all deductions, including
dividends, have been made. This is ‘ploughed
back’ into the company as a source of finance

106
Q

Low-quality profit

A

One-off profit that cannot easily be repeated or
sustained

107
Q

High-quality profit

A

Profit that can be repeated and sustained

108
Q

How stakeholders
use business
accounts: Business
managers

A
  1. Measure the performance of a business against
    targets, previous time periods and competitors
  2. Help them with decisions; e.g., new investments,
    branch closures, launching new products
  3. Control and monitor the operation of each
    department, branch and division
  4. Set targets for the future and review against
    actual performance
109
Q

How stakeholders
use business
accounts: Banks

A
  1. Decide whether to lend money to a business
  2. Assess whether to allow for an increased
    overdraft facility
  3. Decide whether to renew sources of finance;
    e.g., overdraft, loans, etc
110
Q

How stakeholders
use business
accounts: Creditors,
such as suppliers

A
  1. Assess whether the business is secure and liquid
    enough to pay off its debts
  2. Assess whether the business is a good credit
    risk
  3. Decide whether to press for early repayment of
    outstanding debts
111
Q

How stakeholders
use business
accounts:
Customers,

A
  1. Assess whether a business is secure
  2. Determine whether they will be assured of
    future supplies of the good they are purchasing
  3. Establish whether there will be security of spare
    parts and service facilities
112
Q

How stakeholders
use business
accounts:
Government and
tax authorities

A
  1. Calculate how much tax is due form the
    business
  2. Determine whether the business is likely to
    expand and create more jobs
  3. Assess whether the business is in danger of
    closing down, creating economic problems
  4. Determine whether the business is staying within
    the law in terms of accounting regulations
113
Q

How stakeholders
use business
accounts: Investors.
such as
shareholders in the
company

A
  1. Assess the value of the business and their
    investment in it
  2. Establish whether the business is becoming
    more or less profitable
  3. Determine the share of the profits investors are
    receiving
  4. Decide whether the business has potential for
    growth
  5. To compare businesses before making an
    investment and/or purchasing shares in a
    company
  6. To consider whether they should sell all or part
    of their holding
114
Q

Uses of income
statements:

A
  1. Measure and compare the performance of a
    business over time or with other firms
  2. The actual profit data can be compared with
    the expected profit levels
  3. Bankers and creditors will need the information
    to help decide whether to lend money to the firm
  4. Potential investors may assess the value of the
    business from the profits being made
115
Q

Balance sheets

A

An accounting statement that records the values
of a business’s assets, liabilities and shareholders’
equity at one point in time

116
Q

Assets

A

Items of monetary value that are owned by the
business

117
Q

Liabilities

A

A financial obligation of a business that it is
required to repay in the future

118
Q

Shareholders’
equity

A

Shareholders’ equity: Total value of assets - total
value of liabilities

119
Q

Share capital

A

The total value of capital raised from
shareholders by the issue of shares
Types of shares:
Ordinary
Preference
Deferred

120
Q

Fixed assets

A

Tangible assets (e.g. not brands) that have a
physical existence and are expected to be
retained and used by a business for more than 12
months; e.g., land, buildings, vehicles and
machinery

121
Q

Current assets

A

Cash and other assets expected to be exchanged
for cash or consumed within a year; e.g.,
inventories, accounts payable (debtors) and cash/
bank balance

122
Q

Current liabilities

A

Debts of a business that are generally paid within
one year

123
Q

Working capital

A

Working capital = current assets - current liabilities

124
Q

Long-term liabilities

A

Financial obligations that will take the business
more than one year to repay.

125
Q

Intangible assets

A

Long-term assets (e.g., patents, trademarks,
copyrights) that have no real physical form but do
have value

126
Q

Goodwill

A

Arises when a business is valued at or sold for
more than the balance sheet value of its assets

127
Q

Intellectual
property

A

An intangible asset that has been developed from
human ideas and knowledge

128
Q

Market value

A

The estimated total value of a company if it were
taken over

129
Q

Depreciation

A

The decline in the estimated value of a non-
current asset over time

130
Q

Straight line
depreciation

A

A constant amount of depreciation is subtracted
from the value of the asset each year

131
Q

Net book value

A

The current balance sheet value of a non
current asset.
Net book value = original cost - accumulated
depreciation

132
Q

Reducing balance
method

A

Calculates depreciation by subtracting a fixed
percentage from the previous year’s net book
value

133
Q

The value of closing
stock is a major
factor influencing:

A
  1. The value of a company’s balance sheet
  2. The profit recorded - the higher the value
    given to closing stock, the lower will be the
    costs of goods sold, and, therefore, the higher
    the profit
134
Q

Last in first out
(LIFO)

A

Valuing closing stocks by assuming that the last
one purchased is the first out

135
Q

First in first out (FIFO)

A

Valuing closing stocks by assuming that me last ones bought in were sold first

136
Q

Dividends

A

The share of the profits paid to shareholders as a
return for investing in the company

137
Q

Share price

A

The quoted price of one share on the stock
exchange.

138
Q

Gross profit

A

Sales revenue - cost of goods sold

139
Q

Net profit

A

The amount left after operating expenses are
subtracted from the gross profit

140
Q

Capital employed
Formula

A

(non-current assets + current assets) - current
liabilities

141
Q

Capital employed
alt. Formula

A

non-current liabilities + shareholders equity

142
Q

Liquidity ratios

A

Measures the ability of a firm to meet its short-
term debts (e.g., current ratio & acid test ratio)

143
Q

Liquid assets

A

Current assets - stocks

144
Q

Current ratio

A

A short-term liquidity ratio that calculates the
ability of a firm to meet its debts within the next 12
months.

145
Q

Acid test ratio

A

A liquidity ratio that measures a firm’s ability top
meet its short-term debts. This ratio ignores stocks
when calculating because some stocks (e.g.
Ferraris) cannot be quickly and easily turned into
cash

146
Q

Stock turnover ratio
(days)

A

Measures the average number of days that money
is tied up in stocks.

147
Q

Stock turnover ratio

A

An efficiency ratio that measures the number of
times a firm sells its stocks within a year.

148
Q

Debtor days ratio

A

An efficiency ratio that measures the average
number of days it takes for a business to collect
the money owed from its debtors.

149
Q

Creditor days ratio

A

An efficiency ratio that measures the number of
days it takes, on average, for a business to pay its
creditors. The higher the ratio is, the better it
tends to be for business.

150
Q

Dividend yield ratio
(%)

A

A shareholders ratio which shows the dividends
received as a percentage of the market price of
the share. This ratio can be compared to other
shares in comparable companies or to the
prevailing market interest rate.

151
Q

Earnings per share

A

A shareholders ratio which shows the amount of
money that shareholders could receive per share
if the company allocated all of its after tax profits
to shareholders.

152
Q

Gearing

A

A long-term liquidity ratio that measures the
percentage of a firm’s capital employed that
comes from long-term liabilities, such as
debentures and mortgages. Firms that have at
least 50% gearing are said to be highly geared.

153
Q

Net profit margin

A

A profitability ratio that shows the percentage of
sales revenue that turns into net profit. The
difference between a firm’s gross profit margin
and net profit margin indicates its ability to
control business expenses.

154
Q

Gross profit margin

A

A profitability ratio that shows the percentage of
sales revenue that turns into gross profit.

155
Q

Liquidity cirisis

A

Refers to a situation where a firm is unable to pay
its short-term debts; i.e., current liabilities exceed
current assets and, therefore, the acid test ratio is
less than l:1.

156
Q

Liquid assets

A

Refer to the assets of a business that can be
turned into cash quickly, without losing their
value; i.e., cash, stock and debtors.

157
Q

Return on capital
employed

A

An efficiency ratio (reveals a firm’s profitability)
that measures the profit of a business in relation
to its size. The higher the ROCE figure, the better
it is for business as it shows more profit being
generated from the amount of money invested in
the firm.

158
Q

Balance sheet order of stating

A
  1. Fixed assets
  2. Accumulated depreciation
  3. net fixed assets
  4. Current assets
  5. Cash
  6. Debtors
  7. stock
  8. Current liabilities
  9. Overdraft
  10. Creditors
  11. short term loans
  12. total current liabilities
  13. net current assets (working capital)
  14. Total assets less current liabilities
  15. Long-term liabilities (debt)
  16. Net assets
    Financed by:
    • share capital
    • accumulated retained profit
  17. Equity
159
Q

Profit & loss account order of stating

A
  1. sales revenue
  2. Cost of goods sold
  3. gross profit
  4. Expenses
  5. net profit before interest and tax
  6. Interest
  7. net profit before tax
  8. Tax
  9. net profit after tax and interest
  10. Dividends
  11. Retained profit
160
Q

Trading accounts

A

Snows gross profit/loss from trading activities of the business
Includes:
Sales revenue
Cost of goods sold
Gross profit

161
Q

Profit & loss part of income statement

A

Calculates net profit/loss and profit/loss after taxes are paid
Includes:
Expenses
Net profit before, interest and tax
Interest
Net profit before tax
Tax
Net profit after tax and interest

162
Q

Appropriation accounts

A

Shows how profits after tax are distributed (appropriated) to the
owners or shareholders
Includes:
Dividends
Retained profit

163
Q

Ordinary shares

A

Ordinary shares: The most common type of share issued. The size of the dividend
depends on how much profit is made and how much the directors decide to retain
in the business. When a share is first sold, it has a nominal value shown- its original
value. However, share prices change as they are bought and sold again and again.

164
Q

Preference shares

A

Preference shares: The owner of these shares receives a ‘ fixed rate of return when a
dividend is declared, and usually they are held by the share owners of the business.
They can be redeemable if there is a possibility of the business buying them back
from their owner.

165
Q

Deferred shares

A

Deferred shares: These are not often used. The founders of the company usually hold
these. These shareholders only receive a dividend after the ordinary shareholders
have been paid a minimum amount.

166
Q

Capital cost

A

Amount of money spent on the new investment

167
Q

Payback period formula

A

(Payback in best negative year)/ (net cash flow in first positive year) * 12

168
Q

Problems with working capital

A

poor control of debtors: This is either due to businesses failing to collect debes on time
or due to them giving credit to firms that fail, leaving the debt unpaid. This could
be corrected by running a credit control system or hiring a credit rating agency.
Overstocking and understocking: Keeping too much stock means the business is being
run inefficiently - the managers failed to see that less stock could be held. This will
increase costs and prolong lag 3, mentioned above.
Overtrading: This refers to business having an insufficient working capital for its level
of turnover. For example, a business might accept orders from customers, but be
limited by trade credit limits set by its suppliers. Therefore it cannot order enough
stock to complete the orders. Overdraft might be a solution, but bankers might
refuse because of the risk of failure of the business.
Overborrowing: Businesses can borrow too much in the short term and trade too much
credit from suppliers. If the business fails to pay on time, it can lose the business
discounts for paying on time or even refusal by suppliers to supply in the future.
Overdraft might be a solution but bankers might refuse for the same reason as
above.
Downturns in demand: When the economy goes into recession, orders and sales of
businesses fall, because businesses do not react quickly enough. This can cause
overstocking which can also lead to cash flow problems.

169
Q

Direct cost definition

A

Direct costs are expenses that can be easily traced and assigned to a particular product, service, or project. They are incurred during the production process and include things like raw materials and direct labor costs.

Business IB SL (9 decks)

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