Unit 5 Flashcards
What are financial objectives?
goals or targets that relate to a business’s finance
What is cash flow?
the difference between cash receipts and cash payments
Why is a positive cash flow important?
- cash receipts needs to exceed cash payments so that the business has the cash to pay off bills when they fall
- a negative cash flow means that the business has to borrow money
What is profit?
the difference between total revenue and total costs and revenue
Why is profit important in the financial management ?
reward to the owners who will be shareholders expecting a reasonable dividend and value of shares to rise
important source of funds for investment
businesses who make a loss find it hard to borrow funds
for business to survive in the long run must make profit
What are the 3 types of profit?
gross profit
operating profit
net profit (profit for the year)
What is the calculation for revenue?
price x quantity
What is the calculation for gross profit ?
revenue - direct costs (COGS)
What are direct costs ?
is spending that can be clearly allocated to a particular product or area of the business e.g fuel and raw materials
What is the calculation for operating profit ?
gross profit - indirect costs
What is the calculation for net profit ?
operating profit - remaining costs
What are indirect costs?
is spending that relates to all aspects of a business’s activities e.g building maintenance costs and salaries
What do remaining costs include?
interest paid and received by the firm as well as profits on taxation
Give 3 examples of fixed costs
rent
insurance
salaries
What are fixed costs?
costs which don’t vary with output
Give 3 examples of variable costs
wages
raw materials
fuel
What are variable costs?
costs which vary with output
What is the calculation for total costs?
variable costs + fixed costs
What are semi-variable costs?
costs which have characteristics of fixed and variable costs
What is an example of semi-variable costs?
transport costs - the renting and insurance is fixed
the wage of the driver is variable
What is the calculation for profit?
total revenue - total costs
What are revenue objectives?
earning a certain amount of revenue over a financial period
When/ where/ how might revenue objectives be used?
throughout the business that aim for growth
build customer base and establish themselves in market
maximise revenue
relate to specific aspect of business
reduce or increasing prices
What are the 2 types of cost objectives?
reducing costs or cost minimization
reducing costs to maintain profit margins
What are profit objectives?
can relate to previous years and any expected changes in the future
What are cash cycles?
is the time that elapses between the outflow of cash and receipt (inflow) of cash
What are non-current assets/ investment ?
purchase of assets that will remain with the business for over the long term and for over a year
What is another term for investment objectives?
capital expenditure
What happens to a business when they reach a level of capital expenditure?
increase size, value and its ability to supply products to its customers
Why might it be difficult to reach a capital investment expenditure objective?
business might have problems in raising sufficient capital to fund its planned investment programme
Describe 3 factors which makes it easier for a business to raise capital for investment
- business hasn’t borrowed excessive amounts already, reassuring to lenders it will be repaid
- business is purchasing non-current assets (property) that will remain value and and could be sold
- the business is a company and sell additional shares to raise funds
What are the two types of capital raising ?
loan capital (borrow funds - pay interest) share capital (choose to sell shares - pay dividends, lose control)
What are capital structures?
balance between these types of capital, loan capital and share capital
What are the 3 things that affect capital structure objectives?
interest rates
inflation
income
What are capital structure optimisation objectives?
aims to minimise the cost of raising capital for the company without affecting overall value
What are internal influences of financial objectives?
overall business objective - financial objective must assist the business in achieving its overall or corporate objectives as growth
nature of product - determined by cash flow cycles or price sensitivity
senior managers - if they hold shares then they may look profit objectives or they may seek recognition that accompanies successful achievement of growth
What are external influences of financial objectives?
Competitive environment - actions of competitors
Economic environment - implications for consumer spending and borrowing
Technological environment - rapidly changing technology
Political and legal environment - EU and changes - national minimum wage etc
What is a source of finance?
is the way in which a business raises the finance that it needs for some activity
What are the 2 internal sources of finance?
retained profit
sale of assets
What are the external sources of finance?
overdraft debt factoring bank loans mortgages debentures venture capital share or equity capital crowdfunding
What are retained profits?
is the profit kept in the business rather than paid out to shareholders in dividends
What are the advantages of retained profit?
cheap
very flexible - management maintain full control over how they reinvest and what amount is kept.
doesn’t add to debt
no interest rates
What are the disadvantages of retained profit?
slow - risk of missing out on business opportunities whilst saving the amount
shareholders might prefer dividends
high gearing
What is the sale of assets?
when you sell or transfer the assets of your company, rather than stock or shares
What are the advantages of sale of assets ?
No need to pay interest
Doesn’t have to paid back
No loss of control for the business
What are the disadvantages of sale of assets ?
Asset is no longer owned
Asset may be still needed by the business so may lead to leasing costs
Many businesses don’t have suitable assets
What is an overdraft?
to continue withdrawing money even if there is not any funds
What are the advantages of an overdraft?
Very quick to arrange
Only pay interest on the amount withdrawn
A good short term solution to cash flow problem
What are the disadvantages of an overdraft?
Only suitable for small amounts
Interest or charges are paid and have to repaid in a short amount of time
Cash flow forecasts will need to be shown each time the overdraft arrangements is rearranged
Usually high rates of interest
A bank may withdraw overdrafts with little notice
What is debt factoring?
A business sells its outstanding customer accounts (those who have not paid their debts to the business)
What are the advantages of debt factoring?
Improves cash flow - allows businesses to instantly release the cash value of their invoices. This means that they can instantly use the cash to operate and reinvest in the business.
Saves time and resources - can be expensive to chase up invoices so it means resources have to be used efficiently
Accelerates growth
What are the disadvantages of debt factoring?
Reduces profits
Puts business into temporary debt - if the customer doesn’t pay the invoice or is late, causes problems for the business
What is a bank loan?
borrowing money from the bank
What are the advantages of a bank loan?
Easy and quick to set up
Small or large amounts can be borrowed
Structured repayment plan
What are the disadvantages of a bank loan?
High interests
If repayments cannot be kept up, business risks getting a poor credit rating and/or being made bankrupt
What is a mortgage?
is when the bank loans you money in exchange for property
What are the advantages of a mortgage?
Often fixed rate of interest
Repayments every month
What are the disadvantages of a mortgage?
May have a variable interest rate which can be expensive if rates rise
Lenders may insist of security
What are debentures?
Selling of debt to someone else who can pay it off at that time, and then you repay the debt later
What are the advantages of a debenture?
Repayable at a future date, improves cash flow
What are the disadvantages of a debenture?
Has to pay interest to the creditor
The creditor may take control over some or all of the firm’s asset, to improve their chances of recovering the debt
What is venture capital?
investment made by specialist funds to finance the launch, early development or expansion of a private company
When would businesses be more likely to use external sources of finance?
Large sum is required
Level of risk is low encouraging outsider to invest or lend money
Profit levels are low
What influences what source of finance should be used?
Business’s legal structure Cost - rate of interest, cost of selling shares and opportunity cost Flexibility Control Purpose of the finance
What are budgets?
financial plans that forecast revenue from sales and expected costs over a period of time
What are the 3 types of budgets?
revenue or earnings budget
expenditure budget
profit budget
What is revenue/ earnings budget?
expected revenue from selling products, expected levels of sales and selling price
What is expenditure budget?
cost or production budget, plan spending on labour, raw materials, fuel and other items essential for the production process
What is profit budget?
using revenue and costs can calculate expected profits
What are the advantages of setting budgets?
helps the business achieve its financial and wider objectives
control finance effectively
enable managers to make informed and focused decisions
production budgets ensures that a business doesn’t overspend
can allocate finances where needed
used to motivate staff
revenue budget used as a target
What type of research needs to be done before constructing budgets?
- analysing the market to predict likely trends in sales and prices to help forecast revenue
- research the costs of labour, fuel and raw materials by contacting suppliers and seeing if they can negotiate cheaper prices or bulk buying
- consider government estimates for wage rises and inflation, then incorporate them into future sale revenue and expenditure budgets
What are the sources of information for budgets?
- previous trading records
- market research (predict likely sales)
- suppliers
- government agencies
What are the difficulties in constructing budgets?
difficult to accurately forecast sales - tastes and preference
the risk of unexpected changes - external environment
decisions by the government or other public bodies - publishing of the budget
What affects favourable variance?
- wage rises lower than expected
- economic boom leads to higher than expected sales
- rising value of the pound makes imported raw materials cheaper
- poor forecast
- inexperience
What affects adverse variance?
- fuel prices increases
- government increases business rates by an unexpected amount
- competitors introduce new products winning extra sales
- poor forecast
- inexperience
What causes cash flow problems?
overtrading - business expands to quickly without organising funds to finance
allowing too much trade credit
poor credit control
inaccurate cash flow forecast
How can cash flow be improved?
improved control of working capital offer less trade credit arrange short term borrowing negotiate improved terms for trade credit debt factoring sale and leaseback
