Unit 5: Finance

Question 1

Define Financial Objectives

Answer 1

Financial objectives are financial goals that a business wants to achieve. Businesses usually have specific targets in mind, and a specific period of time to achieve them in.

Question 2

Why is it important to set Financial Objectives?

Answer 2

Financial objectives can improve coordination between teams, act as a focus for decision-making and allow shareholders to judge whether a business would be a worthwhile investment. It will help the business achieve its corporate objectives.

Question 3

Define Revenue objectives

Answer 3

Revenue objectives are often set to increase the value or volume of sales.

Question 4

Define Cost objectives

Answer 4

Cost objectives are usually set to minimise costs. Businesses have to be careful that cutting costs does not reduce the quality of their products or services or raise ethical questions about how they operate.

Question 5

Define Profit objectives

Answer 5

Profit objectives might set a target figure for profit or for percentage increase from the previous year. Since revenue, costs and profit are intricately linked, achieving revenue and cost objectives can help achieve profit objectives.

Question 6

Define Profit and Cash Flow

Answer 6

Profit is the difference between total revenue and total costs. Cash flow is all the money flowing into and out of the business over a period of time, calculated at the exact time it enters or leaves the bank account or till.

Question 7

How do you calculate Profitability?

Answer 7

Profitability is the profit as a percentage of sales revenue Profitability (%) = Profit/Sales Revenue x 100

Question 8

Define Direct and Indirect Costs

Answer 8

Direct costs are expenditure that can clearly be allocated to a particular product or area of the business, e.g. raw materials and components. Indirect costs are expenditures that relates to all aspects of a business’s activity, e.g. rent, wage.

Question 9

What is the difference between Gross Profit, Operating Profit and Profit for the year?

Answer 9

Gross profit is income received from sales minus the cost of goods and services sold (direct costs). Operating profit is the financial surplus arising from a business’s normal trading activities and before taxation (indirect costs). Profit for the year is a measure of a business’s profits that considers a wider range of expenditures and incomes, including taxation.

Question 10

Why is it important to set Cash Flow Objectives?

Answer 10

Cash flow objectives are put in place to help prevent cash flow problems. Businesses may set objectives to spread revenue or costs more evenly throughout the year, acquire a specified amount of liquid assets (an asset that can be turned into cash quickly) or target a minimum cash balance.

Question 11

Outline Investment and Capital Expenditure

Answer 11

Investment is the purchase of assets such as property, vehicles and machinery that will be used for a considerable time by the business. Capital expenditure is spending undertaken by businesses to purchase non-current assets.

Question 12

Outline Non-current and Current assets

Answer 12

Non-current assets are items that a business owns and which it expects to retain for one year or longer. Current assets are the assets a business owns which are either cash, cash equivalents, or are expected to be turned into cash during a year.

Question 13

State Return on Investment formula

Answer 13

Return on investment (%) = Profit from the investment/Capital invested x 100

Question 14

Describe Capital Structure

Answer 14

Capital structure refers to the way in which a business has raised the capital it requires to purchase assets, or it is the money spent to buy fixed assets.

Question 15

Difference between High gearing and Low gearing

Answer 15

Gearing is the proportion of capital raised by loans than shares. High gearing means there is a high proportion of loans compared to shares. Low gearing means there is a low proportion of loans compared to shares.

Question 16

Describe 3 internal influences on Financial Objectives

Answer 16

The overall objectives of the business. The nature of the product that is sold. The objectives of the business’s senior managers.

Question 17

Describe 4 external influences on Financial Objectives

Answer 17

The availability of finance. Competitors. Economy. Shareholders. Environment/ethical influences.

Question 18

What are Budgets?

Answer 18

Budgets are financial plans that forecast revenue from sales and expected costs over a time period.

Question 19

Explain the types of Budgets

Answer 19

Revenue/income budgets forecast the amount of money that will come into the company as revenue. Expenditure budgets predict what the business’s total costs will be for the year, considering both fixed and variable costs. Profit budgets use revenue budgets minus the expenditure budget to calculate the expected profit for that year.

Question 20

Outline the process of Constructing Budgets

Answer 20

Analysing the market to predict likely trends in sales and prices to help forecast revenue. Researching costs for labour, fuel and raw materials by contacting suppliers and seeing if they can negotiate price reductions for prompt payments or ordering in bulk. Considering government estimates for wage rises and inflation and incorporating them into future sales revenue and expenditure budgets.

Question 21

What are the difficulties in Constructing Budgets?

Answer 21

It may be difficult to forecast sales accurately. Decisions by government and other public bodies. The risk of unexpected changes.

Question 22

Advantages of Budgets

Answer 22

Budgets help to achieve targets, like keeping costs low or revenue high. Budgets help control income and expenditure, they show where the money goes. Budgeting helps managers to review their activities and make decisions. Budgeting helps focus on the priorities.

Question 23

Disadvantages of Budgets

Answer 23

Budgeting is time-consuming. Managers can get too preoccupied with setting and reviewing budgets and forget to focus on the genuine issues of winning business and understanding the customer. Inflation is hard to predict; some prices can change by levels much greater than average. Start-up businesses may struggle to gather data from other firms, so the budget may be inaccurate.

Question 24

What is a Favourable Variance?

Answer 24

A favourable variance leads to increased profits. If revenue is more than the budget says its going to be, that is a favourable variance. If costs are below the cost predictions in the budget, that is a favourable variance.

Question 25

What is an Adverse Variance?

Answer 25

An adverse variance is a difference that reduces profit. Selling fewer items than the revenue budget predicts or spending more on an advert than the expenditure budget for marketing allows is an adverse variance.

Question 26

What are the internal factors that cause Variances?

Answer 26

Improving efficiency cause favourable variance. A business might overestimate the amount of money it can save by streamlining its production methods. A business might underestimate the cost of making a change to its organisation. Changing the selling price changes sales revenue (price elasticity of demand).

Question 27

What are the external factors that cause Variances?

Answer 27

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.

Question 28

What are normally decisions based on Adverse Variances?

Answer 28

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.

Question 29

What are normally decisions based on Favourable Variances?

Answer 29

Set a more ambitious target. If the variance is because of increased productivity in one part of the business, they can try to get everyone else doing whatever was responsible for the improvement. A favourable variance could indicate more sales than predicted, so a business may need to increase the production of a product or take on extra staff to meet demand.

Question 30

What is the difference between Short-term Finance and Long-term Finance?

Answer 30

Short-term finance is finance needed for a limited period of time, normally less than one year. Long-term finance are those sources of finance that are needed over a longer period of time, usually more than one year.

Question 31

Describe 2 internal Sources of Finance

Answer 31

Describe 2 internal Sources of Finance Retained profit are profits from the current trading year or profit from previous trading years. Sale of assets is selling assets that a business no longer needs (non-current assets).

Question 32

Describe 6 external Sources of Finance

Answer 32

Overdrafts is a facility offered by banks allowing businesses to borrow up to an agreed limit for as long as it wishes. Debt factoring is a service offered by banks and other financial institutions; businesses sell their bills to gain cash immediately. Bank loans. The bank sets the fixed period over which the loan is provided, the rate of interest and the timing and amount of repayment. Venture capital is normally a mix of loan and share capital. Share capital is selling shares, to investors, in a business to raise capital. Other sources of finance

Question 33

Outline advantages and disadvantages of Source of Finance

Answer 33

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Question 34

What is the key 4 factors on Choice of finance?

Answer 34

The business’s legal structure. The cost of the source of finance. The level of risk involved. The purpose for which the finance is needed.

Question 35

Outline 4 causes of Cash Flow Problems

Answer 35

Overtrading. Allowing too much trade credit. Poor credit control. Inaccurate cash flow forecasting.

Question 36

Outline 6 methods of improving Cash Flow

Answer 36

Improved control of working capital. Negotiate improved terms for trade credit. Offer less trade credit. Debt factoring. Arrange short-term borrowing. Sale and leaseback.

Question 37

Describe 3 benefits of having good Cash Flow

Answer 37

Reduced borrowing costs. Good relationship with suppliers. Public relations.

Question 38

State methods of improving Profit

Answer 38

Reduce costs of production. Increase prices. Improve the business’s efficiency. Use capacity more fully. Reduce the number of substandard products. Improve methods of production. Eliminating unprofitable aspects of production.

Question 39

Describe some difficulties in improving Cash Flow and Profit

Answer 39

Identifying that there is a problem. Researching the cause of the problem. Coping with any adverse consequences in terms of the image of the business. Some decisions may decide to invest more heavily in advertising to boost sales and improve profit.

Question 40

Describe difficulties in improving Cash Flow and Profit, specifically

Answer 40

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Question 41

How do you calculate Gross Profit and Gross Profit Margin?

Answer 41

Gross Profit = Sales Revenue – Cost of sales (direct costs) Gross Profit margin = Gross Profit/Sales revenue x 100

Question 42

How do you calculate Operating Profit and Operating Profit Margin?

Answer 42

Operating Profit = Gross Profit – Operating expenses (indirect costs) Operating Profit Margin = Operating Profit/Sales Revenue x 100

Question 43

How do you calculate Profit for the year and Profit for the year Margin?

Answer 43

Profit for the year = Operating Profit + Other Profit – Tax Profit for the year Margin = Profit for the year/Sales Revenue x 100

Question 44

What is the Break-even Output and how do you calculate it?

Answer 44

The break-even output is the level of sales a business needs to cover its costs. At the break-even point, costs = revenue. Break-even output = Fixed Costs/Contribution

Question 45

What are the different outcomes about Break-even Output?

Answer 45

When sales are below the break-even output, costs are more than revenue, so the business makes a loss. When sales are above the break-even output, revenue exceeds costs, so the business makes a profit.

Question 46

What is Contribution and how do you calculate it?

Answer 46

Contribution is the difference between the selling price of a product and the variable costs it takes to produce it. Contribution = Price – Variable Cost

Question 47

How do you calculate Total Contribution?

Answer 47

Total contribution = Contribution x Output Sold

Question 48

What are the distinctive features that you must include in a Break-even Chart?

Answer 48

Fixed Cost. Total Cost. Total Revenue. Break-even Point. Actual Output Point. Margin of Safety (if there is one).

Question 49

Outline the advantages and disadvantages of Break-even Analysis

Answer 49

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