Key Terms = A - C
Adverse variance - occurs when the actual results are worse than the planned ones e.g. costs are higher than expected or sales are lower than expected
Asset - Any item owned by the firm such as buildings, premises, machinery
Bank Loan - a sum of money provided to a firm or an individual by a bank for a specific, agreed purpose. They are usually medium to long-term
Break Even - The breakeven point in business is the point at which cost or expenses and income are equal
Budget - a forward financial plan used to set targets and monitor performance. It usually involves a cash flow forecast, sales forecast and cost forecast
Business Plan - A detailed statement setting out the proposals for a new business or stating how a current business may develop
Capital - This is the money invested in the business by the owners. It is used by the business to purchase assets and help finance operations.
Cash Flow - is the amount of money flowing into and out of the business over a period of time
Contribution per Unit - Selling price per unit minus variable cost per unit
Credit Notes - These are issued by suppliers when customers have returned goods, to act as a discount, against any payments still outstanding or to be set off against the customer's next purchase.
Key Terms = D - I
Debenture - is a fixed interest long-term loan repayable on a stated date. They are an alternative to shares as a means of raising long-term capital.
Debit Notes - Documents sent to customers to notify them that the original invoice is undercharged. These are sometimes used by customers when returning goods to suppliers.
Direct Costs - costs that can be related directly to the production of a good or service – e.g. the wages of the worker who makes the product and cost of the raw materials
Expenditure Budget - is an estimate of how much a firm needs to supply. For a car manufacturer this involves a production budget showing how many cars need to be made. For a clothes retailer the expenditure budget would be based on the amount of stock needed. If there is a lack of stock firms may lose customers.
Factoring - is a banking service which provides up to 80% of the value of invoiced sales as a cash advance. The debt factoring house then arranges collection of the debt. It is used by firms when their customers are not paying for goods.
Favourable Variance - occurs when the actual results are better than the planned results; so costs may be lower than expected or sales maybe higher than expected
Financial Resources - are a firm's cash and capital resources. This involves looking at profits, profitability, cash flows, working capital and sources of finance
Fixed Cost - A cost that does not vary with production, such as rent. Fixed costs must be paid even if there is no output
Government Grant - Businesses in designated areas of the UK can benefit from a number of schemes such as Selective Finance for Investment in England (SFI).
Human Resources - are the people who work within an organisation. They include operational staff, shop floor employees and managers.
Incorporation - When a company is formed it is through the process of incorporation. This creates a separate legal identity for the business i.e. the business has a legal identity.
Indirect Costs - costs that cannot be directly related to the production of a good or service –e.g. heating costs, rent for the factory.
Information Resources - A firm must have access to accurate, relevant and up to date to make informed decisions. Much data is based on a firms own history so accurate records must be kept on sales, finance, production, suppliers, employees and customers.
Key Terms = L - P
Liabilities - These are debts owed by the business to other parties. Liabilities are a source of finance and provide the means by which some of the company's assets are bought.
Limited Liability - is when the owners of a business only risk losing the amount of money they have invested in the business; should the business fail. If you invest £10,000 in a firm and it goes bankrupt you risk losing the £10,000. Most partnerships and all sole traders do not benefit from limited liability.
Loan Capital - This is usually medium to long-term and is provided by creditors who charge interest on the loan which has to be repaid by a certain time. They are straightforward to arrange providing the firm has a good financial history. Sometimes banks ask for collateral, such as a house.
Net Profit - This is the profit left over after all the other costs of running the business have been taken into account, including the overheads. Net Profit is Gross Profit – Expenses.
Overdraft - A short-term flexible source of finance to cover short -term debt. They often come with high interest charges. A bank will lend an agreed amount to a firm for a certain period of time.
Overheads - costs such as salaries, lighting, heating, which cannot be directly attributed to the production of a good or service. They are also known as indirect costs/fixed costs.
Partnership - is a group of between two and twenty people who bring expertise and finance to the business.
Physical Resources - are not only an organisations fixed assets such as a factory, premises, shop, but also stocks of raw materials, work-in-progress and finished goods.
Private Limited Company (Ltd) - These are usually small to medium sized firms which are family run (but not always e.g. Virgin, Dyson, and Boots). Ltd companies attract more funds than a sole trader so it is easier to grow and expand. Shares cannot be advertised.
Profit - How much revenue received from sales exceed total costs over a given time period.
Public Limited Company (Plc) - Many British famous businesses are plc's e.g. Tesco, Vodafone, Arsenal FC, and BP. Shares are quoted on the stock exchange and to become a plc a firm must have an issued share capital of £50,000.
Key Terms = R - T
Retained Profits - Profits are a major source of long term finance, especially for smaller businesses. By using profits plc's risk upsetting shareholders because if profits are used for investment there is less payout in dividends
Revenue -money received from sales – also known as turnover.
The formula is: Price of the product x number of sales of the product
Sale of Assets - Assets such as land, buildings may be sold by a business to raise capital. In 2005 Boots plc sold 300 of its high street stores expecting to raise £250 million.
Sales Budget - is the key budget because sales help determine how much is produced. It is difficult to forecast, because it depends upon trends, consumer taste and competitors actions.
Semi-variable Cost - A cost that has an element of fixed and variable such as a gas bill
Share Capital - A share represents part ownership in a business. Share capital is money given to a company by shareholders in return for a share certificate that gives them part ownership of the business and entitles them to a share of profits.
Sole Trader - is a business owned and operated by one person
Stakeholders - An individual or group with a direct interest in the organisation's performance. The main stakeholders are employees; shareholders; customers; suppliers; financiers and the local community.
Key Terms = U - Z
Total Costs - the sum of all the costs of the business i.e. variable costs and semi-variable costs and fixed costs
Trade Credit - is when suppliers allow a certain amount of time before paying for stock.
Unlimited Liability - all sole traders and most partnerships have unlimited liability which means if the business fails they are liable for all of the business debts. Sole traders may be forced to sell a house or face bankruptcy if the business fails.
Variable Cost - a cost that changes with output such as stock costs.
Variance Analysis - compares budgeted figures with actual figures.
Venture Capital - is finance that is provided to small or medium-sized firms that seek growth but may be considered as risky by other lenders.
Working Capital - The day-to-day finance used in a business. It consists of current assets (cash, stock, debtors) minus liabilities (creditors and overdrafts).
Break Even Analysis
Breakeven helps businesses to:
- estimate the levels of output they need to produce and sell.
- assess the impact of price changes on profit and the output needed to break even.
- assess how changes in costs impact on profits and breakeven output.
- determine their margin of safety and what changes in levels of demand they can survive.
Breakeven point = total fixed costs / (selling price – variable cost per unit)
Strengths of breakeven analysis are:
- it allows managers to model ‘what if’ situations as the breakeven point will change if a business’s costs or prices change.
- it is quick and easy to perform.
- changes that may occur are easy to spot as the results are in graph format.
Drawbacks of breakeven analysis are:
- fixed costs are unlikely to stay constant in the long run, and are likely to change as productive capacity changes.
- variable costs and sale revenue are also unlikely to be straight lines, factors like discounts, bulk buying and overtime cause constant fluctuations.
- breakeven analysis makes the assumption that a business sells its entire output. In reality businesses are rarely able to sell all they produce.
- breakeven is a static model of dynamic business forces, and the model must be recalculated each time a single factor changes.
Cash Flow Forecasts
Purpose of cash flow forecasts:
- to ensure that sufficient funds are available to finance its day to day operations.
- a cash flow forecast is a detailed examination of a company’s expected future cash inflows and outflows over a future period, which are usually calculated on a monthly basis.
- it is important that cash flow forecasts are completed if the company wishes to apply for a loan from the bank because the bank want to ensure that they will get their money back and the company won’t go bust.
- Cash flow forecasts are constructed using historical information and the forecasts contained in the budgets, they have sections called cash inflows, cash outflows and the running balance.
- Cash Inflows – normally sales revenue, however sometimes loans, grants and capital.
- Cash Outflows – purchases (including raw materials), wages/salaries, heat/light/water, rent, interest on loans, capital expenditure and taxation.
- The running balance – this is a calculation of the net effects of the cash inflow and cash outflow on the businesses balance each month.
Benefits of Cash Flow Forecasts
- enables managers to anticipate periods when cash flows may be high or low, thereby indicating periods when cash might be available for spending or for saving.
- ensuring liquid assets are available to meet payments and maintain working capital.
- identifying periods of cash shortfall so remedial action like overdrafts can be arranged.
- identifying periods of cash surplus so high-cost items can be purchased at little risk.
- highlighting periods when large expenditure is not possible, so businesses may have to spread payments for fixed assets over monthly instalments.
- limiting borrowing and minimising interest payments, as a cash flow forecast should enable a business to only borrow the sum that it needs.
- highlighting cash surpluses that can be more profitably invested elsewhere.
- supporting applications to lenders by demonstrating that funds would be available to meet interest and capital repayments on loans.
Cash Flow Problems
- Excessive borrowing - have to pay interest each month.
- Excessive trade credit – faced with outflows before they have received the money from sales to pay for it.
- Excessive stocks – causes large outflow which may not be generating income.
- Overtrading – means that the business tries to expand too quickly causing cash outflow.
- External factors – competitors, changes in interest rates, changes in exchange rates, developments in a product and changes in legislation.
- Poor planning – poor financial planning, unrealistic figures.
Improving Cash Flow
- buying and holding fewer stocks
- improving credit control, by allowing customers less time to settle their bills.
- rescheduling payments so that large payments are spread over a period of time.
- selling fixed assets
- extending trade credit from suppliers.
- This is the key budget, as the amount a business sell determines the amount it needs to produce or supply, which in turn has implications for the number and type of staff that are employed.
- Sales budgets are difficult to forecast, as the amount a company will sell in future is affected by consumer tastes and fashions as well as the actions of competitors.
- To forecast sales, companies therefore use combinations of historical data, trend analysis, market research and plus their own experience.
- These are the budgets given for things such as producing the stock where the correct amount of stock has to be calculated otherwise the business won’t sell all their stock and money would be wasted.
- The business needs to ensure that it has enough supplies to be able to satisfy it forecast sales but not too much stock that it will be wasted.
- Also included in expenditure budgets are the number of employees as they have to pay their wages/salaries.
Other budgeted components include rent, distribution, repairs, utility bills, stationary and sundry items.
- These are a forecasted profit and loss account which is complied from the individual budgets.
- It allows owners and managers to get an idea of how the cumulative affect of the budget decisions is likely to impact on profitability.
Benefits of Budgets
- monitor business performance.
- to aid communication throughout a business.
- to aim coordination of activities.
- to make managers consider expenditure decisions in advance.
- to motivate staff.
- to help persuade potential lenders to invest money.
- Variance analysis compares actual performance with forecast performance.
- The purpose of this exercise is to pinpoint and highlight areas of good and poor performance. This allows managers to build on areas of strength and remedy or remove areas of weakness.
- All the people that work for the organisation.
- A well managed business will employ the minimum number of staff possible to control costs.
- Physical assets include equipment, buildings, vehicles and stocks of raw materials.
- These resources need to be managed well in order to keep costs down and hopefully make larger profits.
- Most businesses aim to make a profit.
- Costs need to be kept to a minimum in order to increase profit.
Financial plans should be kept such as cash flow forecasts, breakeven analysis and budgets.
Information should be kept on the following:
- Employee details
- Production data such as productivity
- Supplier records
- Financial information including cash flows
- Customer details
- Records of costs
Benefits of Resource Management
- Allocative efficiency – the ability to ensure that the right resources are available in the right place at the right time.
- Minimises waste
- Maximises capacity utilisation
- reduces costs, increases profits
- consist of collections of related information that can be manipulated to produce reports on various aspects of the business’s operations.
- gather and store large amounts of information on activities that need to be regularly monitored.
Most businesses use databases to provide information on:
- employee details
- stock records
- fixed asset schedule
- customer records
- supplier records
- Spreadsheets are software applications specifically designed to store and manipulate numerical information.
Spreadsheets can be used to store information on:
- Records of sales and expenditure = sales per week, sales per area, best selling and worst selling products, trends over time and changes in price.
- Cash flow forecasts
- End of year accounts