Business Theme 2

2.1 Sources of Finance: Internal and External

Why Finance is Required:

- Starting up (investment needed for long term projects)

- Growing (to purchase new buildings/equiptment)

Internal Sources of Finance:

- Retained profits (can be reinvested into the business, safe and manageable)

- Sale of Assets( property can be sold to raise capital)

- Better usage of existing funds

External Sources of Finance:
- Crowdfunding (when lots of people invest small sums of money)

- Business Angels (investors take a big risk, but for big rewards)

- Loans (borrowing from the bank, can have high repayment rates)

- Share capital (selling shares in exchange for finance)

- Venture capital (large sums invested in return for a big share of the company)

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2.1 Liability and Finance

Unlimited Liability

- This is when all debts incurred can be collected from the owners personal assets

- This is found in sole traders and partnership

Limited Liability:

- This meanst that the legal duty to pay debts stay within the business

- Gives owners the confidence to push ahead with growth

Finance for Unlimited liability companies:

- Owners capital
- Bank finance
- Leasing

Finance for Limited Liability companies:

- Share capital
- Bnak finance
- Venture capital

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2.1 Planning and Cash Flow

A plan in obtaining finance is important, as you will now how much you need as well as choosing the correct option. If there is no planning the business may find itself in uneccessaary debt

Cash Inflow - The sums which are expected to come into the business each month

Cash Outflow - Planned payments each month which the business must pay (e.g rent)

Monthly Balance - This is the Cash inflow - Cash outflow

Opening and Closing Balance - Shows how much money the business has at the end of month

Analysing Cash flow
- Calculating the difference between closing and opening balance

- Assessing trends in data

Uses of cash flow forecast:
- Getting goods to the market in a shorter time to improve cash flow

- Getting paid quicker to improve cash flow

- Keeping raw material stocks low to improve cash flow

- However unexpected events must be accounted for

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2.2 Sales Forecasting

Factors affecting sales forecasting:

- Consumer trends ( they can be short lived, making it diffcult to forecast, they can be affected by changing tastes, demographics and globalisation)

- Economic Variables (for example change in real incomes, exchange rates, taxation rise)

- Actions of Competitors (the downturn of a key competitor may boost demand significantly)

Issues with Sales Forecasting:

- It is based off estimates

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2.2 Sales, Revenue and Costs

Sales revenue is given by (Sales volume x Price). Sales revenue can be hard to calculate if a business has different products and offers promotional prices

The cost of Production:

- Fixed Costs (costs which do not change with supply, includes rent)

- Variable Costs ( These costs change with supply, for example raw materials)

- Total Costs (When the fixed and variable costs are added together)

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2.2 Break-Even

Break-even point = (Fixed Costs) / (Price - variable costs per unit)

Contribution = (Selling price - Variable costs)
Total contribution can be used to calculate profit

Break-even Charts:

- It is a graphical representation of total costs against revenue. The point at which the lines intersect is the break-even point

The margin of safety is the amount which demand can fall before the company begins making a loss

Impacts of changes in Price, output and cost:

- Price rise (revenue line will be steeper, the break-even point will fall)

- Rise/fall in demand (Has no impact on breakeven point)

- Rise in variable costs (The total costs will rise, break-even point will rise)

- Fll in fixed costs (Total costs will fall, break-even point will fall)

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2.2 Budgets

Types of Budget:

- Historical Budget (This is when the previous years budget is generally used as it was sufficient, it may be slightly tweaked to account for inflation)

- Zero-Based Budget (The department must justify why it needs that sum of money. This can be time consuming and the correct decision may not be made. It can prevent budgets from rising

Variance Analysis:

- Favourable - Better than expected

- Adverse - Worse than expected

Issues with Budgeting:

- They are not always neccessary

- Can interfere with targets set

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2.3 Profit

Gross Profit = (Revenue) - (Cost of sales)

Operating profit = (Gross Profit) - (Fixed Overheads)

Net Profit = (Operating Profit) - (Financing and tax)

Measuring Profitability:

Gross Profit Margin = (Gross profit) / (sales revenue) x100

Operating Profit Margain = (Operating profit) / (sales revenue) x100

Net Profit Margin = (Net profit) / (sales revenue) x100

How to Improve Profits:

- Increase the price (depends on price elasticity, but will increase revenue)

- Cut costs ( Will lead to greater profit per item)

Revenue is not the same as cash in. Revenue is the value of sales made over a period. Revenue comes from one source (customers) but cash inflow can come from multiple sources

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2.3 Liquidity

Liquidity is the ability for a business to pay its debts

Types of ratio:

Current Ratio = (Current Assets) / (Current Liabilities), this is expressed as a ratio
The ideal ratio is 1.5:1, meaning £1.50 of assets for £1 of current liabilities

Acid Test Ratio = (Current Assets - Inventories) / (Current liabilities)
The ideal ratio is 1:1, showing they have eqaul liquid assets to liabilities

Ways to improve Liquidity:

- Selling under-used fixed assets

- Raising more share capital

- Postponing planned investment

How working capital should be managed:

- Control cash used
- Minimise spending on fixed assets
- Plan ahead by estimating cash needed

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2.3 Business Failure

Internal Causes of Business failure:

- Marketing failure ( the business may not have a solid consumer base)

- Financial failure ( The business simply can not pay back money so fails)

- Systems failure (if it is heavily dependant on IT systems stock ordering may fail)

External Causes of Business Failure:

- Change in technology (This may give a rival a significant advantage)

- Competitor ( A competitor may be much more effective)

- Economic Change (reccession may mean orders dry up etc)

- Behaviour of Banks (They may not be willing to fund a business further)

Financial causes of business failure:

- Inability to pay bills
- Failure of big investment

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2.4 Production, Productivity and Efficiency

Job Production - This is when a one-off item is produced such as a tailored suit

Batch Production - creating a small number of identical items

Flow Production - The continuous production of the same item

Cell Production - Setting up a small production line so items can be flexibly produced

Productivity is the number of goods a worker produces in a set time, factors impacting it include:

- Level of investment in modern equiptment
- The ability level of those at work
- Employee motivation

Difficulties of increasing productivity:

- productivity is usually is not a target
- can lead to more disruption than positive gain

Labour-Intensive Production - labour forms a high % of total costs

Capital -Intensive Production - high barriers to entry

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2.4 Capacity Utilisation

Capacity Utilisation = (Current Output) / (Max possible Output) x100

Capacity utilisation is essentially how much of its labour, machinary and buildings that it uses in producing goods

Under-utilisation leads to a higher fixed cost per item figure

Impacts of over-utilisation are:

- if demand rises further, you will have to turn customers away

- You will struggle to service the machinary and train staff

How to improve capacity utilisation:

- Increase demand

- Cut capacity

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2.4 Stock Control

Types of Stock include:

- Raw materials and components

- Work in progress

- Finished goods

A stock control graph typically includes a maximum level, Re-order level and minimum level. These are all self-explanitory

Implications of poor stock control:

- Cash flow issues
- Increased storage costs
- Increased stock wastage

Just-in-time is a japanese stock control system. It works by gradually increasing the number of deliveries but reducing the quanitity of goods. Eventually there will be a few days between deliveries. JIT requires high quality standard but can minimise waste.

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2.4 Quality Management

Methods of Improving Quality:

- Quality Control (this is based on inspection.Wokers will produce the goods whilst managers check they meet required standard, may be every single product)

- Quality Assurance (This is a system where quality checks are carried out at every stage of the production process)

- Total Quality Management (TQM is a philosophy where quality is engrained in the companies culture, quality should be built in rather than checked)

- Quality Circles (A group of employees meet together to identify and solve issues regarding issues with quality, this can also improve morale)

- Zero Defects (This is the aim to produce goods with no defects at all. This is especailly important in engineering etc as errors can cause death)

Kaizen
- This is a Japanese term which means continuous improvement, the whole workforce must embrace this idea.

If a business as great quality it makes it more compeitive as customers will view them as better as well as them having less waste.

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2.5 Economic Influences

The business cycle is a pattern of boom and slowdown which has been present in the UK economy for more than 150 years. When the economy grows too fast people spend too much, errors are made and recession begins

Inflation measures the % rise in average price level. Inflation leads to:

- If inflation is high debts owed can be eroded away
- Inflation can damage profitability, especially if the business has long-term contracts
- If costs in Britain are high then UK companies may not be able to compete with foreign firms

Impacts of Interest rates:

- Consumer demand (higher rates mean people are less likely to take a loan out)
- Operating costs (higher rates leads to higher operating costs)

Impacts of Exchange Rates:

- Firms that export lots will want low exchange rates as it means their goods are cheaper abroad
- Firms that import lots will want high exhange rates as they will pay less for raw materials

High taxation/corporation tax can lead to a reduction in net profit.

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2.5 Legislation

Consumer Protection:

These laws are designed to protect customers from being misled. For example:
- Sale of Goods Act (requires goods to be of the purpose advertised)
- Trade Description Act (the good must do what is advertised)

Employee Protection:

These laws protect employees from being exploited by businesses. For example:
- Minimum wage (means all workers are paid a decent wage)
- Right to a contract of employment (better job security)

Environmental Protection:

These laws protect the environment from damage by businesses. For example
- Landfill Tax (heavily tax to discourage the use of landfills
- Environmental Protection Act (risk assessments to be carried out by companies)

Competition Policy:

The Competition and Markets Authority was established to lauch investigations into cartels, takeovers and anti-competitive practises

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2.5 The Competitive Environment

One dominant Business:

This is where there is only one main business in a market. Thye essentially hold a monopoly over the market and it can be difficult to gain entry if the leader is aggressive. They are bad for consumers as they limit choice

Competition amongst a few giants:

This is where there are only 3 or 4 main firms in a market. Choice is better and it is extremely diffucilt to gain a meaningful market share

How one can make themselves more compeititve:

- Price Cutting (often chosen by supermakets, it can help boost market share)

- Increase Product differentiation (means consumers will want that product more this can be done through design and USPs

- Collusion is where two competitors collaberate togther to ensure survival

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