Cash flow is the flow of cash in and out of a business. (different to profit)
- Sales of Goods
- Retained Profit
- Bank Loan
Improving Cash Flows
Improving Cash Inflows
- Increase Sale Revenue
- Reduce credit terms with customers
- Encourages customers to pay early (incentives)
- Use short term sources of finanace
Improving Cash Outflows
- Delaying paying invoices
- Leasing rather than buying
- Reduce stock orders
- Improve trade credit terms with suppliers
- Use cheaper suppliers
The only ways of increasing your profits is by either cutting costs or increasing revenue.
Trying to cut costs or increase revenue is difficult without it affecting the performance of the products and the busines.
- Cutting costs ----> Lower quality products
- Cutting labour costs ----> Lower motivation
- Cutting investment ----> Damages long term competitiveness
- Improve products ----> Expensive development costs
- Increase prices ----> Customers switch to cheaper competitors products
Revenue = The revenue earned by a business from the sale of a given quantity of products.
Total Revenue = Number of Products sold x Price
A business can increase revenue through:
- Improved marketing
- Better products
- Increase of selling price
However if you increase your price you need to be careful, that your customers doesnt choose a competitors product which is cheaper.
The impact an increase in price has on revenue depends on how sensitive demand is to a change in price.
Costs = Everything that you have to pay for
Total Costs = Fixed Costs + Variable Costs
A business can reduce its costs by:
- Cutting costs of raw materials, labour or research and development costs
- Cutting its marketing
Total Revenue = number of units sold x selling price
Total Costs = fixed costs + variable costs
Break Even = fixed costs ÷ (price - variable cost per item)
Contribution = price - variable cost
Margin of Safety
Margin of Safety = amount of units between the area where they operate at and the break even point. It is also how many products the business can not see to break even.
Break Even Analysis
Break-even analysis is a useful tool to help busiensses make decisions and set targets.
Helps you answer question such as:
- what would happen if there was an increase in my fixed/variable costs?
- if I raised my price what would the break even point be?
A rise in fixed or variable costs will rise the break even point. Also lowering the price will rise the break even point.
However finding cheaper suppliers will make the break even point fall also a rise in price.
Businesses use break even analysis when:
- Understanding the past
- Setting and achieving production targets
- Launching a new product
- Starting a new business
- Developing a business plan
Problems with Break Even Analysis
Break even analysis assumes you will sell all of the products you make. However we will know this wont be the cases month in month out.
If a business increases its price it will the break even point but it might stop customers from buying as they can get a cheaper similar product.
Sources of Finance
- Retained Profit
- Owners Funds
- Asset Sales
- Trade Credit
Stock Market Flotation
- Private Limited Companies
- Public Limited Companies
Comparing Sources of Finance
Risk - Selling shares mean owners may lose control, or cash flow problems may result from meeting loan repayments
Cost - Cost of borrowing varies across different sources
Availability - Some sources such as loans or share capital might not be accessible
Questions to ask before deciding:
1. Is it a short-term or long-term requirement?
2. How much finance is required?
3. If we borrow it how much will it cost to pay back? (interest rates %)
4. What sources are available to our business?
5. What level of debt can we manage?