Standard Grade Business Management - Finance

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Standard Grade Business Management - Finance

  1. 1. FINANCE I LOOK AFTER THE FIRM’S MONEY
  2. 2. Cash Budgets <ul><li>A cash budget (or cash flow forecast) shows the money that is likely to come in and how it will be spent over the coming months/years. This should mean that: </li></ul><ul><li>There is greater control over the future of the business - budgets give targets everyone can work towards. </li></ul><ul><li>Weaknesses and difficulties can be anticipated before they happen - action can be taken to solve the problem in advance. </li></ul><ul><li>There is less uncertainty about the future. </li></ul><ul><li>Decisions can be made about whether to implement a new proposal eg should the business buy a piece of equipment? </li></ul>I don’t have a liquidity problem!
  3. 3. What does the firm need me for? <ul><li>Accountants answer crucial questions about the firm such as: </li></ul><ul><li>How are we doing? </li></ul><ul><li>What sort of return are we going to get? </li></ul><ul><li>Can we pay our debts? </li></ul><ul><li>Should we expand? </li></ul><ul><li>What about taxation? </li></ul><ul><li>Where does our future lie? </li></ul><ul><li>As well as helping managers, information supplied by accountants can also help: </li></ul><ul><li>Shareholders (assess the value of their investment) </li></ul><ul><li>Suppliers (can the firm pay its debts?) </li></ul><ul><li>Providers of finance (can the firm make its repayments?) </li></ul><ul><li>Employees (job security) </li></ul><ul><li>Inland Revenue (tax assessment) </li></ul>Accountants
  4. 4. Business Costs Costs can be DIRECT or INDIRECT . Direct costs are expenses that can be attributed to making a particular product . Indirect costs are the general overheads of running the business. Firms that make more than one product will want each one to earn enough sales revenue to cover its direct costs and make a contribution to indirect costs . If all the products together make enough contribution then the business will make a profit . Costs can also be FIXED or VARIABLE . Fixed costs are costs which do not vary with output . These are mostly indirect costs. Variable costs are costs that will change as output changes . These are mostly direct costs.
  5. 5. Break-Even Analysis The break-even point is the level of output where the firm will just cover its costs . It is not making a profit or a loss . You can calculate the break-even point in a table: BEP 2000 8000 6000 4000 2000 2000 1600 7200 5600 3600 2000 1800 1200 6400 5200 3200 2000 1600 800 5600 4800 2800 2000 1400 400 4800 4400 2400 2000 1200 0 4000 4000 2000 2000 1000 (400) 2300 3600 1600 2000 800 (800) 2400 3200 1200 2000 600 (1200) 1600 2800 800 2000 400 (1600) 800 2400 400 2000 200 (2000) 0 2000 0 2000 0 PROFIT/LOSS TOTAL REVENUE TOTAL COST VARIABLE COST FIXED COST OUTPUT
  6. 6. You can also calculate the break-even point in a chart. BEP
  7. 7. The Trading, Profit and Loss Account This account records the difference between the firm’s income and the cost of running the business over a period of one year . It contains two sections <ul><li>The Trading Account </li></ul>This records the profit or loss made as a result of making the firm’s products. Sales records the value of all the products sold during the year. Cost of Sales records how much it cost to make the products that were sold during the year. Gross Profit is the difference between the income from selling the company’s products and the cost of making them.
  8. 8. Trading Account of MGS Enterprises for the year ended 31 March 2006
  9. 9. 2 The Profit and Loss Account This records the costs involved in running the business. It does not include the costs of buying assets such as machinery, only the cost of using them. All assets wear out with use – eventually they need replacing. Firms usually set aside money each year so that there will be money to buy a replacement when it is needed. This is treated as a business expense – it is called depreciation . Any interest paid or received is included. What is left is the true profit – Net Profit .
  10. 10. Profit and Loss Account of MGS Enterprises for the year ended 31 March 2006
  11. 11. The Balance Sheet This records where the business got its money from and what it has done with it. The 2 balance out exactly, hence the name. It is calculated at a particular date – usually the last day of the financial year . It is made up of: Fixed Assets – things the business owns that are likely to stay within the business for 1 year or more eg premises, machinery. Current Assets – things the business owns that are likely to stay within the business for less than 1 year or more eg stock. Current Liabilities – things the business owes that must be repaid within 1 year eg overdraft, creditors. Long-Term Liabilities – things the business owes that will take more than 1 year to repay eg bank loan.
  12. 12. Balance Sheet of MGS Enterprises as at 31 March 2006
  13. 13. Analysis of Accounts - Ratios Ratios can be used to make comparisons between years and between companies . We can use ratios to calculate: 1 Profitability Gross Profit Percentage – Shows how much profit the firm earns above the cost of making the product Net Profit Percentage – Shows how much profit is left after all the firm’s costs have been paid. It shows how much of every £1 spent by customers is turned into profit Gross Profit Sales Net Profit Sales x 100 x 100 Return on Capital Employed – (ROCE) Compares profitability with the amount of capital in the business Net Profit Capital Employed x 100
  14. 14. 2 Liquidity Working Capital Ratio – (current ratio) shows what proportion of the firm’s current liabilities will be met by its current assets ie does it have enough money to pay its debts? Acid Test Ratio – Essentially the same as the Working capital ratio but the stock figure is ignored Current Assets Current Liabilities = ? : 1 Current Assets - Stock Current Liabilities = ? : 1
  15. 15. 3 Asset Usage Rate of Stock Turnover – Businesses don’t want stock sitting in their stockrooms, they want to sell it on to the customer as quickly as possible Cost of Sales Average Stock* = ? times Average Stock = Opening Stock + Closing Stock 2 <ul><li>Remember – ratios need to be used with care. While they can help identify trends they may not reveal if: </li></ul><ul><li>A company is holding back profits as reserves; </li></ul><ul><li>Whether assets are being over/under valued; </li></ul><ul><li>Seasonal and cyclical variations. </li></ul>

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