Introduction to

Business Math

Prof. Dr. Dr. Alexander J. Wulf

SRH Hochschule Berlin

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Income Statement

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 Income Statement: Theory (I)

Example: An income statement for a merchandise business -

Mr. Ortiz’s gross sales for the first quarter of the year
amounted to $80,000. There was $1,611 in returned
merchandise and $1,050 in sales discounts for customers
paying early.

• Step: Find the Net Sales

• Add sales returns and sales discounts
• $1,611 + $1,050 = $2,661
• Subtract amount from gross sales
• $80,000 − $2,661 = $77,339

Burton and Shelton, 2011 3

 Income Statement: Theory (II)

Example: An income statement for a merchandise business

• Step: Find the Cost of • Step: Find the

Goods Sold Gross Profit

Sales allowance: reduction in price, due to a problem with the sold product, e.g. inferior quality. 4
Income Statement: Theory (III)

Example: An income statement for a merchandise business

• Step: Find the Operating • Step: Find the Net

Expenses Profit

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 Income Statement: Theory (IV)

Example: An income statement for a merchandise business

• Step: Find the net profit after federal income tax

Burton and Shelton, 2011 6

 Income Statement: Theory (V)
Example: An income
statement for a
merchandise business
Steps:
• Determine what
percent each item is
of net sales on the
income statement for
Nichols Furniture
(“Vertical Analysis
of an Income
Statement”)
• Divide each item in
the Amount column
by net sales.
(Formula: Rate =
Part / Base)

Burton and Shelton, 2011 7

Balance Sheet

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 Balance Sheet: Theory (I)
Example: Like the
income statement, the
balance sheet is a very
important financial
statement. A balance
sheet summarizes the
balances of the assets,
liability and owner’s
equity accounts for a
business on a given date.

Note: Total liabilities and

total assets should
be equal.

Burton and Shelton, 2011 9

 Balance Sheet: Theory (II)

Example: Horizontal /
comparative analysis
of a balance sheet

Steps:
• Subtract previous
year from current
year to find
amount of change.
Divide amount
of change by
previous year
to find percent change.

Burton and Shelton, 2011 10

Financial Ratios

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Financial Ratios: Theory (I)

Definition
• Ratio: “is used to compare the sizes of two (or more) quantitates.
Example: Mortar for building a brick wall is made by mixing 2 parts of cement to 7 parts of sand.
(The parts may be decided by weight or by volume, just so long as the same units are used.) Then
it can be said that the ratio of cement to sand is 2 to 7 which is also written in the form 2:7.”
(Tapson, 2013: 51)

• Overindebtedness or Debt overload: Liabilities > Assets, possible cause of insolvency.

Section 19 of the German Insolvency Statute defines it as follows: “overindebtedness shall exist
if the debtor's assets no longer cover his existing obligations to pay, unless it is highly likely,
considering the circumstances, that the enterprise will continue to exist.” and requires that
“overindebtedness shall also be a reason to open insolvency proceedings for a legal person.”

• Cash flow: “Cash flow is the amount of cash received less the amount spent by a business or a
household for a given accounting period. For a business, this is recorded in a cash flow
statement that shows all sources and uses of cash from one period to the next and serves as a
measure of the short-term financial health of the business. A major responsibility of the
finance director of any business is to forecast its cash flow, on both current and capital account,
and to ensure that the timing of receipts and payments is such that money is always available to
meet any payments that have to be made.” (Baxter, 2011: 54)
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 Financial Ratios: Theory (II)

Example: Find the current ratio (Why? Asses over-

indebtedness)
• Current Ratio: A ratio comparing current assets to current liabilities.
• Thorndike Manufacturing’s current assets were
$100 million and current liabilities were $50 million.
Find the current ratio.

Steps:
• Current ratio = Current assets ÷ Current liabilities
• Current ratio = $100 million ÷ $50 million
• Current ratio = 2:1

Burton and Shelton, 2011 13

 Financial Ratios: Theory (III)
Example: Find the acid test ratio (Why? Asses: cash flow)
• Acid Test Ratio: A ratio comparing liquid assets to current liabilities
• Compute the acid test ratio for Sun ‘n Fun Sporting Goods.
Cash: $85,000
Accounts receivable: $145,000
Accounts payable: $110,000

Steps:
• Acid test ratio = (Cash + Receivables) ÷ Current liabilities
• Acid test ratio = ($85,000 + $145,000) ÷ $110,000
• Acid test ratio = $230,000 ÷ $110,000
• Acid test ratio = 2.1 to 1

Burton and Shelton, 2011 14

 Financial Ratios: Theory (IV)
Theory: Return on Return on Equity by Sector
investment (US) (Damodaran, 2016)
• Return on investment: A Industry Name ROE (adjusted for R&D)
ratio that compares the net Advertising 25.46%
income to owner's equity Aerospace/Defense
Apparel
15.31%
14.25%
(amount invested by owners). Auto & Truck 9.43%
• “[M]easures the efficiency of Auto Parts 17.45%
a business as a whole, or of Bank (Money Center) 9.92%
particular investment projects. Banks (Regional)
Beverage (Alcoholic)
9.23%
13.02%
(…) In normal circumstances, Beverage (Soft) 21.27%
a firm that is earning a long- Broadcasting 11.74%
term rate of return lower than Brokerage & Investment
its cost of capital could be said Banking 7.97%
to be using resources Building Materials 11.61%
inefficiently.” (Baxter, 2011: Cable TV 19.50%
325-326) Chemical (Basic)
Chemical (Diversified)
-5.99%
13.92%
Chemical (Specialty) 18.23%
Coal & Related Energy -31.37%

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See Burton and Shelton, 2011, see also http://pages.stern.nyu.edu/~adamodar/New_Home_Page/datafile/roe.html
 Financial Ratios: Theory (IV)

Example: Find the return on investment

• Crafters Corner wants to know what its return on investment was for the
year.
Net income: $98,500
Owner’s equity: $153,500

Steps
• Return on investment = Net income ÷ Owner’s equity
• Return on investment = $98,500 ÷ $153,300
• Return on investment = 0.643

See Burton and Shelton, 2011 16

Interest
Introduction to Business Math

17
Contents

1. Simple Interest
2. Compound Interest

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Simple Interest

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 Simple Interest: Theory (I)

Example: Suppose Natasha borrowed $900 for 8 months at

12% interest. What is the amount of interest?

Steps:
8 I = Interest
• Eight months is 12 of a year. P = Principal (amount of loan)
I=P×R×T 8 R = Rate (percent of interest charged or
I = $900 × 0.12 × 12 earned per year)
I = $72.00 T = Time in years

Burton and Shelton, 2011 20

 Simple Interest: Theory (II)

Example: Suppose Chan borrows $1,825 at 12% interest for

one year. What is the maturity value?

Steps:
• Calculate the interest first:
• I=P×R×T
• I = $1,825 × 0.12 × 1 = $219
• Add the interest to the principal:
• M=P+I
• M = $1,825 + $219 = $2,044

Burton and Shelton, 2011 21

 Simple Interest: Theory (III)

Example: Barbara Jordon’s deposit of $795 at 12% earned

interest of $110. What is the time of this deposit?

Steps:

I $110
•=T=
P × R $795 × 0.12
$110
= T = 1.153 years
• $95.40

• 1.15 years × 360 days per year = 414 days

Burton and Shelton, 2011 22

 Simple Interest: Theory (IV)
Note on interest period: The time (T) is the period of time you have to repay the loan or to
earn interest on your invested money. Time is expressed in days, months, or years (called the
interest period or the term of the loan) and is usually written as a number of years or a fraction
of a year. If a loan is stated in a certain number of days, computing interest is based on either:
• the 360-day year (ordinary simple interest / bank method). Based on lunar calendar, dates
back to Egyptian times. Makes the borrower pay an additional five days of interest (see
Wautier, 2009)
• the 365-day year (exact simple interest / stated rate method)
Exact Simple Interest (365-day Ordinary Simple Interest (360-
year) day year)
• Principal = $10,000,000 • Principal = $10,000,000
• Rate = 8% • Rate = 8%
• Daily Interest = $2,191.78 (($10,000,000 x • Daily Interest = $2,222.22 (($10,000,000 x
0.08)/365) 0.08)/360)
• Annual Interest = $800,000 ($2,191.78 x • Annual Interest = $811,111 ($2,222.22 x
365) 365)
• Actual Yearly Interest Rate = 8% • Actual Yearly Interest Rate = 8.11%

See Burton and Shelton, 2011; see also http://www.reinhartlaw.com/knowledge/methods-calculating-interest-loans-360365-vs-23

365365
Compound Interest

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 Compound Interest: Theory (I)
Definitions
• Compound Interest: interest
calculated on reinvested interest as
well as on the original principal
• Compound Amount: the sum of the
original principal and its compound
interest
• Interest Period: The interest period
is the time (daily, monthly, quarterly,
semiannually, or annually) for which
interest has been computed
• Present Value: The present value of
a future compound amount is the
principal invested at a given rate
today that will grow to the compound
amount at a later date
Burton and Shelton, 2011
Variables
• Financial institutions consider
primarily four variables when
calculating interest to be paid on
deposits. The four variables are:
• 1. the amount of money on deposit (the
balance)
• 2. the interest rate applied (sometimes
called stated rate of interest
• 3. the method of determining the balance
(simple or compound)
• 4. the frequency of compounding
(annually semiannually, quarterly, weekly,
or daily)
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 Compound Interest: Theory (II)

Example: Calculate compound interest annually - The

original principal is $2,200 at 12% compounded annually for 2
years. Determine the compound amount and interest at the end
of 2 years.

Steps:
• Interest at end of the first year = $2,200 × 0.12 = $264
• Add the principal and interest. $2,200 + $264 = $2,464
• Interest at end of the 2nd year = $2,464 × 0.12 = $295.68
• Add the interest. $2,464 + $295.68 = $2,759.68
• Compound Interest = Compound Amount − Original Principal
$559.68 = $2,759.68 − $2,200

Burton and Shelton, 2011 26

 Compound Interest: Theory (III)
Example: Calculate compound interest semiannually -
Calculate the compound amount and interest at the end of 2
years when interest is compounded semiannually on a
principal of $5,000, an interest rate of 10% per year, and a
time of 2 years.
Steps: Steps:
• Find the semiannual rate: 10% ÷ • 3rd period
2 = 5% $5,512.50 × 0.05 = $275.63
• 1st period: $5,512.50 + $275.63 = $5,788.13
$5,000 × 0.05 = $250 • 4th period
$5,788.13 × 0.05 = $289.41
$5,000 + $250 = $5,250.00 $5,788.13 + $289.41 = $6,077.54
• 2nd period: • Compound Amount − Original
$5,250 × 0.05 = $262.50 Principal = Compound Interest
$1,077.54 = $6,077.54 − $5,000
$5,250.00 + $262.50 = $5,512.50

Burton and Shelton, 2011 27

Introduction to Statistics - German Soccer Team:
Task
Student Assignment

First, calculate the following for the male / female team:

• Minimum height
• Maximum height
• Average height
• Correlation weight/height
• Predicted height of a 90kg male player
Compare and describe the differences between both teams.
Second, create a scatterplot depicting the male team's height
and weight data. Include a trendline and its formula. How can
we use this illustration and the formula to predict the height of
a 90kg male player?
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Introduction to Statistics - German Soccer Team:
Solution
1. Insert 8. Right click data points 13. Right click on data 18. Format data labels
2. Charts 9. Add trendline labels 19. Deselect Y values
3. Insert scatter 10. Display equation on 14. Format data labels 20. Move labels as
4. Scatter chart 15. Value from cells appropriate
5. Click diagram 11. Right click on data 16. =Sheet1!$A$2:$A$24 21. Right click on Y axis
6. Design -> select data points 17. Right click on data 22. Format axis
7. =Sheet1!$C$2:$D$24 12. Add data labels labels 23. Bounds: minimum 60

Male Team
y = 109.31x - 123.86
95.00
André Schürrle Manuel Neuer
90.00 Matthias Ginter Mats
Jerome
Hummels
Boateng Per Mertesacker

85.00 Roman Weidenfeller

Miroslav Klose
Lukas Podolski Ron-Robert Zieler
Christoph Kramer
80.00 Sami Khedira
Benedikt Höwedes
Bastian Schweinsteiger
Toni Kroos
Julian Draxler
75.00
Erik Durm
Kevin Großkreutz
70.00 Shkodran Mustafi
Philipp Lahm
Mesut Özil
65.00
Thomas Müller
Mario Götze
60.00
1.65 1.70 1.75 1.80 1.85 1.90 1.95 2.00
References

• Black, J., Hashimzade, N. & Myles, G. A

Dictionary of Economics. Oxford: Oxford
University Press, 2012.
• Burton, S. & Shelton, N. Business Math Using
Excel. Boston: Cengage Learning, 2011.
• Parsons, J. J., Oja, D. & Ageloff, R. New
Perspectives on Microsoft Excel 2013.
Comprehensive. Boston: Cengage Learning, 2013.
• Tapson, F. Oxford Student's Mathematics
Dictionary. Oxford: Oxford University Press, 2013.
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