Unit 2

PLANNING

Liquidity is how quickly business can raise the money.

What is included on a Business Plan?

Cash flow forecast on the plan will show the expected income of a business over the
year. It helps the bank to decide whether they can finance the business and will the business
be able to pay off the bills.

What else?
1) Name of the business
2) Product or service and the market it is aimed at
3) 4 P’s of marketing
4) Human resources - who will be working there
5) Production costs and potential suppliers
6) Premises - a place where the business operates
7) Financial information - projections on revenue, costs

Business plan - a document which sets out the future plans for a business. Owner explains
how they will turn their idea into a successful business. Then the owner shows it to the bank
hoping for a loan.

Purpose of a business plan:

1) To help set up a business
2) To help the business raise money
3) To help the business set objectives
4) To outline how function of the business will be organised

CASE STUDY p170

Instant Road Rescue

(a) Define the term executive summary.

Executive summary is a brief description of a business. It describes business
opportunities, financial information, objectives, etc. It is usually written at the end of the plan
to summarise everything said. Investors usually only read this part.

(b) Explain the purpose of an elevator pitch in a business plan.

Elevator pitch is usually a 2 minute talk that introduces the business, explains all the plans
such as aims, objectives, financial forecasts etc. very briefly. This catches the investors eye
and if the Elevator pitch will sound interesting and exciting they might actually invest into the
business. It is very similar to the executive summary as it also describes the business with
brief information
 (c) Discuss two important sections that should be contained in a business plan.
Business plan is a document which shows a business' future plans and objectives. Owner
explains
First section that should be included into the business plan is the financial forecast.
Businesses plans usually contain a lot of forecasts on their finances, such as sales forecast -
how many products they are planning to sell, revenue forecast - how much money they are
planning to make and the cash flow forecast - expected income and outcome over the year.
Forecasts are helping banks to decide whether they should give the business loan they ask
for, looking at their plans, aims and objectives. Instant Road Rescue wrote a business plan,
in which Jagbir and Kafar (its owners) showed that they will be charging 2000Rs for a
call-out and also additional 20Rs per kilometre. This is called a forecast, when business
owners are predicting their future income, so based on that the bank could decide if they
want to loan business money.
And the second section that is important to show in the business plan is the service that
they provide and which market the business is aimed at. In the business plan, the reader
needs to know what and where the business is doing to get their planned revenue. Idea of a
product or a service needs to be unique, so the bank or investor could know that people will
be interested in buying it. When IRR researched the market, it showed that 80% of the
rescue operators in their area were rude, overpriced and unreliable so they understood that
people would need and use their services. By researching the market, business could find
the gap in it, like IRR did, so business can find a way to make profit out of this gap.

(d) Assess the purpose and relevance to Instant Road Rescue of a business plan.
H
 INTERNAL FINANCE

Finance is the management of the investments needed to open, run and grow the business.

Reasons for raising finance:

1) To pay debts, this is likely to be a consolidation loan
2) To help a business over a slow trading period
3) To expand a business
4) To start a business
5) To buy stock
Asset - something that business owns
Liability - something that business owes

Owners capital - money that the owner has invested into the business.
Retained profit - money that could be left, that business is able to re-invest into the business
to help it grow.
If a business is just starting, retained profit is NOT an option. If a business has not been
able to make a lot of profit, retained profit is NOT an option. If a business has made a loss,
retained profit is NOT an option.

Sale of assets - raising finance by selling items that they already own. This could be
machinery, land, vehicles.
All businesses can sell assets, except those that just started. Business may not raise
enough money for growth. Businesses need to know how well they will run without that
asset.

CASE STUDY p174

Aviligion

1) Define sale and leaseback.

Sales and leaseback is a type of sale of assets, but business is selling an
asset that they actually need. Business is getting quick cash and a special company
leases it back to the seller. That is an easy sale, as a business doesn't need to take
care of the building.

2) How does Avigilon plan to use the proceeds from the sale of its head office?
Avigilon decided to sell their head office for 100 million CAD in 2016. They are
looking forward to selling it using a sales and leaseback deal. If they sell it they get
58 million CAD profit, as they purchased it for 42 million in 2015, and for this money
they are going to pay off the company's debt, boost working capital (the liquid
resources needed for the day-to-day running of a business), and increase the value
of shareholder. This sale could help to fulfil the company's needs and Avigilon could
start working on a new project with help of a budget from the sale of the building.
 3) Explain two advantages to Avigilon of using sale and leaseback as a source of
finance.
First advantage of selling this building from Avigilon is that another company
will be responsible for taking care of the building, which reduces costs for Aviligion.
Also it reduces the number of workers needed to take care of the nine-story building.
According to Avigilon’s CEO this building is located in one of the best downtown
locations, so if Avigilon sells the building using this method, they still keep the
desirable location. This could help the business to focus on other activities such as
developing a new camera, because the building will be run by a third-party company.
And the second advantage is the profit. Even if they sell the building that they
still actually need, they are selling it for more than double the price, which gets them
58 million CAD profit. This money could be reinvested into their new products,
Avigilon can reduce the debt, etc. This could be a very profitable sale, which could
help running the business. This money could be invested in the Question Marks from
Boston Matrix, which are products with high market growth, but they are not
developed very well yet. There are no administration costs either as there would be
with issuing shares, for example.

EXTERNAL FINANCE

External finance is the money that comes from outside the company e.g. banks,
investors and lenders.

Sources of finance - where money has come from.

Methods of finance - what money will be used for.

Sources of finance:
1) Family and friends
2) Banks
3) Peer-to-Peer funding - borrowing money from strangers without paying interest.
4) Business angels - investor getting % of the business
5) Crowd funding
6) Other businesses

EXTERNAL METHODS OF FINANCE

Methods of finance :
1) Loans - “renting” the money from the bank. Banks are lending to the small
businesses, hoping to get financial plans or forecasts from the business. Loans are
affected by the interest rates.
Pros: helps a business to start up, banks are not asking for shares
Cons: bank is charging interest, not flexible bank could set a penalty

2) Share capital - long term method of finance which includes trading on the stock
market, creating shares of the business
Pros: extra funding from investors
Cons: investors might not buy shares, could be risky, more costs than loan
 3) Venture capital - issuing shares to small numbers of investors in return for capital,
there is no payment of interest.
Pros: business gets benefit of the skills of investors
Cons: investors look for a strong plan which is hard for starting businesses, high
stake wanted

4) Overdraft - business gets a bank account, where they can overspend till the special
amount that bank stated. Short term method, usually for smaller amounts of money.
Pros: very quick, can be arranged through phone, paid interest only on the amount
you overspent.
Cons: business could get fined heavily for overdraft, not suitable for long periods

5) Leasing - leasing vehicles or equipment which means renting and paying amount
every month. Business never actually owns the equipment, but gets the option to
change it when it wears out.
Pros: lower monthly costs than loan, no advanced fees, company needs to repair
the equipment, not the business.
Cons: contacts usually are hard to get out of.

6) Trade credit - the seller gives the business to pay for the product 30-90 days.
Business than sells the product in their shop before they pay for them
Pros: no interest, if business pays, they build relationships with supplier
Cons: not all products are available for trade credit

7) Grant - government provides financial help to business, to spend on a special

purpose that the government decides and business doesn’t need to pay the money
back. Owners keep full control over the business.
Pros: don’t need to pay back, no interest, no loss of control
Cons: a lot of competition for grants, application process is very long

FORMS OF BUSINESS

Business form is the structure of the business. It could be sole trader, partnership,
private limited company (LTD) or public limited company (PLC)
Limited liability protects business owner’s personal funds from being used to pay debts. You
only lose money you invested into the business.

Business forms:
1) Sole trader - business owned by one owner but they can take staff. Also known as a
sole proprietor. Can employ people, but they are not involved in the control of
business. Usually a small business, for example electrician, small shop, barber, etc.
Pros: easy to set up, all profit kept by owner, less tax, personal attention to
customers, quick decision making.
Cons: unlimited liability, difficult to raise money, risky, no-one takes your place,
while you are on holiday or ill.
 2) Partnership - profit is shared within the partners. 2-20 owners, each partner is
responsible for paying tax. Partners raise money for the business out of their assets
or with loams, partners delegate responsibilities to employees. It is possible to have a
sleeping partner, which means a partner invests money into the business and does
nothing.
Pros: easy to set up, share problems, decisions and advice, better working
relationships.
Cons: unlimited liability, partners usually are having disagreements.

321 Review

3 contents of a business plan. First one is a financial forecast where businesses should
provide their plans on how much profit they are going to get over a limited amount of time.
Second is the business name, because when asking for a loan from a bank business should
always provide their name for the bank to know who they are dealing with. The third is the
product or service that they are providing. This should be included in a plan because the
bank needs to know from what or how business is making the profit.

2 advantages of internal finance. The first one is that it is fast and easy to get, as business is
already owning the things that are internal, for example assets such as vehicles. And the
second is that you don’t have to pay interest, as the business is selling something to another
business or a person

Case Study - Uche Okafor Associates, p185

1) a) When starting a business there is some knowledge required for the owners to
start-up successfully, however one of the partners - Amokachi was new to this
sphere, so they decided to draw up a deed of partnership, so Amokachi would get
less profit than others. They did this because Okafor and Ezuego are more
experienced and qualified, so they would help run a business more and better than
Amokachi would.

b) 25 000 000
------------ x 20 = 5 million NGN, is the amount of profit Amokachi got in 2016
100
 2) The first advantage of their partnership is that they agreed on the percentage of
the profit that each partner gets, which is very important to do when the business is
starting up to get less arguments with the partners. Amokachi got 20% of the profit,
while the other two partners Okafor and Ezuego got 40% each. This happened
because Amokachi was less experienced, however this is very good that the partners
agreed without any other opinions. This might help them run the business smoother
and easier in the future, however as Amokachi will get more experienced he might
want to get a higher percentage, which might cause some arguments and problems
in the future.
And the second advantage is that each of three partners is a specialist in different
fields of accountancy. Okafor is a tax specialist, Ezuego is an investment analyst and
Amokachi is in charge of external audits. Giving each partner a role that they are
good at, might help running the business easier, as they are covering different fields
and needs of their customers. This means that Uche Okafor Associates might help
the potential clients better than their competitors, as Okafor, Ezuego and Amokachi
have more knowledge in different aspects of accounting. This might help them get
more customers, therefore more profit, customer satisfaction and loyalty.

3) The first possible reason that Uche Okafor Associates decided to not invite the
sleeping partner is a waste of profit. Sleeping partner is a partner that just invests
money to get share of profit, however he does nothing for the business

LIMITED COMPANIES

These can be both Public or Private

There are certain features common to these companies including:

1) Memorandum of Association - the document that makes limited companies “alive”

2) Article of Association - outlines rules and responsibilities of owners and employees
3) Shareholders
4) Different types of liabilities

Private Limited Company (LTD) - can expand and grow by selling shares. Friends and
family can buy shares in the business. This will make them part owners. Shares cannot be
bought by strangers or the public. LTD owners have full control of who buys the shares,
owners need to agree if they want to sell the shares to someone. Also LTD has limited
liability, so the owners are not responsible for the debts.
Pros: limited liability, can raise money by selling shares to friends, can employ managers
to help run business
Cons: have to publish accounts, revenue, costs, etc. , more expensive to set up than
partnership, cannot sell shares on stock market.
 Case Study: GroPak, p186

1) The first advantage of becoming a shareholder of GroPak is that this company is

based in the Netherlands, which has one of the largest exporters of food in the world,
which makes demand on her company much higher, which means investing into it
could get you shares of the company, therefore profit. The owner of the business
Kika set up her company as a sole-trader, however the business started to grow,
which might be a reason for people to invest into GroPak as the company is still
growing and might be profitable in the future.
And the second advantage is that buying shares means that you will have a part
of the business which means you will have a say when making decisions for GroPak.
This might help the owner to get more ideas and more profit, which will be good for
shareholders.

2) Private limited companies are owned by 20-50 owners. They can be only from
friends and family of the original founder, because in a private limited company you
can’t sell shares on the stock market or to strangers. This might be an advantage, as
shares can only be bought after an agreement of owners and only to people owners
know, which might help the business to be more safe as they know who they are
working with.

3) The impact of becoming a private limited company might help Kika to get the 400
thousand dollars that she needs. Banks were not giving her the loan so her
accountant suggested to become a private limited company which allows to sell
shares to friends and family to raise the finance she needs.
Also GroPak might get more recognition, as more people are investing into it so
this company might be profitable in the future when it becomes a public limited
company and enters the stock market.

FRANCHISE

Franchise is when a business sells its idea to another company, getting part of the profit.
Franchisee - business that is buying the rights
Franchisor - business that is selling the rights
Costs of franchise:
● Cost of buying the franchise at the start
● Monthly royalty payment to franchisor

Pros: franchisor chooses the franchisees carefully, franchisor decides how much money
must be invested, franchisor provides support and advice
Cons: franchisees do not have freedom, franchisee pays percentage of profits, franchisee
will never own the business.
 Case Study: Carrefour, p188

1) Franchise is when a business is selling its idea to another company. Company

that is buying the idea is called a franchisee, it means that company is buying for
example one Carrefour supermarket and shares the profit with the franchisor.
Franchisor is a company that is selling the idea to a different business. Franchisor is
still keeping all the ownership of the business and most of the profit, however the
franchisee is still making money, but on a long-term basis.

2) One of the benefits of franchising one of the Carrefour supermarkets is that

Carrefour is one of the largest retail store companies in Europe, it made 85,700
million euros in 2016. This means that the franchisee is almost guaranteed to make
profit, which is very beneficial for both the franchisee and franchisor.
Also Carrefour has a reputation all over Europe, which means franchisees might
benefit from already developed customer loyalty in the specific area the supermarket
is based in. Carrefour has great valued products, good customer service and
operative staff, which also helps franchisees to keep the supermarket well run.
Another benefit is that

SOCIAL ENTERPRISE

Social Enterprise is a business that trades for a special social or environmental purpose.
They are not focusing on profit.
Social Enterprise ≠ Charity

Lifestyle business is a business that aims at providing a return of investments for investors.
Aim is to provide great quality life for the owner.

Online business is easy to set up, available 24/7 and can be managed from anywhere in the
world, owner does not have to sit in the office

PUBLIC LIMITED COMPANY

Public Limited Company (PLC) - entering the stock market, investors are invited to purchase
shares (called IPO - Initial Public Offering) Going public is expensive - advertising and
admin, legal paperwork, company must have 50k$ in share capital

Prospectus - document to advertise s hares to investors

LIABILITY

Limited liability - owner only loses money that they invested, personal assets are not at risk.
Pros: owner is secured, limited company is seen as a secure company
Cons: to get limited liability business have to publish their accounts
Unlimited liability - owner is responsible for debts, they can come and take your car
Pros: tax advantages, easy to set up, all the details are kept private, easier liquidation
Cons: harder to secure a business loan, owner could be sued if he is unable to pay off
Asset - something a business owns
Liability - something a business owes

1) Right issue is a special offer from a business for shareholders to buy a special
exact amount of shares for a discounted price. In this case Sibanye Gold launches
over 1 billion shares for 60 percent off, but shareholders have to buy 9 shares for
every 7 they already own. This is done to raise finance and encourage people to buy
shares.

2) 14 000 000 : 7 = 2 000 000

2 000 000 * 9 = 18 000 000 shares need to be bought to complete an entitlement
18 000 000 * 0,86 = 15480000$

3) Right issues of Sibanye Gold were oversubscribed by almost 97% of all of the
shareholders. This might have happened because Sibanye Gold is a very
reputational company in South Africa, as they are known for good and regular
dividends. This is the amount of money that company is paying back to shareholders
for their shares. Sibanye Gold was paying back 5.64 percent of the investments,
which is 2.16 percent higher than all of the other South African companies. This
percentage is very big so almost all of the investors were encouraged to buy them.
Sibanye Gold is also benefiting from it, as only a certain amount of shares can be
bought by investors, which helps them sell more shares than they can. Also the new
price per one share (0,86) was very good for investors and the Sibanye Gold, as they
are cheap, and more quantity is bought.

SALES, REVENUE AND COSTS

Basic terms:
1) Cash that buyers pay you for goods is sales revenue
2) The amount of products you bought from wholesaler is a variable cost
3) The amount you paid to rent a stall is a fixed cost
4) At the end revenue - costs = profit
5) Quantity of products sold is a sales volume

Sales Volume = Sales revenue / Selling price

Sales Revenue = Selling price x Sales volume

Fixed cost - costs that do not change based on output, e.g. rent, lease, insurance, loans, etc.
Variable cost - costs that change depending on output, e.g. stock, wages of staff, fuel, etc.
 1) It could be difficult to calculate the sales volume because FC Barcelona has a
lot of different types of products and services, from which sales volume is increasing.
These include merchandise of the club, stadium tours, food, drinks, travel packages,
sponsorships, etc. Also FC Barcelona are selling tickets to matches, but every match
could have a different demand on the tickets which also makes it harder to calculate
an accurate amount.
This could lead to a slower productivity of FC Barcelona accountants and longer
calculations of the sales volume, so they wouldn’t be able to do anything else.
Because of the amount of products and services data also could be inaccurate which
could lead to problems with finance of the club, as everything needs to be written
down and posted.

2) Formula : Sales Revenue = Selling price x Sales volume

Working :
SR = 2E x 23 500 = 47 000E, revenue per match
Total Revenue = 19 x 47 000 = 893 000E, revenue generated after 19 matches

Total Variable Cost = Average variable cost x Quantity

Total Cost = Variable cost + Fixed cost

Ways of improving sales volume:

1) Increase advertising
2) Provide discounts
3) Improve the product

Ways of improving sales revenue:

1) Offer bundles
2) Sell through companies
3) Frequent buyer discount
4) Have a special event
 Case Study: Razia Malik, p212

(a) Define fixed costs.

Fixed costs are the costs that don’t change depending on the output. Examples
of fixed costs could be renting a room, buying insurance, machinery, etc. These costs
are staying the same even if a business is working very hard and generating a lot of
profit or doing nothing. One of the fixed costs for Razia Malik is renting a small
function room in a hotel for 150 CAD a day, this price won’t change.
—————————————————————————————

(b) Define sales volume.

Sales volume is the amount of products and services that are produced and
then eventually sold. This is calculated by a business to keep track of the stock and
the revenue. Razia Malik sold 200 courses in 2016, which is a sales volume of her
business. Sales volume should not be confused with sales revenue, which is the
value of output sold in a specific time period.
—————————————————————————————

(c) Calculate the profit made by the business in 2016.

Formula: Profit = Total Revenue - Total Costs
Working:
5000 + 1000 + 2000 + 400 x 200 = 88 000 CAD, Total Cost
600 x 200 - 88 000 = 32 000 CAD, Total Profit raised in 2016
—————————————————————————————

(d) Analyse two methods a business might use to increase sales volume.
First of the methods Razia Malik could use to increase her sales volume is
increasing advertising and marketing. Advertising is very important when a business
is trying to get more audience to boost the sales volume. Advertising with the right
methods, for example a memorable slogan, could encourage people to check out
your business, as the advert is on people’s mind. Right method will help businesses
to gain attraction and attention. Razia Malik used advertising to get more sales
volume, by expanding the geographical area she is aiming at. Use targeted
advertising, which means that it should be aimed more accurately at the people who
are most likely to purchase the product.
And the second method businesses could use is by providing discounts.
Customers love when products or services they want are dropping in price. This
makes people choose your business over competitors, which helps winning price
factors. Using another pricing strategy will bring some life to your business. However,
choosing to make discounts will lead to losing some profit, as you are charging less.
Razia Malik decided to bring her prices up, which might not be the best decision as
the number of her courses sold decreased by 50.
 (e) Price elasticity of demand for Razia’s courses is estimated to be –1.2. Assess the
extent to which Razia achieved her objective by raising the price of the courses from
CAD 600 to CAD 900.
Price Elasticity of Demand is a calculation that business uses to predict, when
price changes is demand going to fall, going to increase or will stay the same.
In this case if Razia increases her price from 600 to 900, her price elasticity of
demand will be negative, which means that her service’s demand is elastic. This
might cause a decrease in demand and less customers and attraction to her product,
as the competition might be strong in her market. So after the change in the price her
sold courses fell from 200 to just 150 (this is a significant drop and would have a
negative impact on profit). Also her profit for a year fell from 32 000 CAD to 20 000
CAD.
All those factors caused Razia to not reach her target profit increase of 10
percent. However she might have fulfilled some of her other needs, for example her
number of courses a year decreased to 80, which gave her much more time to spend
with family and friends, go on holiday or just take a break from her job. This means
that Razia did not have to work as hard. The 60 per cent fall in demand meant that
Razia would have more leisure time. Also she still has demand on her courses, so if
she increased the number of them next year she might achieve her target.
In conclusion, unfortunately, Razia did not achieve her target of increasing profit
by 10%, however she still made 20 000 CAD of less number of courses, so she was
left with much more time with family.

SALES FORECASTING

Sales forecasting estimates future value or volume of sales by researching the market.

1) Gardening is one of the businesses, whose sales are depending on the

season. For example people are buying equipment in summer, because fruits and
plants are starting to grow. That is why from the Q1 till the Q3 sales are increasing,
as gardeners are preparing for the warmer weather, to take advantage of the season
Sales of garden furniture will tend to rise during warmer months, as people take
advantage of the weather and eat outside.

2)
a) Sales forecasting can help businesses in staffing. In different periods of the
year demand on the products or services might be different. In this case the gardener
business might employ more people in the Q3 to deal with high demand in warm
seasons. More staff might be needed to manufacture the goods faster, or meet
customer needs. Hiring more staff in those periods might lead to better customer
service and the image of the business.
From this information, managers at the business can decide what staffing levels
should be at different times.
 b) Sales forecasting can help businesses to buy the supplies at the right time. For
example, Q2 and Q3 are the periods with the highest demand, so businesses using
the sales forecast might buy the supplies earlier, in the Q1 to be ready for the high
sales and needs of the products. Buying the supplies later might be more expensive,
as suppliers have higher demand too, so buying earlier will be beneficial.
To enable this production to take place, supplies of component parts will need to be
available, and contracts with suppliers can be placed to ensure that materials are
available.

BREAK-EVEN

Break-even is the point at which revenue equals cost, business is not making profit or loss.

Contribution is what business needs to achieve from selling products to cover the fixed cost.
Contribution = Total Revenue - Total Variable Costs
Contribution per Unit = Selling Price - Variable Cost per Unit

Fixed Costs
Break-even Point (units) = —-------------------------
Contribution per Unit

Working :
25 - 5 = 20 (contribution per unit)
3000 / 20 = 150 t-shirts

Number of sales / Total Revenue / Fixed Costs / Variable Costs / Total Costs
50 9000 12000 6000 18000
100 18000 12000 12000 24000
150 27000 12000 18000 30000
200 36000 12000 24000 36000
250 45000 12000 30000 42000
300 54000 12000 36000 48000

Margin of safety is the number of products that could be not sold without a business making
a loss
Margin of Safety = Actual Sales - Break-even Level of Sales

1. Revenue is the amount of money that a business made, without taking out the costs
to make the product.
2. Break-even is the point where total cost and total revenue are equal, which means
business have no profit or loss
3. Variable costs are the costs that could change depending on the output of the
business, for example bulk.
4. Fixed costs are the costs that do not change based on the output of the business, for
example rent.
5. Contribution is the amount of money that business needs to make to cover fixed
costs before making profit
 6. Margin of safety is the amount of products that business could not sell, but business
still won’t make any loss.
7. Overheads
8. Direct costs are the costs that are linked to a product
9. Indirect costs are the costs that are not linked to a product

CASH FLOW

Cash flow forecast: is a document which helps a business to estimate how much cash it
will need each month in the business. It does this through estimates of income and
expenses, and is usually made over 12 months.

WHY PRODUCT A CASH FLOW FORECAST?

- Advanced warning of cash shortages
- Make sure that the business can pay suppliers and employees
- Important part of financial control
- Provide reassurance to investors and lenders that the business is being managed
properly.

What is a cash flow forecast?

- Cash flow is day-to-day running of a business budget
→ shows where the business will have a shortfall of cash (not enough to pay bills)
- Allows the business to organise short-term cash borrowing to cover the shortfall
- A cash flow forecast is NOT about profit

CASH INFLOW (INCOME):

- Cahs into the business appears at the top of the cash flow forecast
→ called income
- The income of a business is most likely to be sales revenue- this is the money that
has come in from customers (imagine a small car register.

CASH OUTFLOW (EXPENDITURE):

- Cash outflow is the cash that is being spent in the business
→ known as expenditure
- This will be on bills such as: wages, insurance, advertising, etc
- Imagine a shop paying the window cleaner from the cash register.
 BUDGETING

A budget is an estimate of income or expenditure for a set period of time.

EXAMPLE
Mary runs a small online jewellery business. She estimates that will make 20,00€ this year ~
this is her income budget
She also estimates that he costs will be 5000€ ~ that is her expenditure budget
Mary can now trade and measure her actual income and expenditure against her budget.
Any changes are called a variance.

Purpose of Budgets:
A business will create budgets for expenses, sales or profits for a wide variety of reasons. Exam
board wants me to know:
Planning
- A business owner can use a budget to help them plan for any expenses in the year ~
for example tax
- A business budget is vital for the small business to help them identify where they
may run into problems with finances
- The business budget would usually run on a monthly basis with regular reviews to
help planning
Forecasting
- Sales or revenue forecasts are typically based on a combination of the business
sales history and how effective they expect their future trading to be
- Using the business’s sales and expenditure forecasts, they can prepare projected
profits for the next 12 months.
- This will enable the business owners to analyse their margins and other key rations
such as their return on investment.
Communication
- Setting a budget in a small or large businesses an ideal opportunity for the owners to
communicate their objectives of the business in a financial plan
- Budgets also require departments or sections to report back on progress on a regular
basis so their spending and income can be monitored.
Motivation
- Budgets can b used to motivate staff to be more careful with the finances
- If staff are involved in the setting of budgets they are more likely to be more cautious
when spending company money on items like stationery
- If the budget is tied to perks and benefits of the business the employees are much
more likely to keep their costs in line with the budgeted amounts.
 TYPES OF BUDGET

Historical Budget - it is a budget that is based on the history of the business, and has more
potential plans in it. Previous year’s data is usually used.

Zero-Based Budget - it is a budget made by a business that is not based on any history of
the business, but just is an estimate and is based on potential of the business.

There are two types of budgets that businesses might use, historical and zero-based.
Historical budget is a budget that is made by a business using data from the history of
the business, which means budgets can be more accurate than just a prediction, as
business is already in the market and has a potential in achieving the objectives. This type of
budgeting is more accurate and achievable, as business has the history of the sales and
revenue. However some changes might be missed when the budget is prepared, for
example there could be a change in price of the supplies, or the machinery that business
might not expect. That will make the budget inaccurate and the business will have to redo it.
Zero-based budget is a budget that is made by a business without the history by just
predicting potential sales and spendings. This type of budgeting could be great for the
businesses that are just starting up and do not have sales and revenue history, so they can
estimate their future budget. They can do it by comparing the market and competitors, so
businesses can estimate what they are going to achieve by doing certain things. However
sometimes it is very hard to calculate the costs, for example for certain employees, so
business needs to make an estimate. Also this method could be very inaccurate, because
there is no guarantee that business will achieve the aims, without knowing if business is
capable of it.

PROFIT

Profit is the financial gain of a business through selling and trading and can be found by
deducting expenditure from income.

Profit = Total Revenue - Total Costs

Gross Profit = Sales Revenue - Cost of Sales
Operating Profit = Gross Profit - Expenses
Net Profit = Operating Profit - Interest
Gross, Operating, Net profit
Gross, Operating, Net profit Margin = — — — — — — — — — — x 100%
Revenue
Statement of Comprehensive Income (SOCI) - is one of the accounts that business needs
to publish by law, which shows business’ profit and loss.

Overheads are the costs that are not related to the production, for example buying
machinery.
 P242 - 245
Activity 1

1) Formulas :
Grossp Profit = Sales Revenue - Cost of Sales
Operating Profit = Gross Profit - Expenses
Net Profit = Operating Profit - Interest

Working :
i) 2 600 700 - 980 500 = 1 620 200 AUD (Gross Profit for 2016) Correct
2 341 700 - 1 090 000 = 1 251 700 AUD (Gross Profit for 2017) Correct
ii) 1 620 000 - 388 900 = 1 231 300 AUD (Operating Profit for 2016) Correct
1 251 700 - 399 100 = 852 600 AUD (Operating profit for 2017) Correct
iii) 1 231 100 - 19 300 = 1 212 000 AUD (Net Profit for 2016) Correct
852 600 - 21 000 = 831 600 AUD (Net Profit for 2017) Correct

2) Formula :
%Change = Decrease : Original Number x 100

Working :
(1 211 800 - 831 600) : 1 211 800 x 100 = 31,39% (%Change from 2016 to 2017) Correct

3) In 2016 West Ryde hotel made a total profit of 1 211 800 AUD, but in 2017 they
made 831 600. The profit fell by 31,39%, also the total costs increased over the year,
because the hotel might have hired more employees or rent went higher, so business
made less profit. This means that the business’ financial performance was worse in
2017. Hotel owners might have to determine whether the profit fall is caused by
internal or external factors.

Activity 2

1) Statement of comprehensive income is one of the accounts that business needs

to publish by law, which shows business’ profit and loss. In this case if AppGame is a
limited company and they had a revenue of 5 871 000 KRW they would have to post
that information. It is usually done for the past two years, so comparison could be
made easier.

2) Formulas :
Gross Profit = Sales Revenue - Cost of Sales
Operating Profit = Gross Profit - Expenses
Net Profit = Operating Profit - Interest

Working :
6 444 000 - 4 191 000 = 2 253 000 KRW (Gross Profit for 2017) Correct
2 253 000 - 1 223 000 - X = 796 000
X = 234 000 KRW (Admin Expenses for 2017) Correct
796 000 - 595 000 = 201 000 KRW (Finance Cost for 2017) Correct
 3) From 2016 to 2017 profit of AppGame has fallen by 23 000 KRW, however total
revenue has increased by 573 000 KRW. Revenue got higher but profit got lower,
which means that the costs for the business got bigger. Staff shortage might be one
of the reasons for increasing costs, as if there are not enough employees, AppGame
might need a cover so the business has to pay employees higher to work more hours
and do more tasks. The fall in net profit was small, but the directors of AppGame may
have been disappointed because the company had been growing rapidly in recent
years and expectations may have been much higher.

Activity 3

1) Margin is the percentage. Gross profit margin is the percentage of the revenue that
you get after the costs of manufacturing the product. Net profit margin is the profit
after all the expenses of the business like insurance, admin expenses, other
non-operating costs, exceptional items, etc. Taxes are not included in the net or
gross profit. Also gross profit is always bigger than the net, as other expenses are not
counted into it. However businesses are usually more interested in the net profit
margin, as it is the money they actually get.

2) Formula : Gross, Operating, Net profit

Gross, Operating, Net profit Margin = — — — — — — — — — — x 100%
Revenue
Working :
3 600 000 / 5 700 000 x 100% = 63,2% (Gross profit Margin for 2013) Correct
1 800 000 / 5 700 000 x 100% = 31,6% (Operating profit Margin for 2013) Correct
1 755 000 / 5 700 000 x 100% = 30,8% (Net profit Margin for 2013) Correct
4 020 000 / 7 800 000 x 100% = 51,5% (Gross profit Margin for 2014) Correct
2 460 000 / 7 800 000 x 100% = 31,5% (Operating profit Margin for 2014) Correct
2 390 000 / 7 800 000 x 100% = 30,6% (Net profit Margin for 2014) Correct

3) Chapperton did very well in the period from 2013 to 2014. Their revenue increased
by 1,1 million pounds and their net profit after taxes increased by 505 thousand
pounds. This is a very major increase, which means that financially 2014 was a very
good year for the company. The shareholders would probably be very pleased with
this performance.
However there was a major increase in the costs of sales, which decreased the
gross profit margin for Chapperton might have to find a new supplier or increase their
prices to do even better in 2015. Although the gross margin fell from 63% to 51%, the
other two margins have remained fairly stable.
 LIQUIDITY

Liquidity is the ability of a business to turn its assets into cash to pay its current liabilities.
Liquid assets are the easiest to turn into cash.
Illiquid assets are the hardest to turn into cash.

Balance sheet is an instant snapshot of the assets or liabilities of the business.

Measuring liquidity of the business is a measure of how healthy the business is, it doesn’t
have much debt or business is ready to easily pay debts.

Working capital - money that businesses have to pay day-to-day expenses.

Working Capital = Current Assets - Current Liabilities

Trade receivables - something customers owe to business.

Trade creditors - something that business owes to supplier.

Current asset - asset that you can turn into cash within 12 months.
(Cash Balances, Trade receivables, Inventories, Stocks)
Non-Current asset - asset that you can turn into cash longer than 12 months.
(Land & Buildings, Plant & Machinery)
Current liability - liability that you need to pay within 12 months.
(Trade Creditors, Short-term Borrowings)
Non-Current liability - liability that you need to pay longer than 12 months.
(Long-term Borrowings)

Current ratio = Current Assets / Current Liabilities

Formula :
Current ratio = Current Assets / Current Liabilities

Working :
1494,9 / 539 = 2,77 : 1 (2016)
1638,6 / 565,1 = 2,90 : 1 (2017)
This means that for every 1$ of debt they have 2,90$ of assets to sell
The ideal ratio is 1,5 : 1, lower than this means that business is not healthy

Acid Test ratio = Current Assets - inventory / Current Liabilities

Formula :
Acid Test ratio = Current Assets - Inventory / Current Liabilities

Working :
1 494 900 000 - 486 700 000 / 539 000 000 = 1,87 : 1 (2016
1 638 600 000 - 505 300 000 / 565 100 000 = 2 : 1 (2017)

If a business has an acid test ratio of less than 1 : 1, then its current assets do not cover
its current liabilities.
Ways that liquidity can be improved :
1) A business could reduce the amount of stock, so finished goods need to be sent
faster to the customer.
2) A business could reduce the credit period, for example tell customers to pay in 30
days and not 90.
3) A business could also pay suppliers later on agreed credit terms.
4) Increase borrowing money long term and clear the short term debts.

P252
Activity 2

1) Formulas :
Current ratio = Current Assets / Current Liabilities
Acid Test ratio = Current Assets - Inventory / Current Liabilities

Working :
52,3 / 30,2 = 1,73 : 1 (Current ratio 2015) Correct
42,6 / 34,5 = 1,23 : 1 (Current ratio 2016) Correct
46,5 / 28 = 1,66 : 1 (Current ratio 2017) Correct
(52,3 - 34,2) / 30,2 = 0,6 : 1 (Acid test ratio 2015) Correct
(42,6 - 28,3) / 34,5 = 0,41 : 1 (Acid test ratio 2016) Correct
(46,5 - 27,8) / 28 = 0,67 : 1 (Acid test ratio 2017) Correct

2) Looking at the current ratios, you can tell that the Wang Motor Parts have almost
the perfect current ratio of the assets that they can sell to pay off the current
liabilities. 1,73 : 1 in 2015, 1,23 : 1 in 2016 and 1,66 : 1 in 2017. Ratio that
businesses are trying to stay with is 1,5 : 1, because if you have more, then it could
mean that the business has a lot of stock that they are not guaranteed to sell, but if
less, then the business does not have enough assets to pay off the short term debt.
This means that in 2016 the company might have had some financial problems, but
they fixed them the next year. To conclude, the business does have a healthy cash
balance, and even though it dipped in 2016, there is nothing to suggest that the
business cannot cope with the situation.

Activity 3

1) In 2015 to 2016 First Quantum Minerals Ltd started to meet the liquidity problems.
Liquidity problems occur when a business runs short of working capital – particularly
cash. This happened because copper prices fell very dramatically this time. Because
of this company’s share price fell by 70%. First Quantum Minerals’ revenue most
likely started to fall, so they were not able to pay off the short term debts at the time.
Also investors stopped investing into the company as in 2016 they were warned that
the company is not potential in investing into anymore. This also caused First
Quantum Minerals Ltd to lose cash.
 2) First Quantum Minerals’ liquidity was not looking good because of the fall of the
price of the copper, however the company decided to sell its non-current assets,
which are their mine in Finland for 712 million $. Right now they are planning to sell
their mine in Australia to raise cash. By selling their mines First Quantum Minerals
Ltd can reduce their debts, which will help the company to ‘stand up’ in the market.
Also the copper prices started to grow again so the revenue of the company grew.
The money raised is going to be used for a new mine in Panama, which plans to
raise 2500 million $. This might help to pay the rest of the short term and the long
term debt and resolve the liquidity crisis.

PRODUCTION

Productivity is the output of a person or machine per hour.

Production is the total amount of output that is produced in a time period.

Economies of Scale - more units cost less from supplier

Methods of Production :
1) Job - one single product is made at once. For example a custom ship or a wedding
dress. Products are higher quality and higher price will be charged. Production
process can be slow because it is manual work.
Pros: unique, specific to customer measurements, workers are motivated, premium
prices can be charged.
Cons: very expensive, wide range of tools required, hard to speed up production if
demand increases.

2) Batch - more than one product is made at once. For example bread factories or
furniture.
Pros: meet the demand, can be done with machinery, employees specialise in one
sphere, lower skills required.
Cons: EOS, repetitive work, less motivated employees.

3) Flow - continuous production of the same product. For example Coca-Cola, no

flexibility. Same equipment. Lots of machines needed.
Pros: larger quantities, saving money, automated production.
Cons: expensive start-up, low motivation, repetitive work, machinery can break,
completely inflexible.

4) Cell - dividing production into separate areas. For example shoes, shoelaces, soles,
etc. Each cell has a team leader and multi-skilled workers.
Pros: waiting time is reduced, increased motivation.
Cons: more staff to supervise, machinery break will stop the production.
 PRODUCTIVITY

Productivity is how a business can measure how hard a person or a machine is working.
Productivity helps planning, scheduling, monitoring, budgeting and running a business.

Ways to improve productivity :

1) Productivity bonus - is the extra money added to staff’s wage if they increase
production. For example if an employee increases productivity by 5% he gets 500$.
2) Productivity deal - the union may negotiate a productivity deal for all of the staff. This
is also a financial way which is linked to Taylor.
3) Staff training - fully trained staff can be more productive and motivated. Training can
be expensive for the business.
4) Investment in new machinery and equipment - it makes production faster and more
efficient with new equipment. Can be very expensive.

Factors influencing productivity :

1) Quality of inputs in the production process.
2) Labour shift organisation of staff, right number of workers at peak times.
3) Investment in new technology, robots can work without rest so it will increase
productivity rates.

Efficiency is maximised when goods are produced at the minimum cost per unit.

Factors influencing efficiency :

1) Standardisation - is when a business is trying to use the same equipment and
resources for the same products to order bulk. For example, a construction company
building a flat would benefit if each flat had the same kitchen.
2) Outsourcing - is when a business can outsource their job to other companies. This
means businesses can find a partner which does the same job but cheaper and
faster.
3) Relocating - can be helpful for businesses to enjoy lower costs for rent, production
or transportation. For example, businesses can move its facility to China, where
production costs and minimum wages are much lower.
4) Downsizing - is when a business can decrease its size, for example by dismissing
workers or closing unprofitable areas. This may save businesses a cost, however
they can lose experience by firing people.
5) Delayering - is when a business can dismiss its staff to make the structure of the
business flatter, with less chains of command. By this business saves money on
wages and also gets rid of staff in areas they don’t need.
6) Investing in new technology - new technology can increase business’ efficiency.
Machinery may get old and by buying new equipment it can work faster and better.
However this can be very expensive.
7) Lean production - is an approach developed by Toyota. It involves using as few
materials, labour and costs as possible. For example hiring less staff, using
renewable materials or smaller factories. This saves costs and increases productivity.
8) Kaizen - is very similar to Lean production. It is a Japanese word which means
continuous improvement. Japan believes that there is always space for improvement
for employees and new ideas.
Average Cost = Total Cost / Output
Total Cost = Fixed Cost + Variable Cost

Companies that have a higher output per employee are more efficient. This can lead to
competitive advantage as prices per item are lower than competition. However quality may
be lower as a result of trying to produce faster.

Labour intensive production - in this method mostly people are used during manufacturing.
This is popular in China and India, as labour is cheap there. However people can make a
limited amount of product and they could differ from each other.

Capital intensive production - in this method mostly machines are used during
manufacturing. In the UK labour is very expensive, so machines are used. By using
machinery costs per unit are much lower.

BUSINESS FAILURE

Business failure is when business comes to an end trading.

Internal causes of business failure :

1) Poor management of cash-flow - inability to manage cash flow is the most
common cause of failure. This means that businesses do not have enough cash to
pay their bills.
2) Overestimation of sales - over estimation of the sales during forecast also is the
common reason. Businesses may not understand that it takes a long time to make
first sales and overestimate themselves which causes them to fail.
3) Overtrading - this is also a cause at the start up. Overtrading means having too
much stock without having the cash to pay for it. Established companies that are
trying to expand too quickly can face this problem.
4) Poor inventory control - poor management of the inventory system is a big threat
for a business. Businesses need to think ahead using software to know when it is
right to order and deliver the goods.
5) Poor marketing - this means that business can fail to meet the customer needs in
different aspects. A lot of money on wasteful inappropriate advertising. Business can
also fail by putting itself in the wrong spot in the market.
6) Poor quality - profit should not be put over quality. Many businesses fail due to
their products being bad quality. For example poor food hygiene in the cafe or bad
smell in the hotel rooms. All of that can be fixed, but using cash.
7)
External causes of business failure :
1) Market condition - this means that business could fail if the management fails to
respond to problems quickly. For example adapting to market competition.
2) Competition - businesses can fail if they can’t react appropriately to new
competition in the market. Dynamic market is usually a problem.
3) Economic - economic slowdown could be a problem for a business, as there could
be slow profit. Business won’t be able to pay off liabilities and will fail.
4) Exchange rates - currency rates can be not in business favour. For example
exporting goods into other countries could be expensive because of the change in
the currency rate.
5) Interest rates - when interest rate rises banks charge more for loans, which are
hard for businesses to pay back. Existing loans are also affected, which could affect
business’ profitability.
6) Government regulations - sometimes changes in legislation can lead a business
to fail. If the business is unable to respond to changes they could be fined.
7) Supplier problems - supply chain can be critical for small businesses, as
customers want the products right now, but a lot of time can be taken by the supplier
to deliver. This could lead to failure.
8) Natural phenomena - 20% of businesses fail because of natural disasters such as
earthquakes, floods, fires, etc. Inventory could be damaged and business will fail.

CAPACITY UTILISATION

Capacity utilisation is the % of the maximum output that is being used by a business
For example Airline sold 80% of the tickets

Output
Capacity Utilisation = —-------------------- x 100
Maximum output

Capacity under-utilisation - lower demand, so business didn’t sell all the products or services
Higher fixed cost per unit, not enough work for staff, impact on brand image.
Cope easily with increase in demand, less stress, relaxed workers.

Capacity over-utilisation - over selling products or services, maybe not enough for customers
More accidents, stress on the work, cannot cope with increase of demand.
More efficient (economies of scale), more motivation, better brand image.
 INVENTORY CONTROL

Stock control is the control of the flow of stock in the business, it means management and
ordering of :
1) Raw materials
2) Components
3) Work-in-Progress
4) Finished goods

Stock can be any of the above.

Lead Time - time for stock to arrive to the warehouse

Buffer Stock - stock that is held in case of increase in demand or problems with supply

Just-in-Time (JIT) - JIT manufacturing means that business does not have any buffer
inventory, and products are made when order is placed and paid for.
Pros: no wastage, cost saving, improved cash flow as no money invested into stock
Cons: won’t be able to meet unpredicted demand, products might not arrive in time which
will cause a stop of the production line, which is costly.

Lean production aims to eliminate 7 deadly wastes :

1) Over production - reduces quality of finished goods, no smooth flow of production.
2) Waiting time - lots of lead time doesn’t let the next process to happen.
3) Transportation time - lots of finance spent on transportation of stock.
4) Excess processing - large complex machines used instead of small flexible ones.
5) Excess stock - uses floor space and increases lead time
6) Excess motion - too much bending, lifting, etc. can be tiring and cause accidents.
7) Product quality - rework, defects, etc. can add costs to the production process.
 QUALITY

Quality is how well a product or service does what it was designed to do.

Quality control is the way of managing the quality. It means checking and reviewing the work
that has already been done. Example testing, inspection, sampling. Not trustworthy but fast
and no training needed

Quality assurance is a check in between different production stages to make sure that the
product is done right. Trustworthy but slower process

Total Quality Management (TQM) - looking out at EVERY stage of production and
making sure the product is done with NO wastage. No inspectors needed, improved quality,
better business reputation and less development time.Trained staff needed, defects may not
be spotted.

Quality Circles is a group of 5-20 employees who meet regularly to discuss quality problems.
They are joined by other employees that are working on the quality of the product, so
teamwork can be increased and workers can understand better what the problems are.

ECONOMIC INFLUENCES

Economic influence is when a business is affected in any way by any economic factors
Inflation, Exchange Rates, etc.

Inflation is when a product increases in price over a specific amount of time. For
example, the annual rate of inflation shows how much higher or lower prices were the same
month a year after.
Inflation - increase in price
Deflation - decrease in price

Consumer Price Index (CPI) - CPI looks at the prices of things that we buy commonly,
bread, gas, cinema tickets, and track how the price changes over years. CPI is expressed as
a percentage, for example if it’s 3% then average price increased by 3% over the past year.
As inflation rises, the cost of production, supplies, products and services rise too. Due to
this businesses might need to increase their prices which might cause lower demand
————————————————————————————————
Exchange rate is the price of one currency in exchange for another. When changing
currencies commission will be charged.

Exchange rate appreciation means that there is a rise in e. g. $ to other currencies.

Exchange rate depreciation means that there is a decrease in e. g. $ to other currencies.

Strong currency - imports cheaper exports dearer (SPICED) For a business import costs will
be less, however it will cost more to export products abroad.
Weak currency - imports dearer exports cheaper (WPIDEC) For a business import costs will
be higher as product will be worth more abroad, however export costs will be less.
————————————————————————————————
Taxation - is when the government takes money from its country's citizens and spends it
on education, health, public services, etc.
Tax is mandatory and if a citizen wants to live in that country they need to pay its taxes.

How businesses are affected by taxes? : Lower taxes lead to more demand and higher
output. If taxes are high, businesses will have higher costs, making them less competitive.

Boom - period when the economy is growing strongly

Recovery - period when demand is starting to improve
Slump - when the economy is at its lowest point
Recession - period when growth becomes negative

LEGISLATION

Legislation - a set of laws suggested by the government and made official by parliament.

Consumer protection Law - law that protects customers from problems with the products
they bought, for example broken, damaged, unusable or don’t fit description.

Employee protection Law - protection of future employees, business needs to make sure
they not discriminated, given rest breaks, days off and are payed at least minimum wage.

Environmental protection Law - protection of the environment from the business, they can’t
pollute air, water, ground, noise, chemical spills, etc.

Health and safety Law - law that ensures health and safety of every worker regardless of
their trade.

Competition policy Law - law that promotes competition for the benefit of customers,
prevents monopoly abuse.
 COMPETITION

Competitive Market - market where lots of rival retailers are selling similar products or
services to the same customers.

Competition - rivalry between companies selling similar products and services

Perfect - when numerous businesses share the market, the only way to compete is price
cutting.
Imperfect - when there are only a few businesses in the market and they can differentiate
by non-price factors.