Business Management HL

IA - research paper long essay (due on term 2 of gr12) word count vary depending on HL
EA - exam
3 exams in total :
2
. Paper 1 - one giant case study
. Paper 2 - finance
. Paper 3 - multiple short case studies
SEMESTER 1: paper 2 or paper 3 (mixed or either one)
SEMESTER 2: paper 2 or paper 3 (mixed or either one)
Grade boundaries HL
1 : 0-14
2 : 15 - 26
3 : 27 - 37
1
4 : 38 - 49
5 : 50 - 56
6 : 57 - 67
7 : 68 - 100

Business : decision making organization involved in the process of using inputs to produce
goods and/or provide services
Inputs : resources/raw materials put in that will be used in the production process
Outputs : product of the inputs after process
Products : refers to both goods and services
Goods : physical products
Services : intangible products
Needs : basic necessities that a person must have to survive
Wants : desires, not a necessity
Customer : people or organizations who buy a product
Consumers : people who use the products

Types of products:
. Consumer goods - products sold to general public (supermarket), rather than to other
businesses.
a. Durables - products that can last long time (eg. toilet, cars)
b. Non durables - needs to be consumed shortly after purchase (eg. fresh food, medicine,
newspaper)

Fun fact: grocery stores put rice and fresh food at the very end of the grocery to make buyers
3
look around other stores as it is placed in the back.
2
1
. Capital goods or Producer goods - physical products bought by businesses to produce
other goods or services (eg. buildings, computers, tools) (capital goods ARE inputs)
3
. Services - intangible products provided by business

Main Functions / Area of Business

functional areas -> departments
. HR - managed the personnel, hiring, firing
. Finance and Accounts - manages the money of the organization
. Marketing - identifies and satisfies the needs and wants of customers. Ensures that the
products sell.
a. Product
b. Price
c. Promotion
d. Place
. Operations - responsible for turning raw materials to finished goods or deliver services
(eg. staff, teachers)

Business sectors
. Primary sectors (extracting) - involved with the extraction of natural resources, harvesting,
and conversion (eg. agriculture, fishing, mining, forestry)
– usually found in LEDC (less economically developed countries)
– merchandised and automatized in MEDC (more economically developed countries)
. Secondary sectors (manufacturing) - businesses that are involved in manufacturing or
construction of products. The output is sold to other customers.
– economists argue that this is the wealth creating sector because manufactured goods can
be exported anywhere.

(takes stuff from the primary sectors and then manufacture it in secondary sectors)

. Tertiary sector (services) - specializes in providing services to the general population (eg.
retail, transportation, finance) earns the most from**
. Quaternary sector (research) - subcategory of Tertiary, involved in intellectual,
knowledge-based activities that generate and share information (eg. IT, research
consultancy)

Potato analogy:
. Primary sector - planting and extracting potatoes
. Secondary sector - manufacturing the potatoes into fries
. Tertiary sector - selling the fries to McDonald’s
. Quaternary sector - researching and trying to improve the fries

● all are linked together, the 4 sectors create the chain of production
● all sectors are interdependent

. Sectoral change (kind of like upgrading a grade on the individual) - shift in the share of
 .
national output and employment by each sector over time (once everyone has shifted,
there will be no one planting anymore) (eg. farmers who plants the potatoes will go to the
manufacturing)

More definitions:
– GDP: total amount of money spent on goods and services in a country.
Good economy = spend more money to keep the GDP high in a country**
– Inflation: the increase in prices (caused by company wanting more money)

Ways to improve each sectors:

. Primary sector: get machines to help extract the natural resources
. Secondary sector: machines, technology, increase efficiency
. Tertiary sector: good education of employees

(IMPROVED) Sectoral Change Effects

. Higher Household Incomes - correlation between consumption of services and higher
household incomes. (eg. If parents earn more money, children gets more advantages)
. Leisure time - Higher standard of living. More developed nations more time allowed for
leisure and recreation. (If rich, leisure time is what rich people do in free time while poor
people do not have anything better to do and not HAVE leisure time)
. Greater Focus on Customer Service - realization that customer service before are
expecting more, during and after a sale contributes to a competitive advantage.
. Increasing reliance on support source

Entrepreneurship and Intrapreneurship

Entrepreneurship - an individual who actually owns a business and have all the rights to organize,
plans, manages a business.
Intrepreneurship - the act of being an entrepreneur but is actually an employee in a large
business but cares a lot about the company. (Someone who’s work keeper in the company)

Factors of Production
. Land - natural resources
. Labour - physical and mental efforts of people in the production of a good or service
. Capital - all non-natural resources (eg. Buildings tools, machinery)
. Entrepreneurship - the management, organization and planning of the other factors of
production

Online businesses do not require land so business will still run without land.

Reasons for starting a business

. Growth - capital growth - when there is appreciation in the value of assets such as
property and land. (The business could be passed down from generation to generation)
. Earnings - potential returns in setting up your own business outweighs the costs, even
though risks are high. (If a small company goes bankrupt, all the properties they own will
 .

be sold until the company is left with nothing to liquidate (to settle down debts))
. Transference or Inheritance - in some societies the cultural norm is to pass businesses to
the next generation.
a. Transference - pass on (to a non-family member)
b. Inheritance - pass on to children (blood related / family member)
– If you change nationalities to (eg. American citizen) you are NOT eligible to inherit the
company the family owns or the assets owned in another country (eg. Indonesia)**
– If the owner of the company does not have any children to pass on the business for the
children to inherit, and the entrepreneur passes away, all the properties and money goes
to the GOVERNMENT*
. Challenge - being successful in businesses as a challenge and boosts self esteem.
. Autonomy - being free from the confines of rules and regulations expected from typical
employees (eg. holidays, work hours)
. Security - cannot be fired, made redundant, replaced by technology. Potentially easier to
accumulate personal wealth to provide higher funds for retirement.
. Hobbies - some people turn their hobbies into business. Successful entrepreneurship such
as J.K Rowling.

Steps in starting a business

.
Write a business plan
Obtain start up capital
.
.
Obtain business registration (Government earns more money from taxes)
Open a business bank account (Able to track the business to be able to calculate the tax
.
at the end of the year)
. Marketing (NO NEEED to spend MONEY)
– How to apply this to real life: being clean, smelling good, being super nice -> ways to
market yourself ;)
The color red makes u hungry**

4 CONCEPTS:
. Change - all change is not growth, as all movement is not forward. Change should only be
pursued if there is a clear purpose. Change must be managed within organizations if
rhetoric are to move forward and if they are to remain competitive.
a. Driving forces - push for change (popularity)
b. Restraining forces - act against change (spend more money, COST)
Everyone needs to change to survive****

Four phases of change (not developing but changing)

– Fear of unknown (don’t know what’s going to happen after a change)
– Rejection due to misunderstanding of the need or purpose to change (companies need to
explain why a change is needed or not employees will always complain)
– Interest (busy in from staff)
– Acceptance of the need for the purpose of change

. Creativity - process of generating something original or considering new ideas from new
 .
perspectives.
Due to the amount of problems in the world, creativity is needed to solve the problems.
Businesses needs to be creative to to survive.

. Ethics - socially agreed moral principles that guide decision-making. Considered

subjective.

. Sustainability - meeting the needs of the present without compromising the ability of
future generations to meet their needs.
a. Social - ability of a society to develop in such a way that it meets the social well-being needs
of the current and future generations.
b. Environmental (ecological) - capacity of the natural environment to..
c. Economic - activities that meet the economic needs of the current generation

1.2 types of organizations

Main features of:

Private and public sectors

– Private sector: made up of private individuals and businesses that controls and owns it.
– Public sector: under the ownership and control of the government
– State-owned enterprises: wholly owned by the government. (Public schools, public
transportations and hospitals)
Government owns = public, if not
– PPP (public-private partnership): a combination of both public and private sector. (Disney)

Profit-based organizations
Main aim is to make profit.**
. Sole trader/sole proprietor - one person who owns and runs a personal small business.
– Unincorporated, meaning the owner is the same legal entity as the business so if the
business fails, the owner bears full responsibility.
– Unlimited liability (if the business is unincorporated)

. Partnership - a profit-seeking business owned by a minimum of two or more people.

– Ordinary partnership: max 20 owners
– Silent partners: investors who do not actively take part in running the partnership.
– Deed of partnership - contract that stipulates amount contributed by each partner,
obligations and profit/loses divisions.

Advantages of partnership:
– More money and resources
– Less workload
– Less risk
– Two brains
Disadvantages of partnership:
– Less profit
– Slower decision making

Advantages of sole proprietor:

– Full control
– More profit
– Quicker decision making

. Companies (corporations) - businesses owned by shareholders. Also called joint-stock

companies
– Incorporated (limited liability)
– BOD or board of directors are elected people responsible for running the company.
a. Private Limited Companies - shares are owned by family and friends
b. Public limited companies - publicity listed companies in the stock market.
– If DO NOT WANT to be a corporation company, buy a
People start sharing their

Documents needed to begin trading (birth certificate business):

– Memorandum of association - a brief document outlining the fundamental details of the
company.
– Articles of association - internal regulations within the company including the powers of
the BOD and shareholders.
– AGM - annual general meeting
– Certificate of incorporation - document to prove that you are a limited liability company
– Flotation - when you start selling your stocks in stock market, the very first time done is
called an IPO (initial public offering).

Business organization and environment

For-Profit social enterprise: revenue-generating businesses with social objectives at the core of
their operations.
– Strive to return a surplus for social gain
– Can be operated as a non-profit organization or as a for-profit company
Goals:
. Achieve social objectives
. Earn revenue in excess of costs.
.

3 MAIN TYPES of FOR-PROFIT SOCIAL ENTERPRISES

. Cooperatives - for-profit social enterprises owned and run by their members with the goal
of creating value for their members
- cooperatives share their profit between all their members
a. Consumer cooperatives - owned by the customers who buy the goods and/or services.
Includes food, credit unions, child care, housing, and health care cooperatives. Members get
access to goofs and services at lower prices.(good alternatives for banks)

Economies of Scale - the more you purchase the cheaper it gets. (Will stop giving discounts at
some point)

b. Worker cooperatives - set up, owned and organized by their employee members. Some
examples are production and manufacturing cooperatives, cafe, tourism, and communications.
By operating as an enterprise, members are provided with work.

c. Producer cooperative - cooperatives that join and support each other to process or market
their products. Some examples are farmer cooperatives.

. Microfinance providers - financial service aimed at entrepreneurs of small businesses,

especially females and those on low incomes.
– Enable the disadvantaged members of society to gain access to essential financial
services that help eradicate poverty.
Loansharks: worst place to owe money.

. PPP (Public-private partnership) - occur when the government works together with the
private sector to jointly provide certain goods and services. Also known as Public0Private
Enterprises or 3rd sector. (Disneyland Hong Kong, SinoVac, WHO)

Non-profit social enterprises

. Business run in a commercial-like manner but without profit being the main goal
. Use their surplus revenues to achieve their social goals. (Public libraries, state schools,
museums, government hospitals)
. Red cross, Habitat for Humanity
. The term non-profit does not mean they are not allowed to make profit but that this must
be retained in the business for self-preservation and growth.

– Two Types of non-profit social enterprises

. NGOs/PVOs - Non-governmental organization/ Non-profit social enterprise : that operates
in the private sector. It is not owned or controlled buy the government.
– Set-up for the benefit of the others in the society
– UNICEF, Amnesty International
a. Operational NGOd - established from a given objective or purpose. Tend to be involved in
relief0based and community projects such as UNICEF.

Tend to be quiet*

. Advocacy NGOs : take a more aggressive approach to promote or defend a cause, striving
to create public awareness.
 – Take lots of volunteers as they do not have a lot of money
– Amnesty International, Greenpeace
NGOs find ways to make money (merchandise, fundraising)

. Charities - non-profit social enterprise that provides voluntary support for good causes
such as the protection of children, animals and the environment.
– Key function is raising funds from individuals and organizations to support a cause that is
beneficial to society.
– Since charities do not “sell” anything they rely on donations from donors through
marketing.
– Example are Oxfam and WWF
– Run by a board of directors, some managers are paid for their service whole most
individuals join on voluntary basis.
US has the most number of charitable organizations at ,more than 1 million*

1.3 ORGANIZATIONAL OBJECTIVES

Vision Statement - outlines an organizations’ aspirations (where it wants to be) on the distant
future
“A world-class community of proud and outstanding achievers”
Non-achievable*
Very long term*

Mission Statement - simple declaration ion the underlying purpose if an organization’s existence
and core values.
” We inspire one another to achieve our personal best”
More achievable*
Medium-long term*

Criticism
– Just a public relations stunt (since the purpose of most business is to make profit)
– These statements do not cater to everyone participating in the business
– Takes long to make and never accurate

Aims, objectives, strategies, and tactics

Aims (long term) - the general and long-term goals of an organization. They are broadly
expressed as vague and unquantifiable statements. Serves to give a general purpose and
direction for an organization. Usually set by the directors of the organization.

“To provide high quality education to all”

Objectives (medium-short term) - specifically targets ab organization sets in order to achieve its
aims. They are more specific and quantifiable (measurable). Can Abe set by managers and their
subordinates.

“Achieve a 95% passing rate”

– Without clear aims and objectives, organizations have no sense of direction or purpose.

Strategies - plans of action to achieve the strategic objectives of an organization.

Tactics - are short-term methods used to achieve an organization’s tactical objectives.

(Both serve the same purpose and usually unseen to the public)

. Aims
. Objectives
. Strategies
. Tactics

Tactical objectives - short term goals that affect a section of an organization. They are specific
goals that guide the daily functioning of certain departments or operations (eg. Raise sales boy
$10million within the next year to keep staff turnover below 10%.)
Tactical objectives tend to refer to targets set for the next 12 months.
– Survival - because new business are fragile and will most likely encounter a lot of
problems, survival could easily become a ket tactical objective.
– Sales revenue maximization - new businesses strive to maximize their sales revenue to
establish themselves in a market. Sakes staff and agents favor this objective as their
earnings are linked to their sales. Sales revenue is not profit. (Commission)

Revenue (total amount of money that goes in to the business)> sales revenue

Revenue - cost = profit

Profit + cost = revenue

Strategic Objectives - longer term goals of a business, more than 12 months

– Profit maximization - objective of almost all private sector businesses is to maximize
profit. For incorporated business a proportion of their profits are distributed to
shareholders. (Dividends)
– Growth - growth pf a business is measured by increase in sales or by market share.

Market share - percentage of the total sales of a company within an industry

Market power - degree of influence to other companies (hwawei following apple)

Market leader - have the most market shares

Market standing - the extent to which a business has presence in the market
 – Image and reputation - businesses may strive to enhance their image and reputation. A
bad Inage usually leads to bad sales. Employees are more motivated if they work for a
reputable business.

Dividends - percentage of the profit that a shareholder receives ONCE A YEAR

SWOT Analysis

SW - Strength and Weaknesses (internal origin, attributes of the organization)

OT - Opportunities and Threats (external origin, attributes of the environment)

SO - Helpful to achieving the objective

WT - Harmful to achieving the objective

Definition - 1 point
Application/example - 1 point
(2 marks = 2 sentences)

Define service: Services are intangible products

Define unincorporated: Unlimited liability, sole trader/sole proprietor.

ALWAYS BALANCE THE ANSWERS

Give advantages/disadvantages - 4 marks

Advantages - 2 points
Disadvantages - 2 points

Explain the advantages/disadvantages - 6 marks

2 Advantages - 2 points
2 Disadvantages - 2 points
1 Conclusion - 2 points

Finance tools

Ansoff matrix
They will give u the product or the companies will give multiple products that are supposed to be
placed in different categories.
. Existing product, existing market (Market penetration strategy): changing the packaging to
 .
sell the same product within an already existing market. Lower the price to sell the market.
Give promotions such as B1G1.
. New product, existing market (Product development strategy): Change the product and
release something else.
. Existing product, new market: market the same product somewhere else (place).
. New product, new market (diversification strategy): create something strange in a new
market. E.g. if Apple was to release a car.

. Market Penetration - low risk. Focuses on promotions, advertisements, and lowering

prices. Selling existing products in existing markets.
. Product Development - medium-risk. Selling new products to existing markets. Relies
heavily on Brand Development.
. Market Development - medium risk growth strategy. An existing product is marketed to
new customers. New markets may mean selling abroad, different market segment, and
different economic strata. E.g. razors are promoted different for women and man
. Diversification - selling new products in new markets. A Holding Company (Parent
Companies) controls interest in a diverse set of companies. Especially useful in spreading
risk. Subsidiaries are the firms owned by the parent company. New product, new market.
Very risky.
a. Related Diversification - a business offers services within the larger area of the same industry.
b. Unrelated Diversification-selling new products in untapped markets. (e.g. head and shoulders
and mobile legends)
E.g. LVMH owns tiffany and rimowa.
Collaboration counts as a diversificatio

1.4 Stakeholders

Stakeholder - any person or organization with a direct interest in, is affect by, the activities and
performance of a business.

Internal stakeholders - members of the organization 9 employees, managers, directors,

shareholders)
. Employee: the staff of a business, likely to work harder to improve pay, working conditions,
job security and career progression.
. Managers and directors: managers oversee the daily operations of a business. Directors
are the senior executives who have been elected by the company’s shareholders to direct
business operation in behalf of their owners.

Stockholder and shareholder r the same

CEO - Chief executive officer

CTO - Chief technological officer
CFO - Chief financial officer
COO - Chief operating officer
CIO - Chief information officer

Operations r the most important, no COO, company dies

. Shareholders - limited liability companies are owned by shareholders. This stakeholder

group invests money in a company by purchasing its shares. MOST IMPORTANT***

Increase the company’s value (aka reputation) to increase the stocks

Two main objectives

a. Maximize dividends/profits (a proportion of the company’s profits distributed to its
shareholders)

b. To achieve capital gain in the value of shares (rise in the share price)

External stakeholders - do not form a part of the business but have a direct interest or
involvement in the organization (customers, suppliers, pressure groups, competitors and the
government)
. Customers - can easily threaten the survival of a business by spending their money
elsewhere. Or stop buying (boycott - when customers refuse to buy a product or a
service from the company ON PURPOSE to hurt the company).
. Suppliers (gives an advantage for discounts/late paying)- provides a business with
stocks of raw materials, component parts and finished goods needed for
production. A good relationship can also mean preferential treatment (buy now pay
later)n also economies of scale.
. Pressure groups (pressuring the company, like parents pressuring binus, groups of
arisan) - individuals with a common interest who seek to place demands on
organizations to act in a particulate way or change their behavior. Lobbyists, local
communities, NGOs.
. Competitors - rival businesses.
– Businesses may benefit from some competition as rivalry can create an incentive to be
innovative or produce new products.
– To remain competitive, businesses need to be aware of and respond to the practices of
rivals.
– To benchmark performance. Compare key indicators against rivals such as sales, turnover,
profit and market share figures.
. Government (bc they care about taxes) - aims to ensure that businesses act in the
public’s interest.
– Unfair business practices are avoided
– The correct amount of corporate tax is paid from the net profits
– Health and safety standards at work are met
– Compliance with employment legislation occurs
– Consumer protection laws are upheld.
Stakeholder conflict
● Conflict - situations where people are in disagreement due to differences in their opinions,
causing friction between stakeholders of the organization.
● Conflict arises because a business cannot simultaneously meet the needs of all its
stakeholders. For example, cutting staff benefits to improve cash flow. Remuneration for
company directors.

. Financiers
Include banks, microfinance providers, business angels (sharktank people are one of them
except they have their own investment companies)
Business angels make money from the interest

Management and employees are where the conflict most often happens.

In deciding how to deal with conflicting stakeholder needs, leaders need to look at three issues:
1.The type of organization in question - a partnership might strive for profit, whereas a charity
will be different.
2. The aims and objectives of a business - if the firm aims to expand then the proportion of
profits allocated to its owners will be less.
3.The source and degree of power (influence) of each
stakeholder group - customers will have the highest power in a mass market. A united workforce
will strengthen the influence of employees via their trade union.

E.g. binus will listen to the customers

MUTUAL BENEFITS OF STAKEHOLDERS' INTERESTS

• For example, addressing the needs of both employees and managers can lead to a highly
motivated and productive workforce with low rates of absenteeism and staff turnover.

People need to be alienated so they’ll stay loyal. The higher turnover, it usually means something
is wrong with the company.

Per capita = per 1000

If a country does so well and its people are spending so much it usually tends to cost inflation

1.5 EXTERNAL ENVIRONMENT

– STEEPLE Analysis
– Consequences of a change in STEEPLE factors for a business’ objectives and strategies.
– Stakeholder mapping
Low level of power - those who have little influence or concern

Steeple analysis
– Social
– Technological
– Economical
– Environmental
– Political
– Legal
– Ethical
External opportunities and threats beyond the control of an organization. Usually used for
assessing feasibility of expansion.
(Specifically used for expansion)

Opportunities - external factors that present chances for businesses.

Threats - external factors that can harm businesses such as external shocks, price increases,
recession, oil crisis, roadwork.
PEST - political, economical, social, technological
PESTLE - Political, economical social, technological, legal, environmental
(Short ver. of STEEPLE)
SOCIAL
– Social cultural and demographic factors that affect businesses.
– The values and attitudes of society towards certain issues like welfare, women, religion,
animal rights, migration-leading to multiculturalism.
– Aging population, increase of women’s participation in the workforce.
– Language barriers.

TECHNOLOGICAL OPPS
– New working practices such as ICT from home, video conferencing and international
recruitment.
– Increased productivity and efficiency gains through robots and machines-very capital
intensive.
– Quicker product development time (Gofundme)
– Job creation due to technology requiring maintenance and other new areas.
– New products and new markets.
– Redundancy - getting replaced

TECHNOLOPGICAL THREATS
– Reliability and security
– Shorter product life cycles (think phones)
– Costs
– Job losses due to automation (redundancy)
4 things to consider:
. Cost
. Benefits
. Human relations - morale, resistance to change
. Recruitment and training

ECONOMIC
Government has 4 objectives:
. Control inflation
– Inflation - continuous rise in general level of prices in the economy. Government’s aim is to
control it so it is low and stable.
. Reduce unemployment
– Unemployment rate - measures the proportion of a country’s workforce not in official
employment. Has social costs such as increase in crime, poverty. (Poor ppl start to rob,
murder n commit crimes)
– Urban places have higher employment rate

Types of unemployment
. Frictional - between jobs
. Seasonal - caused by a periodic demand for a product or service (picky eaters, Santa
Claus).
. Technological - result of being replaced by machines.
 . Regional - rural areas have higher employment rates than urban areas. (I
. Structural - when demand for a particular product in an industry continually falls resulting
in a change of demands.
. Cyclical - lack of demand in the economy. Here all industries ate affected.

. Achieve economic growth - measured through the GDP

Business cycle
– Boom : economic activity rises with consumer spending, investment and export earnings
– Recession : fall in GDP in two consecutive quarters (more of a term if the decline goes on
for more than 1 or 2 months)
– Slump/Trough : bottom of a recession, last stage of decline. Signs are poor cast flow, low
spending, low investment and export earnings
– Recovery : when GDP rises again after a slump

. Healthy International Trade - government try to make sure export earnings are higher than
import expenditures.
– Exchange rate : measures the values of a domestic currency in terms of foreign
currencies. A higher exchange rate means export prices are higher making exports less
competitive with a lower exchange rate gives domestic firms a price advantages.
– Protectionist measures : laws/policies enacted to safeguard domestic businesses from
foreign competitors.
Examples:
a. Tariffs/Custom duties - taxes on imported products to raise their price so domestic companies
have a price advantage.
b. Quotas - limits to the amount or value of imports
c. Subsidies - payments made by government to businesses as a form of financial aid (someone
has payed a portion of it). (Eg. Gratis ongkir subsidized by the company)
d. Embargoes - physical bans on international trade with a certain country due to health
concerns, safety and usually political concerns. (Refusing)
e. Technological and safety standards - administration and compliance costs imposed on
important products. (If the rules are too tight, it make sit hard for the company to earn money…?)
ENVIRONMENTAL
– Increased concern about negative impact of business practices on the environment.
External costs - costs borne by society rather than the buyer or seller. Includes passive smoking,
air, noise and light pollution, global warming, waste.
– Weather and seasonal change
– Health scares and epidemics (external shocks)

Kitsch - cheap small cute stuff (keychain), decorative objects that are attractive to people or
enjoyed by people but they are useless (a waste).

POLITICAL
Fiscal Policy - use of taxation and government expenditure to influence business activity.
a. Deflationary fiscal policy (trying to lower inflation) - when there is high inflation. Combines
higher taxes with reduced government expenditure policies, higher interest rates.
b. Expansionary fiscal policy - used to boost business activity to get out of recession such as tax
cutes and increased public spending through lower interest rates.

Monetary Policy - use of interest rate top affect money supply and exchange rate sin order to
influence business activity.

Deregulation - removal of policies to encourage business growth.

KINDS OF TAXES
– Income tax - wages, salary, rent, interests, dividends
– Corporate tax - tax on businesses
– Sales tax - VAT or goods and services tax. Tax on items you buy.
– Inheritance tax
– Excise tax - tax on demerit goods (CONTROLLED SUBSTANCES) like alcohol, cigarettes,
gambling
– Custom duties - tax on foreign imports
– Stamp duty - (notarial tax) paid when property is bought.

LEGAL
Government imposed rules, regulations and laws.
– Consumer protection legislation
– Employee protection legislation
– Competition legislation
– Social and environmental protection legislation
Legal employment rights
– Anti-discrimination laws
– Equal pay legislation
– Health and safety works act
 – Statutory benefits - standard benefits offered
– National minimum wage - requires all business to pay the same minimum amount (to
guarantee that peoples life is much better).

ETHICAL
– Business ethics - moral principles that should be considered in business decision making.
– Social audits - prepared on the ethical and social stance of a business, done by an
external agency.

A02. Economies of scale

– A major reason why business want to grow, refers to lower average of production as a
company operates on a larger scale due to an improvement in productivity efficiency.
– Helps businesses to gain a competitive cost advantage because lower average costs can
mean a combination of lower prices being charged to customers and higher profit margin
on each item sold.

Average Cost
– (AC) Cost per unit of output
Calculated by dividing Total Costs (TC) by the quantity of Output (Q)

AC = TC/Q
Consists of two components:
. Average fixed costs (AFC)
. Average variable costs (AVC)
Calculated by diving the Total Costs (TFC) by the level of output.
AFC = TFC/Q
AVC = TVC/Q

Optimal level of Output

The average fixed costs of a firm will decline continuously with larger levels of input. This is
because the TFC remains constant but is spread over an increasing amount of output.

The figure shows what happens when you keep diving the same fixed costs by a larger output.
Companies minimize their costs by operating at the output level where average costs are at their
lowest (optimal level of output).

– Fixed cost = at sometime the cost will go up again.

Economies and Diseconomies of Scale

Economies of scale that occurs inside the firm and are within its control are known as internal
economies of scale.

Those that occur within the industry and are largely beyond and individual firm’s control are
known as external economies of scale.

INTERNAL ECONOMIES OF SALE - stuff that companies can control

By operating on a larger scale, a business can reduce its average costs of production due to any
combination of the factors:
The relative importance of each depends on the actual firm under consideration*
– Technical economies - large firms can use sophisticated machinery to mass produce their
products. High fixed costs of the equipment and machinery are spread over the huge scale
of output thereby reducing their average costs of production. (Hermes, Dior, LV, are
expensive as it is hand-made)
– Financial economies - large firms can borrow large sums of money at lower rates
compared to smaller rivals because larger firms are seen as less risky to lenders.
– Managerial economies - a sole trader often has to fulfill all the functions in the business.
Since a person cannot be good in everything, specialization leads to higher productivity.
Large firms decide managerial roles by employing specialist managers. Higher productivity
means that average costs can fall.
– Specialization economies - like managerial economies but results from division of labour
of the workforce, rather than the management. When you have specialists, you cab have
then take responsibility of a single part of the production process and their skills and
expertise means there is greater productivity.
– Marketing economies - large firms can benefit from lower average costs by selling in bulk,
thus benefiting from reduced time and transaction costs.
 – Purchasing economies - larger firms can lower their average costs by buying resources in
bulk. The larger the order, the bigger the discount.
– Risk-bearing economies - saving can be enjoyed by conglomerates (Firms with diversified
portfolio of products in different markets). Conglomerates can spread their fixed costs
across a wide range of operations. A loss in one area of business does not jeopardize the
business overall.

EXTERNAL ECONOMIES OF SCALE - stuff that companies can not control

Cost-saving benefits off a larger scale operations arising from outside the business due to its
favorable location or general growth in the industry. These benefits are also enjoyed but other
firms within the industry.

– Technological progress - increases the productivity within the industry. (Eg. The internet
has created a huge costs savings engaged in e-commerce)
– Improved transportation networks - help ensure fast deliveries. Employees late to work
cost the business money. Customers and suppliers want convenience. Congestion and
inefficient increase business costs and reduce profits.
Skilled labour:
An abundance of skilled labor might exist in the local area perhaps through government aided
training programs or repeatable education and training facilities in a certain location. This
provides local businesses with a suitable pool of educated and trained labor, helping cut
recruitment costs without comprising productivity levels. (Eg. Trying to taking advantage of the
skilled labor (fishermen) in PIK because its near the sea).
– Regional specialization - means that a particular location or country has a highly regarded
and trustworthy reputation for producing a certain good or service. Allows entire industries
to benefit from having access to specialist labor (Eg. Hire a chef from Japan for Japanese
Resto/omakse).
Skilled labor = skilled ppl
Regional specialization = specific region where they specialize in

Internal Diseconomies of scale

When businesses become too large, there comes a point when companies stop benefitting from
economies of scale. It means the business has gotten too large and is no longer efficient. Internal
diseconomies of scale usually arises from mismanagement.
● Managers may lack control and coordination as the span of control increases which
creates miscommunication due to longer chains of command, also slows decision-making.
● Poorer working relationships in large businesses. People not knowing each other.
● Disadvantages of specialization and division of labor. Creates slack (inefficiencies and
procrastination). People become tired because work in repetitive leading to lower
productive efficiency.

Certain things get wasted because u need more (eg. Wanting too eat 2 packs of income but u
can’t finish it :/)
 ● Amount of bureaucracy (excessive administrative paperwork and complacency policies) is
also likely to increase as a business grows, Makes decision-making longer but does not
contribute to a proportional rise in output of goods and service.
● Complacency - the lack of awareness of genuine risks our deficiencies, when being a large
company or even the market leader causes problems.

Due to the many disadvantages of growing too large, some companies choose to grow via
franchising***

External diseconomies of scale

Happens where there is an increase in the average cost of production when a firm grows due to
factors beyond its control.
– Too many businesses in the same area driven the price of rent (higher rent) which adds to
the fixed costs of all businesses in that area.
– More employer choices means need to offer higher pay and financial rewards.
– Traffic congestion due to too many business located in the same area.

The difference between Internal and External Growth:

Internal growth - occurs when a business grows organically using its own capabilities and
resources to increase the scale of its operations and sales revenue.
– Changing price - people like buying a product at lower prices, If there are only a few
substitutes, demand is said to be price inelastic, so the business will earn more revenue
by increasing prices, In highly competitive markets, demand is price elastic, so a
reduction in price rends to generate more sales revenue.
– Improved promotion - people are more likely to buy a product if they are informed,
reminded, persuaded or influenced about its benefit.
External Growth - occurs through dealings with outside organizations. Such growth usually
comes in the form of alliances or mergers with other firm or through acquisition (takeover) of
other businesses.
– Mergers and acquisitions (M&A) are collectively known as the amalgamation or integration
of firms.
METHODS:
. Mergers and acquisitions - refers to the amalgamation (integration) of two or more
businesses to form a single company.
a. Merger - takes place when two firms AGREE to form a new company.
b. Acquisition - when a firm (usually a bigger one) buys a controlling interest in another firm to
hold a majority stake (makes you the one with the biggest points).

4 Types of Integration:
HORIZONTAL Integration - the most common type of M&A. Occurs when there is amalgamation
between firms operating in the same industry. Horizontal Integration does not represent growth
in the industry but a larger market share and greater market power (dominance).
VERTICAL Integration - takes place between businesses that are at different stages of
production.
– Forward vertical integration - the amalgamation of businesses that head towards the end
stage of production (towards the consumer).
– Backward vertical integration means a merger or acquisition of businesses towards an
earlier stage of production (eg. Coffee manufacturer merges with its supplier of coffee
beans).
– Lateral integration - refers to the M&As between firms that have similar operations but do
not directly complete with each other.

Conglomerate M&As - the amalgamation of businesses that are in completely distinct or

diversified markets. Berkshire Hathaway owns business like insurance, property, clothing, flight
services.

The degree of success of M&As depend on several factors. First, the level of planning involved is
crucial. Stakeholder groups must support it. Managers also need to exert negotiation skills and
be able to handle the added pressures and responsibilities.

. Takeover - refers to when a company buys a controlling interest in another firms to hold a
majority stake without the permission and agreement of the company or its board of
directors. Also referred to as Hostile Takeovers.

. Joint ventures (having a kid without having marriage… company a + company b (both
vanished) = company c) - occurs when two or more businesses split the cost, risks,
control and rewards of a business project. In doing so, the parties agree to set up a new
legal entity (eg. Coca Cola has a JV with San Miguel by shared ownership of coca cola’s
bottling plan in the Philippines).
Advantages of Joint Venture:
– Synergy: the pooling of experiences, skills and resources of the collaborating firms
shocked create synergy. Means that both parties could specialize in their area of expertise
yet gain new access to new technologies and customers to achieve larger profits for both
organizations.
– Spreading of costs and risks: financial costs, risks and losses are shared in a JV thereby
helping to reduce the financial burden on any single organization. JVs also allow to
diversify their products, also helping to spread risks.
– Entry to foreign markets - used by companies to enter foreign countries by forming an
agreement with local firms. National laws make JVs the only option for business wishing to
enter some foreign markets.
– Relatively cheap - compared with the costs of a hostile takeover (which are often
unknown). Easier to pull of a JV if necessary.
Hostile takeover will always be expensive***
– Exploitation of local knowledge - firms that expand via JVs can take advantage of each
other’s local knowledge and reputation. This might not be the case with mergers and
 –

acquisitions which are exposed to potential problems of overseas expansion (such as

differences in business etiquette, cultural values, language and traditions).
– High success rate - joint ventures tend to be friendly and receptive. The parties pool their
funds and resources, sharing responsibility for their mutual benefit. Takeovers often fail
due to their unfriendly and hostile nature.
Joint ventures and strategic alliances have similar drawbacks. Partners in a JV have to rely
heavily on the resources and the goodwill of their counterparts.

. Strategic alliance - similar to a joint venture in that two or more businesses cooperate in a
business venture for mutual benefit. They share rage costs but affiliated businesses
remain independent organisation.

. Franchising - form of business ownership where a person or business purchases a license

to trade using another businesses name, logo, brand and trademark.
Franchisor = parent company (eg. McD, Starbucks)
Franchisee = who purchase the franchise
– The franchisee pays a license fee to the franchisor
– Franchisee also pays a royalty payment based on the sales revenue of the franchisee.

Globalization
Can be defined as the growing integration and interdependence of the world’s economies.
Causes integration towards a single global economy. (Now have access to purchase goods from
other countries)

Role and impact of Globalization on business growth and evolution:

What do multinational companies bring:
– Competition > prices decreases and quality and innovation increases
– Meeting customer expectations
– Increased customer base > amount of customers increase when operating a multinational
companies
– Economies of scale > very beneficial to multinational companies
– Greater choice of location
– External growth opportunities > moving to other countries, it widens the ideas and can
also have access to multiple banks-money
– Increased sources of finance

Growth of MNCs
MNC (multinational company) - an organization that operates in two or more countries.
Sometimes called transnational corporations. Difference is MNC has head office in a base
country while transnational corporation has regional head offices.

Advantages of MNCs:
– Increased customer base
– Cheaper production costs
 – Economies of scale
– Protectionists policies > importing it will be difficult, open one in the country
– Spread risks

Disadvantages of MNCs:
Protectionist Policies (trade barriers) - if your business (as an MNC) is dirty, the local
governments will come check and fine you, comparing to a local business, the government will
not care.
– Tariffs (tax on imports) add to the price of products and makes important less competitive.
Opening a production facility in that country allows for the product to be made locally
avoiding tariff.
– Quotas are quantity limits imposed one the sale of imports. The result is lower supply (and
availability) and increased prices.
– Restrictive trade practices unfairly but not illegally discriminate against foreign
businesses. These do not apply to local firms.

Host country - any nation that allows an MNC to set up in it.

Strategies to Achieve growth (FUBED)

F - first-mover advantage > first one to open that company (when you have no competitions, can
make price higher) eg.
U - unique selling point (USP) > making your brand stand out eg. Apple associated with
expensive, Toyota associated with reliability.
B - branding > apple gives free apple stickers and people put that everywhere to promote
branding
E - economies of scale
D - diversification/diversify

Demerger - when a company sells off a part of its business

Reasons for demergers:

– Sell unprofitable sections of the business
– Avoid rising costs and inefficiency because of being too large.
– Raise cash to sustain operations in other parts of the business.
– Have a clearer focus by concentrating their efforts in a smaller range of operations.

Brand acquisitions - buying the brand of another company. Taking advantage of the name/brand/
popularity/history of company

3.1 Sources of Finance

The role of finance for business:

Businesses need money to finance
– setting up the business
– day-to-day running operations
– for expansion

Factors to consider when looking for sources of finance

– size an type of business
– time scale involved
– purpose of finance
Eg.
Sole trader - use their own money
MNC - external sources like banks

Role/Purpose of finance
● Capital expenditure - spent on fixed assets. items of value that have a long-term function
and can be used repeatedly.
Eg. Land, buildings, equipment, machinery and vehicles
– Determines the scale of operation
– Not intended for resale (in the short term) but to generate money for the business.
– Sources of finance for capital expenditure come from medium to long-term sources due to
high cost of financing fixed assets. Assets can also provide collateral for securing more
loans.
● Revenue expenditure - payments for daily operations.
Eg. Rent, salaries, raw materials, electricity, water
– Includes indirect costs like insurance and advertising.

Internal Sources of Finance

. Personal funds - main source for sole traders and for partnerships
. Retained profits - the profits that a business keeps to use within the business for growth
. Sale of assets - Dormant assets or unused assets such as old machinery and equipment,
land.

External Sources of Finance

. Share capital - main source of finance for most limited liability companies.
– Private limited companies can only sell from within
– Public limited companies can sell their sales publicly through a stock exchange/market
– Going ‘Public’ means you selling your shares the first time called Initial Public Offering
(IPO)

. Loan capital - medium to long-term sources of finance usually from banks. Interest
charges are imposed over a fixed period of time and paid through installments.
a. Mortgage - loan for the purchase of a property
Default/s - fails to repay loan
Repossess - takes back the loaned property or collateral
b. Business development loan - catered to meet the specific development needs of a buyer
c. Debentures - long-term loans issued by a business to individuals, government or other
businesses. Increases a companies’ gearing.

. Overdrafts (utang from the bank) - allows a business to temporarily take more money in its
account than it actually has. Commonly used when there are minor cash flow problems.
High interest rate. This is a short-term loan where the interest rate is per day.

. Trade credit - ‘Buy now pay later’. The seller or credit provider does not recieve payment
until a fixed date, usual time frame is between 30-60 days. Basically a cash advance and
similar to credit cards.
Creditors - provides the loan
Debtor - the person or business making the loan

. Grants - government financial gifts (non-repayable funds) to support business activities.

Conditions have to be met to be given a grant.
. Subsidies - similar to grants because it reduces the cost of production. Main focus is to
extend benefits to society and frequently from the government. To subsidize.
. Debt factoring (waiting for ppl to pay)- financial service that allows a business to raise
funds based on the value owned by its debtors. Most debt factoring service providers
offer between 80-85% of the outstanding payments from debtors within 24 hour of the
application approval.
– Debt collectors (chasing ppl who r running away from debts) - a person or company that
regularly collects debts owed to others or who has the primary purpose of collecting
debts.
– The service provider takes over the legal responsibilities of chasing debtors.
. Leasing - a form of hiring where a contract is agreed between a leasing company (lessor)
and the customer (lessee).
Lessee pays rent to the lessor***
Sale-and-leaseback: a business sells a particular asset then leases it back from the buyer.
Basically an ownership transfer.
Hire purchase - or rent-to-pay, a business pays in installments to own the purchased asset after
completing payment.
Remortgage - a financial arrangement in which someone replaces a mortgage that they already
have with a new mortgage, for example one with lower interest rates.

. Venture Capital - high-risk capital in the form of loans and shares. Comes from firms that
seek to invest in small to medium-sized businesses that have high growth potential
(venture capital firms).
Criteria for an investment project:
Return on invested (ROI)
Business plan
People
Track record
 . Business angels - angels sent from heaven to bless people and organizations with their
own wealth. These angels usually invest in high-risk, high-return ventures.
They frequently take an active part in the future.

*same as venture capital but venture is a company and angels is a dude

E.g. Tiffany Diamond LTD.

– Tiffany has a forecast cash flow deficit of $140,000 in two months’ time. It also has
debtors totaling $180,000. The company decides to use a debt factoring service to
advance 80% off the debtors balance.
Calculate and explain whether this decision would solve the cash flow problem.

– Ans
In 2 months = $140,000
Debtors = $180,000
80% of the debtors
= $144,000
The amount is bigger than the money they need in 2 months as debtors usually need 30-60
days to pay back the amount of money.

Short, Medium and Long term Finance

-there is no common definition for short, medium and long term length in business. The following
breakdown is based on accounting terminology.
– Short term: refers to the current fiscal (tax) year. In terms of external sources of finance,
loans need to be repaid to creditors within the next 12 months or less.
– Medium term: the time period of more than 12 months but less than 5 years (60 months).
– Long term: 5 years (60 months) or more. Long term sources will cover mortgages and
debentures.

External sources of finance (arranged from short to long term)

. Share capital : medium - long
. Loan capital : medium (more than 1 year) - long
. Overdrafts : short term
. Mortgage : medium - long
. Trade credit : short term (30 to 60 days)
. Grants : none of these :p
. Subsidies : none
. Debt factor : short
. Leasing : all or neither but all three
. Venture capital : medium - long
 . Business angels - medium - long
. Hire purchase : medium - long

3.2 Cost and Revenue

Types of costs
– Cost is different from price
– Cost is the amount of expenditure used to make the product
– Price is the amount given to an item when it is sold
– Costs are paid for by the producer while price is paid for by the customer.
– MSRP = manufacturer suggested retailed price

. Fixed costs - cost of production a business has to pay regardless of how much it produces
or sells. Even if there is no output, these will still have to be paid.
Examples: rent, interest payments on loans, advertising, market research, salaries, security.

Salary: stays the same for 12 months (white collar jobs/professional jobs)
Wage: per hour/day/based on stuff you make
Piece rate:

. Variable costs - costs of production that change in proportion to the level of output or
sales. As output increases, the TOTAL VARIABLE COST (TVC) increases as well. So if
output doubles, variable costs should double as well. If there is no production, variable
costs should be zero.

Salaries to management = FIXED costs

Wages to employees = VARIABLE costs

ONE CLASSIFICATION, NOT RELATED TO DIRECT AND INDIRECT COSTS

● Adding the total variable costs to the fixed costs gives the value of the total costs (TC)
● TC = TVC + TFC
● The TC line starts at the same value as fixed costs because these have to be paid even if
there is no output.
● The difference between the TC and the TVC lines at each level of output is equal to the
value of total fixed costs.

Semi-variable costs
– Contains an element of both fixed and variable cost
– Tends to only change when production or sales exceed a certain level of output
– Many costs can be classified as semi-variable costs. Eg. Labor cost as it cab ether be a
wage (variable cost) or a salary (fixed cost). Some companies offer a commission (variable
costs) on top of a person’s salary (fixed).
– Machinery and vehicles can be classified as fixed costs but the more they are used, the
 –
more likely will be susceptible to damage which will merit maintenance costs (variable
cost).

Direct cost
– Directly related to the output of a good/service, without which the costs would not be
incurred. This can include variable costs such as raw materials.
– Unlike variable costs, direct costs are not necessarily related to the level of output, they
can be fixed costs.
Eg. When purchasing a car direct costs will include: insurance, gas
– NOTE: a variable cost for one business may not be the same for another such as catering
costs for an airline. Fancy airlines offer food by default and will incur variable charges
depending on the number of passengers in a flight while budget airlines which sell food in
their flights are direct cost.

Indirect costs (OVERHEADS)

– Costs that cannot be traced to the production or sale of any single product.
Eg. Rent, lighting costs, advertising, legal expenses, utility bills.
– Indirect costs can be fixed costs since tight do not directly relate to the level of output.
However, unlikes fixed costs, indirect costs are not easily identified with a particular
business activity.

SO..
Direct costs CAN BE Variable costs
Indirect costs CAN BE Fixed costs

COST FORMULA**
TC = TFC + TVC (if semi variable cost, add all)
TVC = AVC x Q
TFC = AFC x Q

Revenue
– Refers to the money coming into a business, usually from the sale of goods and service
(sales revenue).
Formula:
Sales revenue = Price x Q sold
If bong charges $300 for a pair of shoes and sells 300 pairs a week.
The total revenue will be $90,000.
A business only earns profit when there is a positive difference between its revenues and costs.

When calculating for profit, and amount of profit is negative, there is a loss, if the amount if 0, no
profit, if the amount of profit is positive, there is a profit.

REVENUE FORMULA**
TR = P x Q
Average Revenue = TR/Q
Since: P = TR/Q
Then: AR = P

Revenue streams:
Revenue does not only come from the sale of goods and services. Money can come into a firm
from other means, known as revenue streams, depending on the type of firm and its activities.
Other sources of non-sales revenue for a business include:
– Advertising revenue - most online companies such as Google, Twitter, and Facebook rely
heavily on advertising revenue for their revenue stream. 80% of the revenues from Twitter
comes from text and display advertising. Some offer a per-click and per-impression
charges.
– Transaction fees - some companies charge people based on their payment type and earn
commission based on it as well. Budget airlines charge based on additional services such
as extra baggage and seat choice. Supposedly, 20% of budget airline revenues come from
alternative revenue streams (add ons).
– Franchise Costs and royalties - franchisees pay franchisors a fee to use their name,
brand and logo. The franchisee also pays royalty based on the sales revenue of the
business. Royalties are also received by patent and copyright holders form those who use
their inventions and creations.
– Sponsorship revenue - form of below-the-line promotion whereby the sponsor financially
supports an organization in return for prominent promotional display of their trademark.
– Subscription fees - imposed on customers who access a good or service based on a
formal agreement.
Eg. Fitness and leisure clubs charge annual membership fees, credit cards charge yearly
membership fees, other charge on a monthly basis (iCloud, Netflix)
– Merchandise - service providers in the entertainment industry like them parks and
theaters rely on selling merchandise such as popcorn, shirts and souvenirs in addition to
admission charges. Gift cards can be bought from places to be spent on retailers.
– Dividends - shareholders of a company are entitled a cut of the company’s profits. A
dividend is a distribution of a portion of a company’s earnings, decided by the board of
directors, to a class of its shareholders. Dividends can be issued as cash payments, as
shares of stock or other property.
– Donations - financial gifts from individuals or organizations to a business. Charities and
non-profit organizations such as schools, hospitals and universities rely heavily on
donations as a regular revenue stream. There are no direct benefits for the donor although
it is widely acknowledged that some donations have terms and conditions attached. At the
very least, an acknowledgement of the donor’s name. Donations are not a likely source of
revenue for most private sector businesses.
– Interest earnings - businesses can earn interest on their cash deposits at the bank. For
cash-rich businesses this can be an important revenue stream. Apple had $137.1 billion in
2013. Depositing $1 billion in an account that pays 1% interest per year will yield $27,397
per day. At an interest rate of 3%, the daily revenue would be $82,192.
3.3 Break-even analysis
Contribution
– Refers to the sum of money that remains after all direct and variable costs have been
taken away from the sales revenue. i.e. the amount available to contribute towards paying
fixed costs of production. The formula for contribution per unit is therefore:
Contribution per unit = P - AVC

Where P, is the price

And AVC, is the average variable costs
Similarly, the total contribution is simply the unit contribution multiplied by the quantity of sales
(Q)

Total Contribution = (P - AVC) x Q

So if a firm sells chairs at $100 each while variable costs are $45 per chair, the business makes a
contribution of $55 per chair. This is not the actual profit because TFC haven’t been deducted.

Profit = Total contribution - TFC

– Once these have been covered, further sales will contribute towards the profit of the
business
Profit can be increased in the following cases:
– Increasing sales of the product, which raises the total contribution (gross profit)
– Reducing variable costs, perhaps through negotiating better deals with current suppliers
or seeking new suppliers that are more competitive.
– Reducing fixed costs and overheads, perhaps through better financial control or the use of
cost and profit centers (unit 3.9)

Contribution analysis
– Helps business identify products that are relatively profitable and ones that might need
more attention.
Gross profit = (P - AVC) x Q
Or
TR - TVC
Tip: it is faster to use the TC to calculate the difference between total costs and total revenue.

Uses of contribution analysis for business

– Pricing strategy: contribution analysis helps a business to set prices for each of its
products to ensure they’re his contribution being made towards payment of fixed and
indirect cost.
– Product portfolio management: helps managers decide which products should be given
investment priority. Generally the products with the highest total contribution and highest
sales. Product with low unit contribution rely on volume of sales.
– Allocation of overheads to cost and profit centers: using the analysis ensures cost
allocation is done in a fair manner.
 – Make-or-buy decisions: the analysis helps a business decide whether two produce or buy
a product from supplier.
– Special order decisions: occurs when a customer places an order at a price that differs
from the normal price charged-usually at a greater volume.
– Break-even analysis: a business breaks even at the point when it neither makes a profit or
loss (focus on not making a loss) when TC = TR <- this is break even point. Break even is
the basic goal of any business.

Break even analysis

– A business can only survive in the long term if it’s profitable, when the revenue are greater
than the cost.
– A business can be in any of these three situations at any given time
a. Loss -> when costs > revenue
b. Break-even -> when costs = revenue
C. Profit -> when costs < revenue
Break-even is a POINT
Carrying out a break even analysis (BEA) can inform managers of two things:
. Whether it is financially worthwhile to produce or launch a product or service.
. The expected levels of profits that the business will earn if all goes according to plan.

At breakeven point, TR = TC
BEA examples:
A jean retailer has fixed costs of $3500 per month. Variable costs are $10 per pair and selling
price is $30. There’re three ways that can be used to determine the break-even point.
– Using the TR=TC rule,
The break even quantity (BEQ) can be calculated by comparing TSR with TC.
TR = PxQ
TC= TFC + TVC
The BEQ is then:
TR = TC
PxQ = TFC + TVC
30Q = 3500 + 10Q
20Q + 3500
Q = 175 pairs of jeans

Question 3.3.1
a. Use the contribution per unit method to calculate the break-even quantity for a firm that has
fixed costs of $200,000 average variable costs of $10 and a price of $35.
– Contribution per unit = P - AVC
So,
$35 - $10 = $25
TR = TC
TR = PxQ
TC= TFC + TVC
The BEQ is then:
TR = TC
PxQ = TFC + TVC
35Q = 200,000 + 10Q
25Q = 200,000
Q = 8,000 units

b. Calculate the value of total revenue at the break even quantity

TR = PxQ
TR = 35 x 8,000
TR = $280,000

c. Calculate the value of total costs at the break-even quantity

TR = TC
TR = 280,000
TC = $280,000

The margin of safety (MOS)

Measures the difference between a firm’s sales volume and the quantity needed to break-even.
Its shows the extent to which demand (for a product) exceeds the BEQ.
– A positive MOS means the company makes a profit.
– A negative MOS means the company makes a loss.
– A 0 MOS = break - even
– If the MOS is low, then the business
– MOS = level of demand MINUS break-even quantity
– (MOS = items sold - BEQ)

3.4 Final accounts

Insanity = when you do the same thing over and over again but expect a different outcome

Purpose of final accounts

– All businesses need to keep records of their financial statements, while accounting allows
for managers to have better financial oversight, generally this is done because its is a legal
requirement.
– When there is divorce of ownership and control, most of the company’s money would have
come from shareholders. Financial reporting allows for the accounting of money to see if it
belongs to owners, lenders or investors.
– All companies are expected to provide a final set of accounts to its shareholders:
. Profit and loss account/income statement - shows the trading position of a business at the
end of a specified accounting period (monthly, quarterly, yearly)
. Balance sheet - shows the assets and liabilities of a business at a particular time.
Purpose of those 2:
– Auditing: legal requirement in most countries and are done either by the government or
independent accountants to certify that financial statements are accurate and truthful.
– Incorporated business are legally expected to produce final accounts for transparency
purposes.
– There is no universal method to present the final accounts and generally it is based on the
judgement of the auditor.

Purpose of Final accounts for different stakeholders

– Shareholders - owners of a company are interested to see where their money was spent
and their ROI. Shareholders decide whether to hold, sell or buy depending on a company’s
financial performance.
– Employees - staff take interest in financial accounts as a barometer for increments and
degree of job security.
– Managers - use financial accounts to judge the operational efficiency of their
organizations. It is also helpful for setting targets and strategic planning.
– Competitors - rivals are interested in the final accounts of a business for comparison
purpose.
– Government - tax authorities examine accounts of businesses especially MNCs to ensure
they are paying the correct amount of taxes.
– Financiers - leaders usually check final accounts before approving any funds (enter banks
and business angels).
– Suppliers - examine a firm’s final accounts to decide which trade credit should be given or
if trade credit should even be given.
– Potential investors - private and institutional investors use final accounts and ratio analysis
to assess whether an investment is worthwhile.

Principles and ethics of accounting practice

– Accountants and financial professionals are expected to abide by the principles and ethics
of accounting practice established by a regulatory body in their country. This is important
to maintain a positive reputation of their business and to prevent fraudulent practices.
– The ACCA or Association of Chartered Certified Accountants is a global regulatory body
for professional accountants.

Profit and Loss account/Income statement

Statement of a company’s trading activities usually in a year.

Profit - positive difference between revenue and costs
Revenue - inflow of money from ordinary trading activity such as sales and royalties.
Costs - outflow of money
– There are three sections to an income statement. Trading accounts, profit and loss
account, and the appropriation account.

1st section
 . Trading account
Shows the difference between a firm’s sales revenue and costs or producing or purchasing
products to sell. So, the trading account shows the gross profit of a company.
Gross Profit = Sales Revenue - Cost of Goods sold (COGS)
– COGS (simply direct costs) is the accountant’s term for the direct costs of the goods that
are actually sold (such as raw material costs). Cost of sales (still referred to as COGS)
refers to services and is worked out by the formula:
COGS = Opening stock + Purchases - Closing Stock
Eg. If a business opens trading this morning with $1000 of stock (cost value) and recieves a
delivery of stock for which it pays $2000 then the business has costs of stock valued at $3000.
At the end of the trading day, it has $1800 of stock remaining.
Therefore,
COGS = $1000 + $2000 - $ 1800 = $1200

$ $ (total)
Sales 3600
Cost of goods sold: (:
means that there’s a
breakdown n smthing is
underneath it)
Opening stocks 1000
Purchases 2000
Closing stocks 1800
1200 <- total cost of
goods sold (idk why its
on the right side)
Gross profit 2400

How to improve gross profit by reducing costs and/or raising revenue

– Using cheaper suppliers: this reduces the COGS although finding cheaper suppliers
without hindering quality can be hard as the flavor and taste could be different.
– Increase selling price: raising the price of each item sold, but it is likely to cause a fall in
the volume of sales since people are easily to switch to something that are less expensive
– Enhanced marketing strategies: promotions and repackaging can be used to make the
produce more appealing, but will cost more expenses.

Example:
Mengworks Ltd.
– 3000 clocks sold at $35 each
– Closing stock valued at $20,000
– Purchases totaled $50,000
– Stock at 1 May 2013 was valued at $15,000

2nd section
. Profit and Loss
The profit and loss account or the profit statement shows the net profit (or loss) of a business at
the end of a trading period. Net profit is the surplus from sales revenues after all expenses are
accounted for. Net profit is then the actual profit made from a company’s activities.
Formula:
Net profit = Gross profit - Expenses
Expenses are the indirect or fixed costs of production such as administration chargers,
management salaries, insurance premiums, rent of land, etc.

How to reduce expenses and increase net profit

– Rent charges renegotiated or move to a cheaper place.
– Reducing utility bills, saving electricity
– Downsizing to remove people, streamline tasks and reduce administration costs.
Combining jobs and employing fewer people.

Suppose the florist sold $200,000 of stock with a market value of $450,000 during the fiscal
(tax) year ended 31 December 2020. Rents parable amounted to $80,000 while utility bills
totaled $50,000. Other overheads amounted to $20,000. The profit statement is:

$ $
Sales (Revenue) 450,000
Costs of Goods sold 200,000
(Opening stock +
Purchases - Closing
Stock)
Gross Profit (Revenue - 250,000
COGS)
Less Expenses: (TFC)
Rent 80,000
Utility Bills 50,000
Other overheads 20,000
 150,000
Net profit (Gross profit 100,000
- Expenses)

Q3.4.3

$
Sales (revenue) 140,000
COGS 33,000
Gross Profit 107,000
Less (overheads/fixed costs) 17,000
expenses:
Net profit before interest and tax 90,000
(gross profit - expenses)
Less interest 5,000
Net profit before tax 85,000
Less tax 12,750
Net profit 72,250

Appropriation account
– The final section of the profit and loss account
– Made of two parts which shows how the net profit is distributed after interest and tax:
. Dividends - shows the amount of net profit after interest and tax that is distributed to the
owners/shareholders of the company. Share of the net profit is based on the decision of
the board of directors and approved at the company’s annual general meeting. An interim
dividend is paid approximately half way through the year and the final dividend is
declared and paid at the end of the company’s fiscal year. The figures are transferred to
the balance sheer under “current liabilities”
. Retained profit- shows how much of the net profit after interest and tax is kept by the
business for its own use such as reinvestment into the company or expand business. This
figure is transferred to the :financed by: section of the company’s balance sheet.
Dividends + retained profit = net profit after interest and tax

Year 1 Year 2
Sales (revenue) 450 500
COGS 180 200
 Gross Profit 270 300
Less (overheads/fixed 90 100
costs) expenses:
Net profit before 180 200
interest and tax (gross
profit - expenses)
Less interest 0 10
Net profit before tax 180 190
Less tax 45 48
Net profit for period 135 142
Dividends 15 10
Retained profit 120 132
Limitations of Profit and Loss account
– It’s historical in nature, no guarantee that future performance is linked to past
performance or success.
– No internationally standardized format of the P&L account, which might be difficult to
compare this document between different companies from different countries even if they
are from the same industry.
– Window dressing (manipulation) can occur to make them more financially attractive. A firm
might include the sale of some fixed assets or non-operating income to impress
shareholders.

Balance sheet
– One of the annual financial statements that all companies are legally required to produce
for auditing purposes. It contains information on the value of the organization’s assets,
liabilities and the capital invested by the owners. It is kind of like a snapshot of the firm’s
financial situation since it shows the position of a business only on that one day.
– It’s called a balance sheet as the document shows a company’s sources of finance (shown
as the EQUITY) and where age money has been used (shown as the NET ASSETS), that
reveals where its money has come from (share capital and retained profit) and what it has
been spent on (assets).
– Ex: a company’s building is $500,000 but has an outstanding mortgage of $300,000. The
difference of $200,000 is the equity representing the portion that the company actually
owns.
– Balance sheet has 3 parts:
. Assets - items of monetary value owned by a business. Fixed assets are used for business
operations and lasts for more than 12 months. A current asset refers to cash or other
liquid assets that is likely to be turned into cash within 12 months of the balance sheet
date.
3 main types of current assets are
a. Cash
b. Debtors
c. Stocks
. Liabilities - legal obligations of the business in the form of debts can either be current
(short-term) or long term.
Long term liabilities - debts due to be repaid after 12 months. Source of long term borrowing
such as debentures, mortgages, and bank loans.
Current liabilities - debts that need to be settled within one year of the balance sheet date such
as taxes owned to the government, dividends to shareholders and bank overdrafts (high interest
rate).
– The value of the firm’s net assets is therefore the value of all assets minus its liabilities.
This must be equal to (balance with) its equity on the balance sheet. Net assets are
calculated using the formula:
Net assets = (fixed assets + working capital) - (long-term liabilities)
Or
Net assets = Total assets - Total liabilities
. Equity (capital and reserves) - this section of the balance sheet shows the value of the
business belonging to the owners. It can appear in the balance sheet as shareholders
equity (for limited liability companies) or as owner’s equity (for business that are NOT
limited liability companies). There are two main sections to this part of the balance sheet:
a. Share capital - amount of money raised through the sales of shares. It shows the value raised
when the shares were first sold, rather than their current market value.
b. Retained profit - the amount of net profit after interest, tax and dividends have been paid. It
iOS then reinvested in the business for its own user. This money of course belongs to the owners
so it appears under owners’ equity or shareholders’ equity.
Total assets - total liabilities = net assets = equity
– Which means that the owners own the value for the assets after deductions have been
made for all the debts.

Closer look at the balance sheet

– Fixed assets: items owned by the business that are NOT meant to be sold or for resale
within the next 12 months such as premises, equipment and machines.
– Accumulated depreciation: refers to the provisions (act of doing smith in preparation for)
the fall of value of an asset over time due to wear or tear.
– Net fixed assets: the value of the assets after depreciation is deducted
– Current assets: items owned by the business that are in the form of cash or will be turned
to cash within one year of the balance sheet date such as products, raw materials, what
customers paid for with a credit card.
– Current liabilities: debts that is needed to be paid for within the next 12 months of the
balance sheer date such as overdrafts, bank loans, corporate tax and dividends.
Net current assets: also known as WORKING CAPITAL, is calculated as the difference between
current assets and current liabilities.
Total assets less current liabilities: sum of fixed and current assets minus the value of current
liabilities.

– Long term liabilities/loan capital - debts owed by a company repayable after 12 months
from the balance sheet date. Some examples are mortgages and debentures which are
used to buy premises and outstanding bank loans used to pay for machinery and
equipment.

Net assets - the sum of total assets less total liabilities. It MUST match or balance with the
company’s equity.

The financed by section - shows the capital and reserves of the business (money belonging to
the owners). In the example 1 million shares are issued at $1 each for a total of $1million (note
that this is NOT the current value of the shares-they use the value of shares when it was first
issued). Accumulation retained profit is the total retained profit over previous years.

Equity or Shareholder’s funds - refers to the money that belongs to the owners of the restaurant.
It is equal to the share capital plus reserves (accumulated retained profit).

Always write the title:

Statement of Financial Position for (Company name) as at (Date)******

$’000 $’000
Fixed assets
Premises 1,700
Machinery and 500
equipment
2,200
Accumulated 200
depreciation
Net fixed assets 2,000
Current assets
Cash 250
Debtors 30
Stocks 200
480 (total is below, not
on the right column)
 on the right column)
Current liabilities
Short-term loans 15
Trade creditors 250
Taxation 35
Dividends 20
320
Net current assets 160
(working capital)
Total assets less 2,160
current liabilities
Long term liabilities
Mortgage 500
Debentures 500
Bank loans 100
1,100
Net assets 1,060
Financed by:
Ordinary share capital 1,000
(1m shares at $1 each)
Retained profit 60
Equity 1,060
Net assets = equity <- BALANCED

Balance sheet difference between some traders and partnerships

– Sources of finance will differ. Limited companies can raise finance through the sale of
debentures whereas this would not appear in the balance of an unincorporated business.
– Shareholders’ fund is replaced with owner’s equity including the personal funds of some
traders and partners. Unincorporated firms do not have shareholders.
– Since there are no shareholders in a partnership or sole proprietorship, dividends will not
appear under their current liabilities. Some traders or partners take out funds from the
business for their personal use which accountants refer to as drawings.

Limitations of balance sheets

 – Balance sheets are static documents. The financial position of a business may be very
different in a different period.
– The figures are only “accurate” estimates of the value of assets and liabilities. The market
value of an asset is different from book value (the value shown in the balance sheet). The
true market value of an asset can only be know. Once it is sold. Also the values shown
does not have a complete breakdown of the company’s assets so the information is
somewhat incomplete.
– Since there is no specific format, formats will vary depending on the accountant and
include different assets and liabilities which may not be found in another making it difficult
to compare.
– Not all assets are in the balance sheet especially intangible assets like the value of human
capital.

Intangible assets
Non physical assets that have the ability to earn revenue for a business such as:
– Brand name
– Trademark
– Copyrights
– Patents
They are legally protected by intellectual property rights. Since they are intangible, it is difficult
to put a specific price in them.
. Brand - recognition and brand value drive sales for the company.
. Patents - provide legal protection for inventors preventing other from copying their
creation for a fixed number of years. Allow exclusive rights to commercial production for a
set period of time. Other companies must pay the patent holder a fee for the rights to copy
or use the idea, processed or products of the inventor.
. Copyright - provides legal protection for the original artistic works of the creator such as
authors, photographers, painters and musicians. Anyone wanting to reproduce or modify
the work of the artist must ask permission from the copyright holder usually for a fee.
. Goodwill - the value of an organization’s image and reputation. It includes the value of a
company’s customer base and business connections. Goodwill is the sum of customer and
employee loyalty and can provide a competitive edge for a business.
. Registered trademarks - distinct designs that uniquely identify a brand, product or a
business. Can be expressed in names, symbols, and phrases and images. Similar to
copyrights and parents. They can be sold for a fee.

Depreciation
The decrease of value of an asset over time. The opposite of this is appreciation. Some reasons
for depreciation are:
. Wear and tear - things wear out over time and increase maintenance costs. The value of
assets that wear out over time depreciate.
. Obsolescence - as newer versions of things or better products come out, the demand and
value of older products fall. Obsolete assets are out-of-date assets such as old
computers, vehicles and software.
Depreciation spreads the historic cost or purchase cost of fixed assets over their useful lifespan.
The change in value of the asset is shown by reassessing the value in the balance sheet.
– calculate the value of the business more accurately to show the true value of the business
since depreciating assets will reduce the value of net assets
– Realistically assess the value of fixed assets over time. The historic cost of fixed assets is
unlikely to be equal to its current market value
– Plan for replacements of products in the future

Methods of calculating depreciation

. Straight line method - 3 variables
– Life expectancy of the asset - when it will be replaced/how long it will be used.
– Residual value - how much it’s worth at the end of its useful life
– Purchase cost (the price of smth when u buy it) - annual depreciation = purchase cost/life
span
Year end Depreciation ($) Book value ($) Accumulated
depreciation
0 - 2500
1 5000 20000 5000
2 5000 15000 10000
3 5000 10000 15000
4 5000 5000 20000
5 5000 0 25000

. Residual value (scrap value) is an estimate of the scrap of disposal value of the asset at
the end of its useful life. Many companies just put zero residual value due to estimates
being inaccurate. It is unusual though that the residual value is zero as things can have a
minimal price when sold. In this case, the formula becomes:
Annual depreciation = purchase cost - residual value / life span
– The weakness of this method is that depreciation is not constant by an equal amount each
year.
– The method also does not take into consideration efficiency or higher repair costs in the
future.

. Reducing balance method or the declining balance method

Choice of the method doesn’t really matter but consistency in the use of one is important*
Depreciates the value of an asset by a predetermined percentage for the duration of its useful
life. Reduces the accumulated (cumulative) depreciation from the historic cost (purchase cost)
of the asset.

Net book value = Historical cost - Accumulated depreciation

 Year end Depreciation ($) Book value ($) Accumulated
depreciation
0 - 100,000
1 20% 80,000 20,000
2 20% 64,000 16,000
3 20% 51,200 12,800
4 20% 40,960 10,240
5 20% 32,768 8,192
6 20% 26,214 6,554
. Units of production or units of output
Allocates an equal amount of depreciation to each unit of output rendered by a concurrent asset.
Calculates depreciation based on physical output, so is applicable for calculating the fall of
assets based on their usage rather than time.
Ex: vehicles depreciates based on miles of usage

Depreciation expense = depreciation per unit x number of units produced

3.5 Profitability and Liquidity Ratio analysis

Ratio analysis : a quantitative management tool for analyzing and judging the financial
performance of a business. Done by calculating financial ratios from a firm’s final accounts to
assess if there has been improvement.
(Can also be used to compare with other companies)
Purpose of ratio analysis:
– Examine a firm’s financial position (its short and long-term liquidity position).
– Assess a firm’s financial performance, its ability to control expenses.
– Compare actual figures with projected or budgeted figures (variance analysis).
– Aids decision-making while investors should risk their money by investing in the business.
How ratios are compared:
. Historical comparisons where the same ratio is compared in two different time periods.
These comparisons show trends. Let’s say January last year to January this year.
. Inter-firm comparisons. When ratios are compared of two businesses in the same industry.
NOTE: businesses should only be compared to another which is similar in size.

Profitability and efficiency ratios:

– Profitability ratios: examine profit in relation to other figures such as sales revenue
– Efficiency ratios: shows how well a firm’s resources have been used such as the amount of
profit generated from capital.
Ex:

Company A Company B
Profit $100m $100m
Capital employed $200m $250m
Efficiency ratio 50% 40%

Gross profit margin:

GPM = 60% (so for every $100 of sales, there is a $60 of profit.
The higher the GPM the better***

How to increase GPM

● Raising revenue
– Reducing the selling price of products that have many substitutes. Give example.
 – Raising the selling price of products with few substitutes. Give example again.
– Use marketing strategies to raise sales revenue (4-5)
– Seek alternative revenue streams

● Reducing direct costs

– Cutting direct material costs like cheaper materials or cheaper suppliers. Give example.
– Cutting direct labor costs. Reducing staff, or increasing staff workload.

Profit margin:

NPM = 35% (so for every $100 of sales, there is a $35 of profit)
Net is always better than gross***

NPM (direct and indirect) vs. GPM (direct costs only)

– The NPM is a better measure of a firm’s profitability than GPM because NPM already
includes costs of sales (direct costs) and expenses (indirect costs).
– The difference between the GPM and NPM are the expenses.
– High volume products have low profit margin but compensate with volume (coca-cola).
– Low volume products like wine have a high profit margin to compensate for low volume of
 –
sales.
NOTE: Net assets = equity

Ways to improve NPM

– Negotiate preferential payment terms with creditors and suppliers.
– Negotiate cheaper rent
– Reduce indirect costs

3.5-1 Calculating profitability

a. Determine the value of the company’s gross profit and expenses in both years.
Gross profit = Sales revenue - COGS
Year 1 Gross profit = 500
Year 2 Gross profit = 400
Year 1 Expenses = 100
Year 2 Expenses = 40
b. Calculate the GPM and NPM ratios for both years.
GPM = gross profit/sales revenue x 100
Year 1 GPM = $50
Year 2 GPM = $47,06
NPM = profit before interest and tax/sales revenue x 100
Year 1 NPM = $40
Year 2 NPM = $42,35
c. Explain the findings from letter b
Year 1 has greater efficiency but year 2 has greater profitability

ROCE (return on capital employed) (key ratio)

The higher the ROCE the better. Should be higher than bank interest rates
(If bank interest rate is higher than ROCE, then u should just put ur money in the bank and stop
the business)
ROCE is calculated by using net profit before tax and interest

Capital employed = loan capital + share capital + accumulated retained profit

Capital employed - the sum of total internal sources of finance + all external sources of finance

Liquidity ratios
– Looks at the ability of the company to pay for its short-term liabilities
– Assets that can be turned into cash quickly without losing their value are called liquid
assets. It can be cash, stocks (finished goods) and debtors (people who owe the company
money).
– Liquidity ratio calculates how easily a company can pay for its short-term liabilities using
its current assets.

Current ratio

Example:

So there is $2.50 of current (liquid) assets for every $1 of liability.

**Generally accepted that current ratio of 1.5 to 2.0 is to 1 is desirable
Acid test ratio (quick ratio)

– More meaningful than current ratio since stocks cannot easily be turned to cash
– Semi-finished products and super expensive products cannot easily be liquidated
– Aim is at least 1:1

Debtors are people who owe the company money

Current ratio = current assets/current liabilities
Current assets
Cash ($50,000) + Debtors ($35,000) + Stocks ($45,000)
= $130,000
Current liabilities
Overdrafts ($15,000) + Tax ($25,000) + Trade creditors ($50,000)
= $90,000
130,000 / 90,000
= 1,4
1,4 : 1

Raj opened a small business and is finding it hard to borrow from banks due to a lack of
collateral.
Q: Recommend 3 sources of finance that Raj should consider. 10 marks
As Raj is facing problems due to a lack of collateral which could be defined as a valuable asset
that a borrower pledges as security for a loan. Crowdfunding, Microfinance providers

3.6 Efficiency ratio analysis

● Stock turnover/ Inventory turnover
Measures the number of times an organization sells its strove within a time period, usually one
year. The ratio indicates the speed air which a business sells and replenishes all its stock. There
are two ways to calculate for this:

● Debtors days
Ratio that measures the number of days it takes for a business to collect from its debtors (people
who owe it money). Also known as debt collection period.
Debtors are customers who purchased items on trade credit and owe the business money.

How to answer this q “Credit control is bad or good”

Less than 60 = good
More than 60 = bad
How to improve:
. Impose surcharges on late payers
. Give incentives to pay earlier (discounts)
. Refuse to sell more unless debt is paid or suspending an order
. Legal action (most extreme form: start seeing people who made the debt)

● Creditor days
How fast you’re paying people back
Number of days it takes for a business to pay its creditors. Businesses who it owes money to.

– Since its common to provide customers with 30-60 day credit, a 41-day credit is ok.
– High creditor days frees up cash (can use for something else). Can also mean business
 –
takes long to pay its debts-may get a fine.
How to improve:
. Develop better relationships with customers and supplies/creditors. May reduce the debt
collection time/extend credit period.
. Improve stock control. JIT only when needed
. Improve credit control, managing risks regarding amount of credit given to debtors.
. Consignment

● Gearing ratio
Assesses long tern liquidity, meaning long term liabilities vs. capital employed.
Helps see how efficient a company is in using its resources.

3.7 CASH FLOW

Cash:
– needed to pay for daily costs such as wages and electricity charges
– current asset
– money that a business recieves from the sale of a good or service
– can be "in hand" (actual cash in the business) or "at bank" (cash held in a bank account)
Profit:
– positive doifference between a firm's total sales revenue and its total cost of production
– remaining money recieved when revenue - cost
– when enough products ate solf to pay for all costs, the firms reaches its break-even point
– any sales beyond a firms break-even point = profit
Payment methods:
– cash
– credit card
– debit
– bank transfer
– cheque
paying by credit means the customer can buy now pay later (usually 30 days so the cutsomer
does not have to pay until a month later).
BUT, causes cash flow problems (run out of cash) for business as it will need to operate without
immediate payment from its credit customers.
● When a company sells a product on credit, it automatically earns a profit on the sale. BUT
 ●
as customers pay on credit, the firm does not receive the cash at the time of the
purchase.
● It is possible for a firm to be profitable but cash deficient as there is poor credit control
resulting in bad firm’s cash flow position.
● When a profitable business tries to expand too quickly, they run out of cash. Seasonal
variations in demand can lead to the firm experiencing short-term liquidity problems at
certain times of the year.
● A business CANNOT operate without sufficient cash to pay its suppliers, employees and
financiers. The lack of cash will lead to a firm going bankrupt (no cash).
● Also possible to be cash rich but unprofitable. UNLESS the firm is able to control its costs,
the business will not be profitable.

REMEMBER: sales revenue is not the same as cash inflow.

– Sales revenue: comes from customers
– Cash inflow: may come from non -revenue sources such as loans, grants, subsidies
etc.
–

The working capital cycle

Working capital
– refers to the cash or liquid assets available for the daily running of a business.
– Shows the funds that are available for a business to pay for its immediate costs and
expenditure such as raw materials, wages and paying suppliers.
– Lack of working capital = firm has insufficient cash to fund its routine operations =
bankrupt -> liquidation (all the stuff turned to money to pay off debts)
– Inadequate working capital leads to insolvency (a situation where working capital is
insufficient to meet current liabilities). Leads to the collapse of the business and the need
for its liquidation (sells off its available assets to repay as much money owed to creditors).
– Some businesses have a delay between paying for costs of production (purchasing raw
materials and payments of wages) and receiving cash for the payment for their product.
Eg. The prod. process that takes place between getting the order, making the car and
being paid for the car consumes a lot of time.
Cycle: -> cash -> production costs -> sales ->
– The interval between cash payments for cost of production and cash receipts from
customers.
– Delay = businesses must manage their working capital carefully to continue functioning.
– Holding too much cash and liquid assets have drawbacks. As assets such as cash can be
used more productively
– Measure of liquidity is the current ratio which compares the values of current assets with
current liabilities

Liquidity
– How easily an asset can be turned into cash
– Highlight liquid assets can be turned to cash quickly and easily without losing their
monetary value (cash deposits at a bank)
 – Raw materials : illiquid assets as they cannot be changed into cash easily or quickly.
Working capital or net current assets
Working capital = Current assets - current liabilities

Current assets: liquid resources belonging to a business that are expected to be converted into
cash within the next twelve months.
– Cash : money held in the business or bank
– Debtors : people or organizations that owe money to the business as they have purchased
goods on credit.
– Stock : unsold supplies of raw materials, semi-finished goods (work-in-progress) and
finished goods.

Current liabilities: money that a business owes that needs to be repaid within the next twelve
months.
– Overdrafts : short term source of finance (interests are high)
– Creditors : suppliers need to be repaid for items that have been purchased on credit
– Tax : businesses are expected to pay income, sales, business property tax to the
government.

Current assets/current liabilities

Q: current ratio
. Stephen’s rugs: 2:1
– Assets $50,000
– Liabilities $25,000
. Valerie’s batteries: 1:1
– Assets $10,000,000
– Liabilities $10,000,000
. Sahi’s bakmi: 1:3
– Assets $500
– Liabilities $1,500
No. 3 is worse in terms of liquidity problem.

Cash flow forecasts

Financial document that shows the expected movement of cash into and out of a business per
time period.
. Cash inflows - from sales revenue when customers pay for the products they purchase.
Can also come from payments of debtors, loans from a bank, interest received from
savings deposit, sales of asset, etc.
. Cash outflows - cash that leaves the business from bills that have to be paid, so it has to
be itemized to show rent, wages, taxes, payment to debtors, advertising, etc.
. Net cash flow - difference between the cash inflow and outflow per time period. Value
should be positive.
Why it is needed
– Banks and lending companies require a cash flow forecast to assess the financial health of
 –
business seeking more external sources of finance.
– Helps managers anticipate and identify periods of potential liquidity problems such as
cash deficiency.
– Aids in business planning. Good financial control is not only socially responsible because it
helps track down what, when who to pay and amount to pay, helps achieve the businesses
organizational aims and objectives. Forecasts can be compared with actual cash flows to
improve future prediction and planning.
. Opening balance - amount of cash at the beginning of a trading period. Opening balance
of the next month should be the same value as the closing balance of the current month.
. Closing balance - amount of cash at the end of a trading period.
Closing balance = opening balance + net cash flow

NOTE: cash flow forecast is DIFFERENT from cash flow statements