chapter 4 finance(3)

THE BALANCE SHEET
Business need to know how much they are worth.To find out,a business can use its balance sheet.This shows it how much it owns against how much it owes .The balance sheet is often called a "snapshot"because it shows the situation at the point at which it was drawn up.The balance sheet for a small business is relatively simple,that for a large business more complex,but the principles are the same.

Some definitions:
assets:anything that a business owns that has a value.
creditors:those to whom the business owns money such as banks
debtors:those who owe the business money,such as other businesses that have yet to pay for goods bought
liabilities:anything that a business owes that has a value

THE ACCOUNT

There are three parts to a balance sheet.Each is linked to the others

1. Assets--what a business owns
2. liabilities --what a business owns
3. capital--where the business has raised in money from

ASSET

Items,are only assets if they can be valued."Reputation",for example,does not appear in a balance sheet.Assets are either fixed(e.g buildings and machinery used in production)or current (e.g stocks of finished product that could be easily turned into cash,or money that is owed to the business by debtors)

LIABILITIES

Items are only liabilities if they can be valued.Liabilities are either current (debts that must be paid back within a year,such as bank overdraft and debts owed to creditors)or long term(debts that the business has more that a year to repay,such as long-term loans and mortgages)

CAPITAL

The final part of the account shows how the money for these net assets employed was raised.This could be via shares,though profit,or from profit made in previous period.Capital must balance with net current assets.

KEY POINT!

fixed assets +current assets =total assets

current liabilities+long-term liabilities=total liabilities

total assets -total liabilities=net assets employed

PROFIT AND LOSS ACCOUNT

THE ACCOUNT

3 parts to the profit and loss account

1. trading account -what the business has sold and what it has cost to achieve these sales.
2. profit and loss account-gross profit minus expenses
3. appropriation account-where the net profit has gone

INCOME

The account shows that what the business has earn.This is called its income.The biggest source of income for most business is sales revenue.However,the cost of buying or marketing the items sold has to be deducted from this total.

STOCK

The only time this is different is if you have stock left over.This is our "opening stock"for the next year.

EXPENSES

Buying and selling the pencils will have taken you time,you may also need somewhere to sell them from .These are all expenses.A bigger business will have to pay items like wages,rent on premises,power bills and equipment costs.

GROSS AND NET PROFIT

Gross profit is the amount that you have made before expenses are taken into account .Net profit is the amount after expenses are deducted.

Appropriation account

What happens to the gross profit.Some of it goes in taxes,some may be given to shareholders in the forms of dividends and some may be kept to help the finances of the business.

KEY POINT!

trading account :

sales revenue-costs of sales=gross profit

profit and loss account:

gross profit -expenses=net profit

appropriation account:

profit after tax-dividends=retained profit

CASH AND CASH FLOW

SOME DEFINITIONS:

budget-a plan of future expenditure

cash-flow crisis-when a business cannot pay its immediate debts

forecast -an estimate;trying to look into the future

CASH FLOW

If there is more cash coming into in than the business needs ,this is called cash surplus,If there is less cash coming than the business needs,it is called cash shortage.Remember that it can be just as bad to have too much cash as to have too little.It is inefficient to have too much.It is better to turn an excess of cash into assets that can earn more money

KEY POINT!

If a business knows when it is going to need cash it can plan to do something about it

1. borrow money
2. increase sales
3. decrease costs
4. persuade people to pay more quickly

THE NEXT BOOKHOLDER IS NARA!!!!!!

chapter 4 finance(2)

Breaking even

When revenue is greater than costs, a business is making a profit.Where revenue is less that costs,the business is making a loss.The point where the amount of revenue is equal to the amount of costs is called the break even point.At this point the business is making neither a profit nor a loss.



Some definitions:

breakeven:the point where a business is making neither profit nor loss.

contribution:a method of using breakeven to show how much(if anything)each product contributes to profit.



Moving breakeven:

If a business is making a loss,it can try to make changes.It can seek either to lower costs or to increase revenue.Managers can use breakeven as a tool to help them predict what might happen as a result of such changes.



Contribution

The example we have been looking at assumes a single product,and that all output is sold.Obviously this is not always the case.To see how each product is doing,managers can use the contribution method.This is looks at the contribution to overall revenue from the sale of each product.Contribution is calculated by taking the variable costs of a product away from its revenue.The formula for working out the number of sales necessary to break even is:

Formula:

breakeven sales=fixed costs/contribution

It is also important for a business to look at revenue -that is,actual sales -rather than the number produced,as some products may not be sold.







Financial documents

Think about a transaction that you have carried out in a shop.What paperwork was involved?What about if you ordered something online?When you buy something in a shop you are entitled to a receipt,to show that you have paid for the goods.The business also keeps a record of the purchase.



Some definitions:

B2B:the abbreviation for "business-to-business"transactions

B2C:the abbreviation for "business-to-consumer"transactions

transaction:the term used for buying and selling a good or service



Business-to-consumer transactions(B2C)

The process of ordering,buying and paying for something involves records.Imagine buying a present from a catalogue.You order it,it is delivered with a request for payment, you pay for it.Buying from the internet is similar.You order the good,usually pay for it then and there,and receive a receipt to print off.The business then delivers it.If you are unhappy with it,you can return it and get a refund.



Business-to-business transactions(B2B)

Business-to-business transaction are not much different.If a business wants to buy something,say stock for sale or raw materials,it will buy it from another business.There are three phases to the transaction:the order,the delivery and the payment.Each has its own special document to make sure that each business has a record of the transaction .



The order
Another word for"buy"is "purchase".Business use a purchase order to say what they want to buy,how much they want and what they expect to pay.Between businesses,it is rare for payment to be made at this stage.Usually it is made on delivery.

The delivery
The goods are delivered to the buyer,who signs the delivery note to show that the goods have been accepted.The buyer completes its own paperwork to show that the goods have been received.This goods received note is passed to finance so that it knows it can pay for the goods.

The payment
The seller prepares a bill for the buyer,so that it knows how much to pay,when and how .This is called a sales involved .This will match the description of the goods delivered on the delivery note.The buyer then pays for the goods.Another word for payment is"remittance".A remittance advice slip is sent with the payment.This says what the money is for.The seller may then send the buyer a receipt,to show that payment has been accepted.If an order is incomplete or there is a problem with it,the seller may issue a credit note,allowing the buyer credit against a future purchase.

Regular business
If the two businesses trade together regularly,the buyer may have an account with the seller.In this case, the buyer may be invoiced on a regular basis.A record of sales and payments will be kept on a statement of account,prepared by the seller and checked by the buyer.

KEY POINT!

The all transactions ,there are 3 parts:

1. the order
2. the delivery
3. the payment

chapter 4 finance(1)

SOURCES OF FINANCE
the money that a business needs may come from its owner,from lenders or people who are willing to take a risk,or from other outside sources.usually there is a risk attached to borrowing money,but that is what enterprise is all about--risk taking

some definitions:

• discount:a reduction in prices
• retained profit:amounts not distributed to owners but "ploughed back"into the business
• start-up grants:an initial sum of money,given to help a business become established

owners` funds

one of the main sources of finance for starting a business is the money that the owners already have.they can risk this in the business in the hope that the business will be profitable.sole traders may use their own funds.partnerships will share resources.limited companies can rise funds by selling shares to the owners(the shareholders).once a business is a success and profitable,it may keep some of its profit for future finance.this is called retained profit.

Borrowing

if business owners do not already have the funds,then they need to borrow them.usually businesses borrow from lending institutions such as banks.the most common forms of business borrowing are shown in the table below.there is a cost to borrowing.usually this takes the form of interest.generally,the riskier the loan and the longer the period of borrowing,the more interest will need to be paid.

short term:(from a few days up to 3 years)

overdrafts

loans

trade credit

factoring

medium-term:(from 3 years to 10 years)

hire purchase

loans

debentures

long-term:(10 years +)

loans

mortgages

the types of borrowing can be described as follows:

trade credit--a business promises to pay in the future for goods that is has received (hopefully,it will pay for the goods that it has sold them).the period of trade credit can be up to 90 days but is often less.unusually,interest is seldom charged-but there will be penalties if payment is not made and there could be discount for early payment.

overdrafts--a bank allows a business to take more out of its account than it has in,up to an agreed limit.this is very flexible and interest is only charged on what is actually owed,for the time that it is owed.

loans--borrowing a fixed amount,for a fixed term.the business makes regular repayments and is charged interest on the full amount for the term of the loan.

factoring--selling debts to a specialist firm,which then collects the money owed.the factoring firm makes its money by paying less for the debt than it actually collects.

hire purchase--paying for a piece of plant or equipment in instalments.the business can use the item while it is still paying for it.

mortgages--long-term loans used to buy expensive items such as land or buildings.

debentures--guarantees to pay at a time in the future,which may offer low risk but good interest rates for investors.they can be issued by large businesses.

Secured and unsecured borrowing

a mortgage is a secured loan,an overdraft is likely to be unsecured.but what does this mean?in the case of the mortgages,if it is not paid,the lending institution may be able to retrieve its money by seizing and selling the asset(a house or factory,for instance).if the loan is unsecured,the lender has no security of this type.

Grants

sometimes businesses do not have to use their own funds or borrow them,because there are grants available.a grant is sum of money made available to a business by a body such as central government,the European union or a local council.charities may also provide grants.the prince`s youth business trust,for example,provide start-up grants for businesses set up by young people.

key points!

three main sources where come from

• owners` own money--owners`funds
• money from banks or other lenders--borrowed funds
• money that dose not have to be paid--grants

COST AND REVENUE

businesses produce either a good for sale or a service.if it is a good,there are raw materials and other inputs to pay for.if it is a service,the business needs to let people know that it exists. in either case,therefore,there are costs.the money that the businesses received for its sales is called revenue.business costs are divided into fixed costs -also called indirect costs or overheads-and variable costs .

Fixed costs

Fixed costs do not vary with output-that is, with the amount produced.Example are rent,interest payments and rates.They have to be paid whether or not a business is producing.

Variable costs

Variable costs are those costs that vary with output,such as raw materials.packaging,parts and components,ingredients,power and labour charges.Total cost is fixed cost plus variable cost.Sometimes it is difficult to decide whether a cost is fixed or variable,as it may have elements of both within it.Utilities are a case in point .A power or telecommunications bill,for example,has a fixed element for the supply of the service,plus a variable element for the amount of the service used.

Semi-variable costs

These are costs that do vary with output,but not directly.For example,a business may need to pay overtime,or a shop may need to open for longer hours.

Other definitions

Costs can be divided into start-up costs and running costs.Start-up costs are only paid when setting up a business.Financing this may become part of a business`s fixed costs.Running or operational costs have to be paid to keep the business going.These may be fixed costs such as rent,or variable costs such as wages.

KEY POINT!

• fixed costs do not vary with output
• Variable costs vary with output.
• Semi-variable costs vary indirectly with output
• Start-up costs are paid to get a business started
• Running costs are paid to keep it going

some definitions:

• output:the amount of a good produced,or service carried out
• overheads:the term often used in accounting to refer to fixed costs
• utilities:essential services such as water and power