IB Business Management Unit 3 - Finances

Business Angles

wealthy entrepreneurs who risk their own money by investing in small to medium-sized businesses that have high growth potential

Capital Expenditure

is investment spending on fixed assets such as the purchase of land and buildings.

Debt Factoring

is a financial service whereby a factor (such as a bank) collects debts on behalf of other businesses, in return for a fee.

External Sources of Finance

getting funds from outside the organization, e.g. through debt (overdrafts, loans and debentures), share capital, or the government.

Grants

are government financial gifts to support business activities. They are not expected to be repaid by the recipient.

Initial Public Offering (IPO)

refers to a business converting its legal status to a public limited company by selling its shares on a stock exchange for the first time

Internal Sources of Finance

means getting funds from within the organisation, e.g. through personal funds, retained profits and the sale of assets.

Leasing

is a form of hiring whereby a contract is agreed between a leasing company (the lessor) and the customer (the lessee). The lessee pays rental income to hire assets from the lessor, who is the legal owner of the assets.

Loan Capital (Debt Capital)

refers to a medium to long term sources of interest-bearing finance obtained from commercial lenders. Examples include mortgages, business development loans and debentures

Long-Term Finance

refers to sources of finance of more than five years, used for the purchase of fixed assets or to finance the expansion of a business

Medium-Term Finance

refers to sources of finance of one to five years in duration, used mainly to pay for fixed assets (capital expenditure)

Overdrafts

allow a business to spend in excess of the amount in its bank account, up to a predetermined limit. They are the most flexible form of borrowing in the short term.

Personal Funds

are a source of internal finance, referring to the use of an entrepreneur's own savings. Personal funds are usually used to finance business start-ups

Retained Profit

is the value of surplus that the business keeps to use within the business after paying corporate taxes on its profits to the government and dividends to its shareholders.

Revenue Expenditure

refers to spending on the day-to-day running of a business, such as rent, wages and utility bills.

Sale-and-leaseback

is a source of external finance involving a business selling a fixed asset (such as its computer systems or a building) but immediately leasing the asset back. In essence, the lessee transfers ownership to the lessor but the asset does not physically leave the business.

Share Capital

is the money raised from selling shares in a limited liability company, from its initial public offering (IPO) and any subsequent share issues.

Share Issue (Share Placement)

exists when an existing public limited company raises further finance by selling more of its shares

Short-Term Finance

refers to sources of finance needed for the day-to-day running of a business (revenue expenditure)

Sources of Finance

is the general term used to refer to where or how businesses obtain their funds, such as from personal funds, retained profits, loans and government grants.

Stock Exchange

a highly regulated marketplace where individuals and businesses can buy and/or sell shares in public limited companies

Subsidies

are funded by the government to lower a firm's production costs as output provides extended benefits to society, farmers are often provided with subsidies to stabilize food prices

Trade Credit

allows a business to "buy now and pay later". The credit provider does not receive cash from a buyer until a later date (30-60 days)

Venture Capital

is high-risk capital invested by venture capital firms, usually at the start of a business idea. The finance is usually in the form of loans and/or shares in the business venture.

Average Cost (AC)

refers to the cost per unit of output. It's calculated by using the formula: AC = TC/Q, where TC is the total cost and Q is quantity

Average Revenue (AR)

refers to the value of sales received from customers per unit of a good or service sold. It is calculated by using the formula: AR = TR/Q = P, where TR is total revenue. It is essentially the same thing as average price

Cost

refers to the sum of money incurred by a business in the production process such as the cost of raw materials, wages and salaries, insurance, advertising, and rent.

Direct Costs

are costs specifically attributed to the production or sale of a particular good or service. Direct costs can be traced back to the product and/or to a cost centre.

Dividends

are a share of the net profit distributed to shareholders at the end of the tax year

Fixed Costs

are the costs that do not vary with the level of output. They exist even if there is not output (the cost of rent, management salaries, interest repayments on bank loans)

Indirect Costs (Overheads)

are costs which do not directly link to the production or sale of a specific product (rent, wages of cleaning staff, lighting)

Price

refers to the amount of money a product is sold for, the sum payed by the customer

Revenue

is the money that a business collects from the sale of its goods and services. It is calculated by multiplying the unit price of each product by the quantity sold.

Revenue Streams

refers to the money coming into a business from its various business activities (sponsorships, merchandise, membership fees and royalties)

Running Costs

are the ongoing costs of operating the business (wages, insurance premiums, the cost of purchasing stock)

Semi-Variable Costs

are those that have an element of both fixed costs and variable costs, e.g. power and electricity or salaried staff who also earn commission.

Set-Up Costs

are the items of expenditure needed to start a business (obtaining premises, purchase of machinery, deposits to utility companies)

Total Costs

are the sum of all variable costs and all fixed costs of production.

Total Revenue

is the sum of all revenue streams for a business. It is calculated by multiplying the price of a product with teh quantity sold

Variable Costs

are costs of production that change in proportion to the level of output (raw materials and piece-rate earnings of production workers)

Break-Even Analysis

A management tool used to calculate the level of sales needed to cover all costs of production. Thereafter, further sales generate a positive safety margin, and hence profit for the business.

Break-Even Chart

is the name given to the graph that shows a firm's costs, revenues and profits (or loss) at various levels of output.

Break-Even Point

refers to the position on the break-even chart where the total costs line intersects the total revenue line OR where TC = TR

Break-Even Quantity (BEQ)

refers to the level of output that generates neither profit nor loss

Contribution per Unit (Unit Contribution)

is the difference between selling price of a product and its variable costs of production, i.e. P - AVC. The surplus goes towards paying fixed costs.

Margin of Safety (MOS)

is the difference between a firm's level of demand and its break-even quantity. A positive MOS means the firm can decrease output by that amount without making a loss. A negative MOS means the firm is making a loss

Profit

is the positive difference between a firm's revenue and its costs. On a break-even chart, profit is shown at all levels of output beyond the break-even quantity.

Special Order Decision

occurs when a customer places an order at a price that differs from the normal price charged by the business

Target Price

is the price set by the firm in order to reach break-even or a certain target profit

Target Profit

is the amount of surplus a firm intends to achieve, based on price and cost data. It can be calculated by taking estimated total costs from expected sales revenue.

Total Contribution

is the unit contribution (P - AVC) multiplied by the quantity of sales (Q), i.e. total contribution = (P - AVC) x Q. It is, essentially, a firm's gross profit.

Appropriation Account

refers to the final section of a P&L account and shows how the net profit is distributed (dividends to shareholders and/or retained profit kept by the business)

Balance Sheet

contains financial information on an organizations' assets, liabilities, and the capital invested by the owners on one specific day, thus showing a snap shot of the firm's financial situation

Book Value

is the value of an asset as shown on a balance sheet. The market value of assets can be higher than its book value because of intangible assets such as the brand value or the goodwill of the business

Cost of Goods Sold (COGS)

also known as cost of sales (COS), is shown in the trading account and represents the direct costs of producing or purchasing stock that has been sold.

Creditors

are suppliers who allow a business to purchase goods and/or services on trade credit

Current Assets

are the short-term assets that belong to a firm, which are expected to remain in the business for up to 12 months (cash, debtors, and stock)

Depreciation

is the fall in the value of fixed assets over time, from wear and tear or obsolescence

Final Accounts

are the published annual financial statements that all limited liability companies are legally obliged to report, i.e. the balance sheet and the P&L accounts.

Fixed Assets

are items owned by a business, not intended for sale within a year, but used repeatedly to generate revenue for the organization (land and machinery)

Goodwill

is the intangible asset which exists when the value of a firm exceeds its book value

Gross Profit

is the difference between the sales revenue of a business and its direct costs incurred in making or purchasing the products that have been sold to customers

Historic Cost

refers to the purchase cost of a particular fixed asset.

Intangible Assets

are fixed assets that do not exist in a physical form (goodwill, copyrights, brand name, and registered trademarks)

Long-Term Liabilities

are the debts owed by a business, which are expected to take longer than a year from the balance sheet to repay

Net Assets

show the value of a business by calculating the value of all its assets minus its liabilities. This figure must match the equity of the business in its balance sheet.

Net Profit

is the surplus (if any) that a business makes after all expenses have been paid out of gross profit

Profit and Loss Account (Income Statement)

is a financial record of a firm's trading activity over the past 12 months. It is split into three parts: the trading account, P&L account and the appropriation account.

Reducing Balance Method

is a method of depreciation that reduces the value of a fixed asset by the same percentage each year throughout its useful life. This is the more realistic method to use.

Residual Value

is an estimate of the scrap or disposable value of the asset at the end of its useful life

Retained Profit

is the amount of net profit after interest, tax and dividends have been paid. It is then reinvested in the business for its own use.

Share Capital

refers to the amount of money raised through the sale of shares. It shows the value raised when the shares were first sold, rather than their current market value.

Shareholders' Funds

show the equity of the owners, i.e. the share capital invested by the owners and the retained profit and reserves that have been accumulated.

Straight Line Method

is a method of depreciation that reduces the value of a fixed asset by the same value each year throughout its useful life. This is the relatively easier method to calculate.

Trading Account

is the first section of the P&L account, showing the difference between a firm's sales revenue and its direct costs of trading, i.e. it shows the gross profit of a business.

Window Dressing

refers to the legal act of manipulating financial data to make the results look more flattering

Acid Test Ratio

is a liquidity ratio that measures a firm's ability to meet its short-term debts. It ignores stock because not all inventories can be easily turned into cash in a short time frame.

Capital Employed

is the value of all long-term sources of finance for a business, e.g. bank loans, share capital and reserves.

Current Ratio

is a short-term liquidity ratio that calculates the ability of a business to meet its debts within the next year

Efficiency Ratios

indicate how well a firm's resources have been used, such as the amount of profit generated from the available capital used in the business.

Gross Profit Margin (GPM)

is a profitability ratio that shows the percentage of sales revenue that turns into gross profit.

Liquid Assets

are the possessions of a business that can be turned into cash quickly without losing their value, i.e. cash, stock and debtors.

Liquidity Crisis

refers to a situation where a firm is unable to pay its short-term debts, i.e. current liabilities exceed current assets.

Liquidity Ratio

looks at the ability of a firm to pay its short-term liabilities, such as by comparing working capital to short-term debts

Net Profit Margin (NPM)

shows the percentage of sales revenue that turns into net profit, i.e. the proportion of sales revenue left over after all direct and indirect costs have been paid.

Profibility Ratios

examine profit in relation to other figures, the GMP and NPM ratios. These ratios tend to be relevant to profit-seeking business rather than for not-for-profit organizations

Ratio Analysis

is a quantitative management tool that compares different financial figures to examine and judge the financial performance of a business. It requires the application of figures found in the final accounts

Return on Capital Employed (ROCE)

is an efficiency ratio (although it also reveals the firm's profitability) measuring the profit of a business in relation to its size (as measured by capital employed). Often referred to as the KEY RATIO

Credit Control

refers to the ability of a business to collect its debts within a suitable timeframe.

Creditor Days Ratio

an efficiency ratio that measures the average number of days it takes for a business to pay its creditors

Debtor Days Ratio

is an efficiency ratio that measures the average number of days it takes for a business to collect the money owed from debtors.

Efficiency Ratios

show how well a firm's resources have been used, such as the amount of time taken by the firm to sell its stock (inventory) or the average number of days taken to collect money from its debtors.

Gearing Ratio

measures the percentage of an organization's capital employed that comes from external sources such as debentures and mortgages. Businesses that have at least 50% gearing ratio are considered to be highly geared

Profit Quality

refers to the ability of a business to earn profit in the foreseeable future. A business with good profit quality is able to earn profit in the long run

Stock Turnover Ratio

measures the number of times a business sells its stocks within a year. It can also be expressed as the average number of days it takes for a firm to sell all of its normal inventory.

Assets

are items of monetary value that belong to a business. The can be fixed (machinery, tools, buildings) or current assets (cash, stock, debtors)

Bad Debts

exist when debtors are unable to pay their bills. This reduces cash inflows of the vendor

Cash

is a current asset and represents the actual money a business has. IT can exists in the form of cash in hand (held at a business) or cash at bank (cash held in a bank account)

Cash Flow

refers to the transfer or movement of money into and out of an organization. Cash inflows mainly come from sales revenue whereas cash outflows are for items of expenditure

Cash Flow Forecast

is a financial document that shows the predicted future cash inflows and cash outflows for a business during a trading period.