EDEXCEL A LEVEL BUSINESS

THEME 2: MANAGING BUSINESS ACTIVITIES

Lee Murphy © 2015, adapted for new 2016 Specification © Via TES. Illustrations and other materials of
which have not been designed or written by myself, are sources at the bottom of each page.
Please reference. Information and statistics correct at the time published.
Revision guide only. This is in no way endorsed by Pearson nor Edexcel.
 Topic 1
Raising Finance
 Chapter 1
Internal & External Finance
 Key Words

• Start-up Costs – the one-off costs involved when starting up a new business
• Fixed Costs – Costs that don’t change on level of output (E.g. Utility Bills, Rent)
• Variable Costs – Costs that change on level of output (E.g. Raw materials, Delivery)
• Investment – Spending money now to generate income in the future
• Capital Spending – When a business invests into fixed assets or something long
term in the business
• Assets – Something the business owns (E.g. machinery)
 Reasons for Finance

There are 4 main reasons why finance is required within a

business:

• Start-up - When a business starts up, they will have to purchase

everything they need to launch
• Cash flow – general monthly payments
• Renewal – replacement machinery etc
• Expansion – refurbish the premise, enter new markets, rebranding
etc.
 Sources of finance – (where to
get money from)
Internal
• Personal Savings
• Business Savings

External
• Family and Friends
• Banks
• Peer to peer funding
• Business Angels
• Crowd funding
• Other Businesses
Methods of finance – (type of funding)
Internal
• Owners Capital
• Retained Profits
• Sale of Assets

External
• Loans (bank loans, mortgages, debentures)
• Share Capital (ordinary shares, preference shares, deferred shares)
• Venture Capital
• Overdrafts
• Leasing
• Trade Credit
• Grants
 Who provides what?

Internal Sources External Sources and methods

• Retained Profit • Friends & Family - Share Capital (x3), Investment,
Personal Loans
• Sale of Assets
• Loans - Bank Loans, Mortgages and Overdrafts
• Owner’s Capital • Peer to Peer Funding - Loans
• Business Angels – Investment, Share Capital
• Crowd Funding – Loans
• Venture Capitalist - Venture Capital
• Other Businesses
• Trade Credit
• Grants
• Debenture
 Internal sources

• Retained Profit – Profit that can be invested into the business rather
than being given to the owner. It doesn’t incur interest payments or
dilute ownership. Long Term.
• Sale of Assets – Physical assets such as machinery or property, or
intangible assets such as a patent can be all be sold to use as finance.
Long Term.
• Owner’s Capital – Personal savings/ money invested into the business by
the owner.
 External sources
• Loans – A fixed amount of money borrowed from a Loan organisation or the bank. Paid back with interest in
agreed instalments. Medium - Long Term.
• Overdraft – Using more money that you own in the bank that is paid back with interest. Short term.
• Trade Credit – Where suppliers allow a time period before payment is made. The period will vary. Medium - Long
term.
• Grants – A grant is given to a business by the government, it doesn’t have to be paid back. Long Term.
• Venture Capital – Money invested into the business who also offer support and finance in exchange for a share in
profits (Equity). Long Term.
• Mortgage – Like a loan; paying for your property over a period of time. Long Term.
• Debenture – Selling your debts in the same way as shares with a fixed interest rate. They don’t have ownership in
the business but is less risky for the investor. Long Term.
• Share Capital – Money raised by selling shares in the business (Incorporated businesses only). Long Term
• Investment – Investing in new technologies or products can generate finance in the long term.
• Friends & Family – Money can be borrowed by friends and family. Long Term
• Peer to Peer funding – Long term source leant by other businesses to the firm. The lender will have no prior
knowledge of the firm that it is lending to. It is all done via the internet.
• Crowd Funding – Where a group of people or business donate money via the internet to another business.
 Which is best?

• Bank overdrafts, grants and trade credit tend to be used for

working capital/ operating costs like salaries, bills etc.

• Venture capital, loans, leasing, owners capital, retained profit,

shareholders funds are used to finance assets and long term
developments.
 Choosing a Source and Type of Finance
• Note - The importance of different sources varies depending on
specific factors;

• Legal status of the business e.g. PLC / LTD sell shares, Sole Traders &
Partnerships rely on personal finance
• Use of the finance – what is the finance being used for? Equipment, to cover a
hold up in a payment? In the long term or short term.
• The amount required – the larger the sum the less likely that the owner can
generate it thus external chosen
• The firms profit levels/ financial position of the firm – firms with large
collateral will be able to raise large amounts internally
• The level of risk/ cost to the business – if deemed risky will find it harder to
attract loans/ how will it impact on costs.
• Views of Owners – may be reluctant to lose control e.g. family business
 Chapter 2
Liability & Planning
 Keywords
• Forecasts – Estimating future cash flow, sales revenues, costs and profits.
• Cash-Flow Forecast – A prediction of cash going in and out of a business during a period of time. The closing
balance highlights the cash flow to the firm. It can be negative or positive.
• Negative Cash Flow – Means that cash is flowing out of the business faster than coming into the business.
• Positive Cash Flow – Means that inflows are higher than outflows during a period of time.
• Capital – The money that is invested into the business.
• Cash Flow Statement – Shows the exact inflow and outflow figure during that period of time. It is used to predict
the cash flow forecast.
-----------------------------------------------------------
• Net Cash Flow = Cash Inflows – Cash outflows
• Opening Balance = Last month’s closing balance
• Closing Balance = Opening Balance + Net cash flow
 Limited or unlimited liability?

• Sole traders & Partnerships have unlimited liability which means

that both their personal assets and business assets are at risk of
being taken to pay off debts.
• Private Limited & Public Limited companies have limited liability
which means that their personal and business assets are separate
and personal assets cannot be taken to pay off debts.
 Forecasting Sales and Cash Flow
• Businesses need to plan ahead and be conscious of payments vs revenue. We know that if costs are
higher than revenue then the business will have negative cash flow and could eventually start making
a loss
• A cash flow forecast is a prediction of the flow of cash in and out, usually forecast for 6 or 12 months –
it doesn’t have to start at January remember!
• It can help a business to identify how they can make profit as there are many factors which can effect
cash flow from the economy to the production process
• Outflows could be:
• Purchases
• Rent & Utilities

• Inflows could be:

• Sales Revenue
• Capital
• Loans & Grants
 Cash flow forecasts and
statements

• A cashflow forecast is a financial document that

predicts what the firms inflows and outflows will
be over a period of time.

• A cashflow statement is a financial document

that shows the exact amounts of a firms inflows
and outflows over a period of time.
 Add up the inflows
to give you the total
Cash Flow Forecasts
amount expected to Jan. £ Feb. £ Mar. £
be ‘coming into’ the
Inflows
business = TOTAL
Loan 0 1000 0
INFLOWS
Sales revenue 500 500 400
Total inflows 500
Add up the Outflows
outflows to give Wages 200 200 200
you the total
Transport 75 75 175
amount likely to
be spent = TOTAL Loan repayment 0 0 200
OUTFLOWS Marketing 50 50 100
Total outflows 325 325

Opening balance 0 175

Total inflows minus
Net cashflow 175
total outflows = NET
CASH FLOW Closing balance 175

Opening balance + net Closing balance = OPENING

cash flow = CLOSING BALANCE for the next month
BALANCE
 Golden Rules of Cashflow
Forecasting
• Money is only recorded when cash changes hands i.e.
either actually comes into or goes out of the business.

• It tells us nothing about profit. A profitable business

can have positive cash Flow and still go bankrupt!

• The closing balance from one month is the opening

balance for the next month.

• A negative closing balance doesn't mean that they’ve

made a loss and is doesn’t mean that they have gone
bankrupt! Its just a negative cash flow situation!
 How can cash flow be improved?

• Keep costs low

• Look for cheaper premises/ suppliers – but consider the consequences

• Aim for high sales/ inflows

• But at what cost? Advertising and promotion will cost!
 How can cash flow be improved?

• Keep costs low

• Look for cheaper premises/ suppliers – but consider the consequences

• Aim for high sales/ inflows

• But at what cost? Advertising and promotion will cost!
Analysis of cash flow forecasting

Benefits
• Help a business anticipate the timings and amounts of any cash shortages – i.e. make
changes or apply for an overdraft etc.
• Review timings and amounts of receipts and payments
• If they have l/t problems they can apply for loans
• NOTE- The cff will be requested at the bank to secure a loan
Limitations
• The figures are predictions! They are based on estimates!
• External factors can occur that are beyond the firms control – this can not be
predicted!
• Time will be spent gathering resources to complete the cff – too much time at the
expense of meeting customer needs
• A cff is a one dimensional tool and cannot be used on its own to evaluate the firm’s
performance as profit, profit margins and productivity also needs to be considered!
 Analysis of cash flow forecasting

Benefits
• Gives an indication of how the business is likely to perform in the future.
• Allows managers to identify when they might need additional funding so they have time to arrange
an overdraft for example.
• Inconsistencies in performance can be identified, predicted and analysed.
• Changes in inflows and outflows resulting from new investment can be estimated.
Drawbacks
• Time taken to prepare the cash flow forecast.
• Cash flow forecasts need to be accurate to have any value, forecasting anything is not an exact
science.
• The longer the time scale the less accurate the forecast is likely to be.
• It doesn’t show profit or loss for the business (P&L Account does this).
• Cash flow forecast needs to be regularly monitored to have on-going usefulness.
 Evaluation

• Figures are a starting point

• Used as an analysis tool to make business decisions
• Think – are the figures biased, how reliable are they?
• Analyse month by month, what do the figures show?
• Consider all circumstances of the business i.e. do they operate
abroad, how may this effect cash flow, currency and exchange rate –
pound could be weaker thus lower than forecasted!
• Difference between cash flow and profitability
• Consider type of ownership and market share – what control do they
have? Can they demand payments to be made?
 Cash Flow Forecast in Practice
January February March What do these terms mean?
Receipts • Receipts section is cash inflow
• Cash Sales is revenue
Cash Sales 200 300 500 • Credit Sales is where customers
Credit Sales 0 0 2400 are given trade credit
Owners Capital 5000 0 0 • Payments section is outflow
• Net Cash flow is the difference
Payments inflows-outflows
Suppliers 1050 1280 1400
 If you are stuck, break it up and go
Advertising 30 30 30
through it slowly
Utilities 100 100 100  Notice which are fixed and which
Net Cash Flow 4,020 (1,110) 1370 are variable costs
 Why do you think there is only
Opening Balance 0 4,020 2,910
Owners Capital in January?
Closing Balance 4,020 2,910 4,280
 Topic 2
Financial Planning
 Chapter 3
Sales, Revenue & Costs
 Keywords
• Profit/Net Profit – The money remaining from sales revenue after all costs have been paid off.
• Gross Profit – Sales revenue minus the immediate costs of producing goods.
• Revenue/Turnover – The money earned by the business.
• Fixed Costs/Overheads – Costs that remains the same regardless of the level of output or sales.
• Margin of Safety – The amount by which sales can fall before breaking even
• (e.g. if the break even point is £100 and the current level of output is £150… the M.O.S is £50)

• Contribution – That part of sales which can be put towards paying the fixed costs of a business.
• Contribution = Selling price – variable cost per unit.
 Increase Profits
• A business can increase profits by:
• Seek to increase sales volume by motivating staff
• Raise selling price
• Cut costs

• It is vital that you are clear about the elements that make up profit:
• Profit is effected by changes in either costs or sales revenue
• Sales revenue is directly effected only by changes in sales volume or selling price NOT costs
• Increasing sales volume will increase costs because each unit is sold incurs additional variable costs
• A price cut may or may not increase sales volume. Market research may be needed to determine whether
it will increase sales by enough to cover a price cut and increase sales revenue – link to the PED of the
product
 Using Break-even

A business can use break-even analysis to:

• To decide on pricing – An entrepreneur may calculate the break-even level of sales at a range of
different prices as a way of helping decide how much to charge for the product or service.
• To predict profit – If a business is using competitor-based pricing, they will not have much choice about
price they charge. The owner may want to use break-even analysis as a tool to predict how much profit
they are likely to make based on different volumes of sales.
• To seek finance – Investors and leaders will only commit money to a business idea if they are confident
that the venture will be profitable. Break even analysis can help promote a business to investors.
• To conduct ‘What-If’ analysis – Entrepreneurs may want to model the impact of changes in a business,
such as changing prices or reducing costs. Break-even can help to see whether the changes will be
sufficient enough for the business to remain profitable.
 Using Break-even

• New firms need to estimate how much they must

produce/sell before they can start making a profit
• May be required as part of a business plan
• Existing firms may wish to know:
• Profit/Loss at any level of output
• The output needed to produce a certain level of profit
• It’s relatively easy to use and provides a quick estimate to
assist with decision making
 Reaching Break-even
• A business producing zero units of output will still have to pay fixed costs but will obtain no
revenue. It will therefore be making a loss because costs are greater than revenue. As more units
are produced, these will start to contribute towards paying off the fixed costs, and eventually when
the total revenue equals the total costs the business will break-even. Any more revenue made after
the break-even point is profit.
• Contribution is what is put towards paying off fixed costs, this is worked out as:
• Fixed Costs / Contribution (Selling Price – Variable Cost per unit)

Image: Courtesy of Business Studies Online

 Key Terms - Margin Of Safety

• Margin of safety is the quantity sold which is

greater than the breakeven level of output.

• E.g. If a company has a BEP of 260 units and actually

make and sell 310 units they have a margin of safety
of 50

• Actual sales – breakeven point = MOS

 Assumptions of simple break-even
analysis
• Too simplistic as assumptions are unrealistic
• The selling price remains the same, regardless of the number of units sold
• Fixed costs remain the same regardless of the number of units of output.
Fixed costs do vary when output changes
• Assumes that all output is sold

• Information used may be unreliable as it is based on forecasts and

predictions

• Sales are unlikely to be the same as output – there may be some build up
of stocks or wasted output too

• Does not consider offers and promotions between supplier and buyer
 Assumptions of simple break-even
analysis

• Variable costs vary in direct proportion to output. Variable costs do not always stay the
same. For example, as output rises, the business may benefit from being able to buy
inputs at lower prices (buying power), which would reduce variable cost per unit.

• Presumes conditions are unchanged

• Most businesses sell more than one product, so break-even for the business becomes
harder to calculate

• Break-even analysis should be seen as a planning aid rather than a decision-making tool

• Presumes that fixed costs are unaffected. For instance that no new building is required
to hold more stock.
Task 5 - Breakeven Quiz

• QUIZ
Chapter 4
Sales Forecasting
 What is ‘Sales Forecasting’?

• Its all about making future sales predictions!

• What staff and stock will be required to make these sales? What sales are expected?
How many staff are required!?
• What stock does it currently hold? What needs to be ordered to produce the goods to
sell?
• Is finance available for a marketing strategy to achieve these sales?
• What marketing strategy is best?
 Time Series Analysis
• ‘Time series analysis’ is the most popular method used within business to
forecast sales.

• Using past data to predict the future.

• This data is called ‘time series data’.

• A set of figures arranged in order, based on the time they occurred. For
example, a firm may predict future sales based on the sales from the past
year, per month.

• TSA does not try to explain data only to describe what is happening to it or
predict what will happen to it.
 Time Series Analysis

• A variety of ways can be used to predict future trends. The

most popular is Time Series analysis

• They are four components that a business wants to identify in

the Time Series data;
• The trend – is there a trend in sales figures
• Seasonal fluctuations – seasonal product?
• Cyclical fluctuations - business cycle, highs and lows
• Random fluctuations – an increase in figures due to a trend taking
place. Bad weather leading to an increase in an umbrella for instance
 Calculating a change in sales

• Forecasting sales involves using statistics. It can be useful to show percentage changes in
business statistics data;
• What is the percentage change in sales in this example?

2014 Sales = £400,000

2013 Sales = £450,000

Change in sales/ Original X 100%

ANSWER- 50,000/450,000 x 100% = 12.5% decrease in sales
from 2013 to 2014
 Benefits of Sales Forecasting

• Plan ahead and avoid surprises

• Managing finance better as the firm will have knowledge of cash inflows
• To order accurate materials and correct number of staff thus building
suppliers relationships
• This also means that costs will be lower as potential a firm could benefit
from economies of scale
• That the firm has capacity to meet orders, higher orders.
 Factors affecting Sales Forecasting
1. Consumer trends
• Seasonal variations
• Fashion
• Long term trends
2. Economic growth
• Interest rates
• Inflation
• Unemployment
• Exchange rates
3. Actions of competitors
 Difficulties of sales forecasting

• Predictions are difficult

• There are only so many models, research, BEA etc. that can be done to help with
these predictions
• Extrapolation – Using past figures to predict future ones BUT consumer trends can
change! Look at Crocs!
• Can all government data be used and understood? This is used as well as business
data.
• Are the experts too subjective and incorrect? How much is biased opinion?
Chapter 5
Budgeting
 Keywords
• Budget – A financial plan which forecasts costs and revenues and maps projected
changes. It can be used by the management to keep control of the business.
• Extrapolation – Using historical data from the recent past and assuming that any
trend can be seen will continue into the future.
• Zero-based budgeting – Starting with no budget and requiring each department
to justify each cost.
• Favourable Variance –A Variance where the actual figures are better than the
budgeted ones
• Adverse Variance – A Variance where the actual figures are worse than the
budgeted ones
 Using Budgets
• Budgets are used in businesses to ensure that each department sticks to a set
amount of money to spend, business can monitor expenditure, which can help
identify unnecessary costs.
• (Its similar to a phone contract; you have a number of minutes, texts and data to
use per month.
• Don’t explain it like this in the exam)

• Its not always about spending – it can be targets for sales revenue
• Different factors effect how much budget a department has:
• The size of the department in terms of staff and responsibility
• The amount of resources needed e.g. Production upgrades vs Office equipment
• The amount of products produced or clients served
 How budgets are set
• There are different budget techniques:
• A business can base it on previous years expenditure
• Market research can be used to identify competitor budgets
• An extrapolation of figures is when businesses see a trend and assume it will continue (E.g. 2011 = £1,000, 2012
= £2,000, 2013 = £3,000… assume 2014 will be £4,000)
• Zero-budgeting technique where managers set the budget at £0 and therefore each department has to justify
every cost
• Positive – Managers can stop unnecessary costs, improves efficiency
• Negative – Staff may feel demotivated because they managers aren't giving them the responsibility or trust, time
consuming compered to using historical figures

• There are different types of budget:

• Expenditure Budget – Set spending targets (E.g. £3000 for 1 calendar month)
• Capital Budget – A target for investment into the business
• Income Budget – Target of sales revenue they want to achieve
• Profit Budget – A combination of the above to set a profit target
 What is the purpose of a
budget?

• Budgets are an effective way of ensuring a business does not spend more than it should

• If every employee ensured they didn’t go over budget – costs shouldn’t get out of control

• Forces managers to be more efficient and plan ahead

• They provide direction and coordination for the future

• They motivate staff

• They improve efficiency

• Can assess forecasting ability and make comparisons of plans with actual results
 What is the data based on? -
Historical Budgeting

• Using past sales figures etc. to make future plans

• Must consider inflation, consumer preferences,

rivals, future events and other factors that effect
demand and trends that could impact on costs,
prices and consumer spending
 How to decide on a budget!?
• Budgeting according to company/ department objectives
• Budgeting according to department/ competitors spending
• Setting the budgets as a percentage of sales revenue
• Zero-based budgeting based on expected outcomes
• Budgeting according to last years budget allocation/ sales forecasting/
Historical Budgets
• Based on opinions of as many staff as possible
• Budgets should be challenging but realistic (SMART)
• Budgets should be monitored regularly, allowing for changes in the
business and its environment
• Budgets should be flexible and motivating
 What is the data based on? -
Zero Based Budgeting

• Where no budget is set as one cannot be justified. For example

certain marketing or admin.
• No money is allocated.
• Managers are to spend with caution and be as efficient as possible.
• Managers must show that the spending of this money generates an
adequate amount of benefit in relation to the business objectives in
order for the money to be allocated.
• It encourages the evaluation of costs and helps to minimise
unnecessary purchases.
• When choices are made businesses try to minimise the opportunity
cost.
 Zero Based Budgeting
• Advantages of ZBB
• Allocation of resources could be improved
• A questioning attitude is developed which will encourage efficiency and reduce costs
• Staff motivation may be improved as evaluation skills are practised and greater knowledge
of the firms operations might develop
• It encourages managers to look for alternatives
• Disadvantages of ZBB
• Very time consuming as research is to be thorough looking at different costs and analysis
must be detailed
• Decisions may be influenced by subjective (individual) opinions as such evaluative skills may
not be available in the organisation
• May adversely affect motivation as such budgeting may effect the status quo
• Managers may not be prepared to make such decisions which means opportunities may go a
miss
 Budgetary Control
• Budgetary control is a system that involves making future plans,
comparing actual to budgeted figures and then investigating the cause
of any differences.

• The step by step process of budgetary control;

1. Preparation of plans – targets are set

2. Comparisons of plans with actual results – actual results and targets compared
weekly, monthly, quarterly.

3. Analysis of variance –finding reasons why the differences have occurred. The
business may need to change plan and adjust the next budget.
 Variance Analysis

• Budgets are reviewed through variance analysis. (The difference between the actual figure and the
budget figure are calculated thus is the variance figure.)

• These are known as VARIANCES:

Variance = budget figure – actual figure

• Budgets and variance analysis are useful because it helps managers to identify problems which can
then be investigated and hopefully resolved.

• It helps identify if the business is performing better or worse than expected.

 Task - Mental Arithmetic…
Revenue/ Budget Actual Variance
Cost Figure (£) Figure (£)

Sales 37 44
Revenue

Fuel Costs 108 172

Raw 53 39
Materials
Costs
Labour 5426 4426
Costs
 Task Answers - Mental
Arithmetic…
Revenue/ Budget Actual Variance
Cost Figure (£) Figure (£)

Sales 37 44 -7
Revenue

Fuel Costs 108 172 -64

Raw 53 39 +14
Materials
Costs
Labour 5426 4426 +1000
Costs
 Variance Analysis

• Variance – the difference between planned values

and actual values
• Favourable variance – actual figures less than planned or
better than planned
• Adverse variance – actual figures above planned or
received less revenue than expected
 Examples of Variances
Favourable Variances Adverse Variances

Exists when the difference between When the difference between actual
the actual and budgeted figures and budgeted figures results in a
result in a business enjoying higher company’s profits being lower
profits

Examples: Examples:

•Actual wages less than budgeted •Sales revenue below actual budgeted
figure
•Budgeted sales revenue lower •Actual raw material costs higher than
than actual budgeted
•Expenditure on fuel is less than •Actual overheads higher than
budgeted budgeted
What are the causes of Variances?!

Favourable Variances Adverse Variances

Examples: Examples:

•Wage rises lower than •Competitors release new

expected products winning extra sales
•Economic boom leads to •Government increases
higher sales than expected business rates by unexpected
amount
•Rising value of the pound •Fuel prices increase as price of
makes imported raw oil rises
materials cheaper
 How are variances caused

External Factors
– Competitor behaviour effects demand
- Change in economy i.e. minimum wage increase
- The cost of raw materials increase – Bad Harvest/ Summer

Internal Factors –
- Improving efficiency causes favourable variances
- Overestimating how much money can be saved - A
- Underestimating the cost of making a change in its organisation - A
- Change in price – Creates variance after the budget has been set
- Internal cause are a serious concern. They suggest that communication needs
to be improved
 How is variance analysis
used?
• To plan ahead – Change budgets, be more ambitious
or more cautious
• Re-motivate staff
• Change marketing mix
• Change product
• Lower sales price
• Find cheaper suppliers
 How is variance analysis used?

• Informs the business of how efficient (favourable) the budget is.

• Good communication within the business
• Monitored well
• Precise and thorough budgets (each department considered in depth)
• Is expansion possible
• Is there teamwork

• Budgets can be reviewed in order to improve efficiency:

• Different budgets are required
• Improve expertise/ motivation
• Identify inappropriate use of budget
 Difficulties of budgeting

• Problems may arise because figures in budgets are not actual figures.
• If sales data is inaccurate budgets will be inexact.
• May cause stakeholder conflict between managers and departments.
• Time consuming – opportunity cost
• Often over ambitious objectives are set.
• Unrealistic budgets may demotivate staff.
• Manipulation – budgets can be set by managers to make a department look good. But it may not help the firm achieve the
objectives.
• Some managers may disagree on how money should be spent and this can result in customer dissatisfaction and a loss of
orders etc.
• Some managers may only consider the short term and not the long term. It may save costs now but could cause customer
dissatisfaction in the future.
 Benefits of budgets
Benefits
• Help to control income and expenditure
• Provides clear targets for managers
• Can be motivating
• Helps focus on costs
• Helps managers to constantly monitor their budget
and remain efficient
• Help to reveal areas that need corrective action
 Limitations of budgets

Limitations
• Can cause resentment or rivalry between
departments
• If the budget is too inflexible then opportunities
may be missed when the market changes
• Can be demotivating if budgets are restrictive
• Time consuming and expensive process
• If the actual results are different then the value
of the budget is diminished
 Overview - Analysing the budget
• Budgets can be Adverse or Favourable
• If the budget is adverse it means that they have spent more or made less sales revenue
than planned
• If the budget is favourable it means that they have spent less or equal, or made more or
equal sales revenue than planned
Benefits Drawbacks

Business can monitor performance Businesses can only analyse results at the end of the
budget period

They can locate unnecessary costs It costs time and money to budget & collect results –
may even require a department
They can make future budgets more reliable by
analysing trends & performance It can demotivate staff if they have adverse results
 Topic 3
Managing Finance
Chapter 6
Profit
 Profit/Loss Calculations
• Businesses use a Statement of Comprehensive Income because:
• It’s a legal requirement for Private & Public Limited Companies
• It summarises the years transactions
• It can be used to analyse the performance of the business
(E.g. Are Costs too high? How did we compare to competitors?)
 What is profit?

Total Revenue – Total costs = Profit

• Accountants calculate and define profit in 3 ways;

• Gross Profit
• Operating Profit
• Net Profit
 Gross Profit

Gross Profit = Revenue/ Sales Turnover –

Variable costs (costs of sales)

(Revenue = Sale Price x Quantity sold

COS = the cost to make the product)

• Gross profit refers to the profit made after

direct costs have been met.
 Operating Profit

Operating Profit = Gross Profit – operating

expenses/ overheads

(overheads = e.g. admin expenses etc.)

 Net Profit

• Net Profit (profit for the year) = Operating

Profit – Interest and exceptional costs (tax,
interest etc.)

• Net profit may be calculated before or after the

subtraction of taxation
 What is a Profit and Loss Account?
• Also know as a ‘Statement of comprehensive income’.
• Another document that shows the financial performance
of a business during a 12 month period.
• Seen in a business plan.
• SoCI shows the income and expenditure of a business
during a financial year.
• The statement always shows the current and previous
year’s financial figures. This allows a comparison to be
made.
• The difference between this document and a CFF is
simply the detail in the document for instance tax is
often considered in this account and profits are
calculated.
 Task 2 - Statement of
comprehensive income
2014 2013
(£) (£)
Revenue/ Sales Turnover 561,000 498,200
Cost of sales 331,000 322,100
Gross Profit
Selling expenses 45,300 38,200
Admin expenses 122,500 102,800
Operating Profit
Interest 22,100 21,000
Net Profit (profit for the year)
Taxation 8,000 2,800
Profit for the year after tax (net profit)

Task - Calculate Gross Profit, Operating Profit and Net Profit

Task Answers - Statement of
comprehensive income
2014 2013
(£) (£)
Revenue/ Sales Turnover 561,000 498,200
Cost of sales 331,000 322,100
Gross Profit 230,000 176,100
Selling expenses 45,300 38,200
Admin expenses 122,500 102,800
Operating Profit 62,200 35,100
Interest 22,100 21,000
Net Profit (profit for the year) 40,100 14,100
Taxation 8,000 2,800
Profit for the year after tax (net profit) 32,100 11,300
 Why is it a good idea for a business to
calculate their profit/loss?
• A business produces a SoCI to calculate their profit/loss for a period of time,
usually a year.

• It is a record of the revenues (income) and costs of the business over a period of
time, usually a year.

• It shows the financial ‘health’ of the business

• It can be used to compare trade this year with trade last year i.e. to highlight
progress.

• It is studied by managers, shareholders, banks, financiers and other relevant

groups of people. Shareholders in particular are interested in trends in profits.

• To avoid failure.
 Why is it a good idea for a business to
calculate their profit/loss?
• Businesses will always want to increase their profit!

• Business can look at how to increase profits – e.g. increase prices and
lower costs or even lower prices if there is high demand!

• If profits decrease it is bad news!

• It is a legal requirement. Tax is paid on the profit. Different businesses

pay the tax differently:
- Sole traders and partners pay income tax
- Limited companies pay corporation tax

• Public Limited companies are required to publish their profit and loss
accounts.
How can Profit & Loss be assessed?
•Businesses work out a percentage increase or decrease on the profits within a
year to measure against previous years.

•They use the below formula:

Percentage change in profit =

•If profits are decreasing then they need to understand why.

Current Years profit – Previous Years Profit
X 100%
Previous Years Profit
 Profit Margins

Operating Profit Margin = Operating Profit x 100

Sales Revenue

• Businesses that buy and sell have smaller gross profit margins
• Good examples being Supermarkets and Discount Chain Stores.

• Businesses that make and sell have higher gross profit margins
• I.e. The main cost is producing the product.

• Margin means difference between, like a gap.

• The percentage shows what pence per pound is gross/ operating/ net profit. E.g. GPM of 89.03% means
that 89.03p of every £1 is gross profit!
• The higher the better!
 Profit Margins
• To help a business understand how and why it earned the profit it did,
it can look at its SoCI more closely.

• This will show managers and investors what types of costs the business
has had to pay and how much profit was left over from sales revenue.

• Profit margins measure the size of the profit in relation to revenue/

sales turnover.
• Gross profit margin
• Operating profit margin
• Net profit margin
 Gross Profit Margin

• This shows the gross profit as a percentage of sales

revenue.

Gross Profit X 100

• Formula: Sales Revenue

• The gross profit margin is usually a good indicator because it

shows how much of the money received from sales is actual
gross profit. For example, a percentage of 28.8% means that
28.8p out of every £1 of sales revenue is gross profit.
 Example
• Iceland has a gross profit of £96,745 and sales
turnover of £1,037,277

96745 x 100 = 9.33%

1037277

• Means that 9.33p out of every £1 of sales

revenue is gross profit.
 Interpreting Gross Profit Margin

• The higher the gross profit margin the better

• Companies may wish to sustain or improve their

gross profit margin. They can do this by:

• Increasing sales revenue and keeping cost of sales the same

• By reducing cost of goods sold and keeping sales revenue the same
• Depends on the stock turnover and industry for example a
supermarket vs a car dealership. A supermarket can be successful and
have a low GPM.
 Interpreting Gross Profit Margin
Possible reasons for a falling gross profit margin are:

• Inflation
• Change of suppliers
• Recession
• Bad summer thus rise in costs of raw materials

What use is calculating the gross profit margin to a

business?
How much profit they are making per product, thus a price increase? any changes
that need to be made to the product/ supplier and generally plan ahead.
 Operating Profit Margin

Operating Profit X 100

Sales Revenue

• Used to measure a firms pricing strategy and operating

efficiency.
• It gives a firm an idea of how much profit is made before tax and
interest, on each pound of sales.
• Operating profit margin =
 Example

• Nike has a operating profit of £45,000 and

sales turnover of £250,000

45000 x 100 = 18%

250000

• Means that 18p out of every £1 of sales

revenue is operating profit.
Interpreting Operating Profit Margin

• The higher the operating profit margin the better

• This is because the more money is made on each £1.

• If the OPM is increasing it means that the firm is more pounds per sale.

• OPM shows the profitability of sales resulting from regular business. It

excludes other losses for instance interest and tax.

• This margin can be increased by lowering indirect costs.

 Interpreting Operating Profit
Margin
• As a pair discuss ways to increase the operating
profit margin.

• Reduce costs
• Utilities
• Rent
• Loan repayments (balance transfer)
• Admin costs

• Improve efficiency – Zero based budgeting

• Decrease costs of goods sold.

 Net Profit Margin

• Gross profit is important but it doesn’t include

operating expenses (overheads, interest and
tax).

• Net profit can be a more important guide for

the owners of a business because it takes all
costs into account.
 Net Profit Margin

Net Profit X 100

Sales Revenue
• This shows the net profit as a percentage of sales revenue

• Formula:

• This shows how much of the income from sales is net profit e.g.
if a company has a net profit margin of 5.3%, then for every
pound that it receives from selling products, it will earn 5.3p of
net profit.
 Net Profit Margin

• NPM’s show how profitable a business is.

• They measure the relationship between the net profits made and the volume of sales.

• Business can calculate margins for individual products or the business as a whole and use the figures
to compare with ‘competitors.

• For example, when I compare this NPM of 25% with competitors, we can see that they are getting
only 15%. This tells me that I’m doing well. I can also look back and see how profitable my business
was last year. Then, we only made 10% and so this year we have done much better. This tells me that
I’m doing well.
 Interpreting the Net Profit Margin

• REMEMBER - Like with Gross Profit Margins,

the higher the better

• The net profit ratio can be improved by:

• Raising sales revenue whilst keeping expenses low
(reducing fixed costs); or
• Reducing expenses (fixed costs) whilst maintaining
the same level of sales revenue.
 Question?
1. Use the information in the table to work out the Net
profit margin for the Fish & Chip shop for both 2016 &
2017.

2016 2017
Sales revenue 150 000 165 000
Net profit 13 500 9 000
 ANSWERS
1. Use the information in the table to work
out the Net profit margin for the Fish &
Chip shop for both 2009 & 2010.
2016 2017
Sales revenue 150 000 165 000
Net profit 13 500 9 000
9% 5.45%
 Question?
What does this mean?

• Worse than last year

• Prices need to be raised
• Costs of making the product need to be lowered, however this could effect sales as quality may be effected!
• Fixed costs need to be lowered
• Raising prices may decrease demand for the product thus increasing the NPM too much can have negative effects on a product i.e. the
demand for the product
• The overall NPM can be improved by the business no longer selling the products with a low NPM
 Ways to Increase
Profitability

• Raising prices
• Lowering costs
• Cheaper raw materials
• Using existing resources more efficiently
 Ratio Analysis- Evaluation
• Ratio analysis compares profit margins to previous years to understand the
profitability/ performance of a firm.
• It is a powerful tool in the interpretation of financial documents.
• It can allow for financial documents to be monitored, compared and changed.
Trends are easily identified.
• Used to therefore make decisions.
• Some times they are not as accurate as one would hope. Other ratios exist.
• Added value is now used by shareholders to identify a good investment –
financial figures baffle some people.
• Ratio analysis is very useful but its usefulness is limited as other factors exist
that effect a stakeholders decision such as ethical and social stance.
 Profit margins in practice
• Lets compare financial years 2013 and 2012 in terms of profit
April margins…
2013 (£) April 2012 (£)
GPM 2013 = Sales Revenue 151,467 127,499
Cost of Sales 20,816 21,014
GPM 2012 =
Gross Profit 130,651 106,485
NPM 2013 =
Expenses 119,366 78,118
NPM 2012 =
Net Profit 11,285 28,367
• With a case study related to these figures, we could suggest possible reasons
for the Increase in Gross Profit Margin in 2013, and a decrease in Net Profit
Margin in 2013
 Profit margins continued

Benefits of using them Drawbacks of using them

• They are simple to calculate • They do not explain how costs were incurred
• They summarise the area of most costs • They do not directly help businesses set
strategies
• They can be monitored overtime to spot
trends • They require further analysis to help identify
saving costs
• They can help benchmark against competitors
 Cash vs Profit

Cash Profit
• The money that a business has immediate • The money a business has left over after total
access to on a day to day basis costs are taken from revenue
• Used to pay for costs of manufacture • Sales Revenue – Total Costs
• Analysed using a Cash-Flow Forecast • To improve profit businesses can cut costs or
increase sales
• Analysed using Statement of Comprehensive
Income
 Keith’s Coffee LTD

Can a Business survive with no cash?

January 2014 ❷ £1000 Spent on

❶ Month Coffee Beans (Cash
Started with Mon Tues Wed Thu Fri Sat Sun = £1000)
£2000 cash
- - 1 2 3 4 5 ❸ Batch of
Coffee Sold to
❹ Machinery Tesco for £3000
6 7 8 9 10 11 12
Lease Bill of £1000 Given 14 days to
(Cash = £0) pay
13 14 15 16 17 18 19

20 21 22 23 24 25 26 ❺ Bank Loan
❻ Tesco Pay
repayment of
for Order
27 28 29 30 31 - - £1500 (NO CASH
(Cash = 3000)
TO PAY)
Despite selling products, Keith didn’t have enough cash to pay for the Bank Loan payment. If Keith negotiated a shorter
credit period with Tesco or later date with his Bank, this would fix the problem.
Chapter 7
Liquidity
Definition – A Statement of Financial Position is…
• A snapshot of the financial position of a business at that moment in time. It
provides a summary of a firm’s assets, liabilities and capital.

• It shows what the firm owned from the previous year, and how this has changed
this year. i.e. if there have been any new assets purchased, and where this money
has come from in terms of loans, share capital etc. to make the purchase.

• Equity is the total of what is owed to the shareholders.

 Key Terms to learn

• Assets – used to make products or provide services. Something that is owned by the business – vehicles, stock, cash,
buildings etc.

• Liabilities – short term or long term source of funds for a business. These are what the business owes to others, a
source of debt – bank loan repayments.

• Capital – used to buy assets, money put into the business – owners capital, working capital (i.e. retained earnings),
share capital.

• Shareholders Equity – What is owed to the shareholders, retained profit and share capital. This comes from the
capital. Shareholders own the capital.
 Balance sheets – what are they?
• The same as a statement of financial position.
• A balance sheet should always ‘balance out figures’.
• The value of assets (what the business owns) will equal the value of liabilities plus total equity/
capital (what the business owes as well mas owns).
• This is because all resources purchased by the business have to be financed by either capital or
liabilities.
• So if a business has capital of £5million and liabilities of £2million the value of assets must be £7
million.
• It justifies the expenditure of a firm and helps them make future business decisions, such as if
they can afford to spend more or take on more debt.
• Additionally several stakeholders are interested in this document. For instance, shareholders
use it to calculate ratios that help them decide if the firm is worth investing in or not compared
to other investments.
 Balance sheets – what are they?
• They have a relationship with a the statement of comprehensive income.
• Like statement of comprehensive income, balance sheets are usually produced on an annual
basis at the end of each financial year.
• However, whereas a statement of comprehensive income summarizes a company’s activities
over a period of time.
• The information on a balance sheet refers only to the day on which it is produced.
• Both the balance sheet and the profit and loss account show the ‘health’ of the business.
• Shareholders, customers, suppliers, employees and other stakeholders like the government and
Office for National Statistics will be interested in both types of account – but for different
reasons!
• They will want to see where the business is getting its money from (for example, whether it is
borrowing large amounts of money or whether it is using profits) and how well and on what
purchases it is using this money.
 £m £m
Non Current Assets
Property and Equipment 176.5 189.3
Intangible Assets 45.2 41.6 Non Current Assets are long term resources used
221.7 230.9 repeatedly by the firm. E.g. land, property etc. intangible
Current Assets (non physical assets e.g. customer databases etc.) are also
Inventories 32.1 28.3 listed here. These are not expected to be sold within 12
Trade and other receivables 7.3 6.8 months.
Cash and cash equivalents 3.1 6.2
42.5 41.3
Total Assets 264.2 272.2 Current Assets are items owned by the firm that can be
Current Liabilities turned into cash within 12 months. They re liquid assets.
Trade and other payables 25.6 24.9
Liquidity of an asset is how easily it can be converted into
Current tax liabilities 11.1 10.5
cash. E.g. stock, money owed to the business, cash etc.
36.7 35.4
Non-Current Liabilities
Loans 24.5 26.1
Pensions 7.8 6.7 Current Liabilities is money owed by the firm and must
32.3 32.8 be repaid within 12 months. E.g. trade credit, overdrafts,
Total Liabilities 69.0 68.2 income tax etc.
Net Assets 195.2 204.0
Shareholders’ Equity Non Current Liabilities relate to long term loans and other
Share Capital 25.0 25.0 money owned by the firm e.g. mortgages. That have to be
Retained Earnings (retained profit) 170.2 179.0 repaid for at least a year.
 £m £m
Non Current Assets
Property and Equipment 176.5 189.3
Intangible Assets 45.2 41.6
221.7 230.9
Current Assets
Inventories 32.1 28.3
Trade and other receivables 7.3 6.8
Cash and cash equivalents 3.1 6.2
42.5 41.3 Net Assets are calculated by subtracting the
Total Assets 264.2 272.2
Current Liabilities
value of total liabilities from total assets. This
Trade and other payables 25.6 24.9 will ‘balance’ i.e. be equal to the shareholders
Current tax liabilities 11.1 10.5 equity found at the bottom of the statement.
36.7 35.4
Non-Current Liabilities
Loans 24.5 26.1
Pensions 7.8 6.7 Shareholders equity is the final section of
32.3 32.8 the statement. This provides a summary of
Total Liabilities 69.0 68.2
Net Assets 195.2 204.0
the capital that is owed to the owners of
Shareholders’ Equity the business. E.g. share capital, and
Share Capital 25.0 25.0 retained profits. (This pays for the
Retained Earnings (retained profit) 170.2 179.0
remaining assets after net assets).
Total Equity 195.2 204.0
 £m £m
Non Current Assets
Property and Equipment 176.5 189.3
Intangible Assets 45.2 41.6
221.7 230.9
Current Assets
Inventories 32.1 28.3
Trade and other receivables 7.3 6.8
Cash and cash equivalents 3.1 6.2 Equals total non
42.5 41.3 current assets plus
Total Assets 264.2 272.2
Current Liabilities
current assets
Trade and other payables 25.6 24.9
Current tax liabilities 11.1 10.5
36.7 35.4
Non-Current Liabilities
Equals Current
Loans 24.5 26.1 Liabilities plus non
Pensions 7.8 6.7 current liabilities
32.3 32.8
Total Liabilities 69.0 68.2
Net Assets 195.2 204.0 Net Assets equals Total
Shareholders’ Equity
Share Capital 25.0 25.0 Assets minus Total
Retained Earnings (retained profit) 170.2 179.0 Liabilities
Total Equity 195.2 204.0
 £m £m
Non Current Assets
Property and Equipment 176.5 189.3
Intangible Assets 45.2 41.6
221.7 230.9
Current Assets
Inventories 32.1 28.3 • The net assets figure and total equity figure
Trade and other receivables 7.3 6.8 balance as this shows, after debt where the rest
Cash and cash equivalents 3.1 6.2 of the money has come from .i.e. share capital.
42.5 41.3 • This means that all expenditure is accounted for
Total Assets 264.2 272.2 through identifying how money is being spent
Current Liabilities
• All money and expenditure within the firm is
Trade and other payables 25.6 24.9
accounted for!
Current tax liabilities 11.1 10.5
36.7 35.4 • Total Equity (money from shareholders) + Total
Non-Current Liabilities liabilities (borrowed money) = total assets
Loans 24.5 26.1 (everything that the firm owns). This shows how
Pensions 7.8 6.7 all money given to the firm has been spent.
32.3 32.8
Total Liabilities 69.0 68.2
Net Assets 195.2 204.0
Shareholders’ Equity Total Equity equals
Share Capital 25.0 25.0 share capital plus
Retained Earnings (retained profit) 170.2 179.0
Total Equity 195.2 204.0
retained profit
 Answer the following questions

1. Define the term ‘Statement of Financial Position’? (use the words ‘health’ and
‘snapshot’ in your answer)
2. Explain what a statement of financial position shows?
3. State which two areas of the balance sheet ‘balance’?
4. State where we would find a firm’s balance sheet?
5. Explain the difference between liabilities and assets.
6. State how is working capital calculated?
 Answer the following questions
1. Define the term ’Balance sheet’? (use the words ‘health’ and ‘snapshot’ in your
answer)A summary at a particular point in time of the value of a firms assets,
liabilities and capital. It shows the ‘health’ of a business at that moment in time.
2. Explain what a statement of financial position shows and why? It shows what a
business owns and what it owes. It shows how the money injected into the firm has
been spent. Whether its borrowed money or given to the firm through shareholders.
3. State which two areas of the balance sheet ‘balance’? Explain why? Net assets and
total equity (shareholder funds) – this shows that all expenditure is accounted for.
4. State where we would find a firm’s balance sheet? In their business plan
5. Explain the difference between liabilities and assets. Liabilities are what a business
owes, assets are what they own.
6. State how is working capital calculated? Current assets – current liabilities
 What is liquidity?

‘Liquidity is the ease at which assets can

be converted into cash.
It is important that a firm is able to meet
its short term debts as failure to do so
may result in closure of the business.’
 Liquidity Ratios
• Like all financial documents, the balance sheet needs to be compared in order to be of real use.
• We use ratios to make these comparisons easier.
• The ratios that we use at AS are;
• Current ratio
• Acid test ratio

• These ratios measure the liquidity of a firm.

• You will need to know the following;
• Interpretation
• what the ratio shows.
• What’s the ideal number

• What can a business do to improve the ratio

• What is the limitation of using ratio analysis
• How these ratios can influence the levels of borrowing permitted
 Liquidity Ratios

• Liquidity Ratios assess the firms ability to pay their day-to-day running costs
•A firm can be making a profit but still run out of money to pay their bills as they
may be too high
•If a firm has too little money available the business is illiquid
•Ratios relates one number to another to show the relative position.
•The value of this is to give a warning about when the current liabilities Are getting
too high in relation to the current assets.
•There are two liquidity ratios; Current Ratio and Acid Test Ratio.
 Current Ratio = Current Assets
Current Ratio Current Liabilities

• This ratio shows how many £ of current assets a firm has to every £1 of current liabilities
• It shows whether a firm will be able to pay its bills. Can it afford to pay off its Current Liabilities; creditors, overdraft
etc.
• The ratio assesses whether the firm has enough current assets (money assets) to pay the current liabilities; cash,
stock, debtors etc.

• Ideal ratio is between 1.5 – 2:1 (between 1 and 3 = healthy business)

A ratio of 3 : 1 would imply the firm has £3 of assets to cover every £1 in liabilities – very good!!
A ratio of 0.75 : 1 would suggest the firm has only 75p in assets available to cover every £1 it owes - The firm
could be in a weak financial position! Bad!

•Any lower means that the business is in danger of running out of cash as it doesn’t have enough working capital to
pay off its debt like trade credit. This might meant that the business is over borrowing or over trading. (some firms like
retailers have fast selling products so have a ratio of 1.1 and are equally as successful generating cash from their sales)
•Any higher and the business is unproductive and maybe has too much cash tied up in stock and it isn’t selling. Cash
should be invested elsewhere or given back to shareholders.
 Current Ratio Calculation
CA : CL
(250 + 1250 + 250 + 500) : (900 + 100)

2250 : (/) 1000

2.25 : 1
Meaning for every £1 of current liabilities, I
have £2.25 to be able to pay them off via my
current assets
Do I have anything to worry about?

It is a comfortable position to be in BUT its too high and that means that the firm has too much cash tied
up in unproductive assets and must reinvest back into fixed assets, or passed back to shareholders
 Acid Test Ratio = Current Assets – Stock
Acid Test Ratio Current Liabilities

•Stock is the most difficult of a firm’s current assets to turn into cash without a loss in it’s value; as the product may not sell as expected
•The acid test ratio, a tougher measure of a firm’s liquidity is like the current ratio but does not include stock as a current asset
•Ideally the figure should be above 1 . (perfect figure = 1:1)
•This shows that the firm has £1 of highly liquid assets for very £1 of short term debt.
•If the ratio is below 1 it means that a firm doesn’t have enough current assets minus stock to cover current liabilities. This = a problem!
Too much money is tied up in stock, they ant pay off current debt, overdrafts etc. In general, low or decreasing acid- test ratios generally
suggest that a company is over-leveraged, struggling to maintain or grow sales, paying bills too quickly, or collecting receivables too
slowly.
•Any higher - then the firm can meet their current debt no problem! But they have many current assets; what are costs like and are they
required? A good investment into non current assets may be required for security. A high or increasing acid-test ratio generally indicates
that a company is experiencing solid top-line growth, quickly converting receivables into cash, and easily able to cover its financial
obligations. Such companies often have faster inventory turnover and cash conversion cycles.
•BUT like the current ratio there is a considerable variation between the typical ratio and the industry that the firm operates in. (retailers
with strong cash flow may operate comfortably with an acid test ratio of less than 1).
 Acid Test Ratio Calculation
CA – Stock : CL
(1250 + 250 + 500) : (900 +100)

2:1
For every £1 of current liabilities I have £2 of
current assets (- stock) to pay them with.
Stock relies on custom and isn’t as liquid as the
others
Do I have anything to worry about?

No! They are in a comfortable position, with strong liquidity – they can pay their debt!
 Ways to improve liquidity
• Use of overdraft facilities
• Negotiate additional short term and long term loans
• Encourage cash sales
• Sell off stock
• Sell assets and lease back
• Make only essential purchases
• Extend credit with current suppliers
• Reduce personal drawings from the bank
• Introduce fresh capital i.e. personal cash and loans by the owner. A limited
company could use share capital BUT if the firm is struggling this is hard so it is
up to the owner to fund
 Keywords
• Capital Investment – Using a source of finance to purchase or hire equipment
in a business
• Capital Employed – The total long-term finance in a business
• e.g. Share Capital, Loans & Reserves (Retained Profit).

• Return on Capital Employed – Measures the amount of money that may be

earned after a capital investment.
• Liquidity – The ease and speed in which assets can be turned into cash.
• Working Capital – Cash in the business required for the day-to-day running.
Also used to cover short-term debts.
• Inventories – The stock of goods in which a business can sell to make revenue
 Assets vs. liabilities
• Assets are things within a business with value, i.e. things they own
• Tangible Assets are things like premises and equipment, things that can be used in production
• Intangible Assets are things like Brands, Patents and awards that the business has developed
• Current Assets are things like debtors, cash and stocks that can be immediately used

• Liabilities are things that the business owes, i.e. debts

• Non Current Liabilities are loans that have to be paid back over a long period of time,
generally more than a year
• Current Liabilities are short term debts that must be paid within 12 months, usually less than
a year, e.g. Trade Credit
• Shareholders’ Funds represent money owed to shareholders in form of share capital and
retained profits (reserves). THIS IS NOT DIVIDEND PAYMENTS IT IS SHARE CAPITAL. Money
given to the firm by the share holders to raise capital. It is simply another source and method
of finance for the firm.
 Statement of Financial Position
Assets and Liabilities can be shown in a ‘balance sheet’:
April 2013 April 2012 April 2011
Non Current Assets
189,626 99,971 91,396
Total Assets
Current Assets
149,102 112,747 83,153
Non Current Liabilities
50,839 8,457 13,793
Total Liabilities Current Liabilities
96,497 26,874 17,686
Net Assets 191,392 177,387 143,070

If a business had negative net assets, they would be in serious financial

problems. Sometimes balance sheets are broken down into more detail,
e.g. showing each asset before total.
Chapter 8
Working Capital
 What is working capital?

‘Working capital is the term used to describe the money used for day to day activities
within a business. It is used to pay for expenses, electricity and raw materials. The
working capital is the money left over after all current debts have been paid’.

Working Capital = Current assets – current liabilities

Working capital is very important as it can reflect how well a firm is performing. For
example a firm that is struggling and threatened with closure will have low levels or
WC. If the balance sheets shows this then it is a sign that the firm may be in trouble!
 What is Working Capital?
• Working capital is the money a business needs to pay its short term expenses. These include:
• Expenditure such as staff training
• Raw materials or stocks of input
• Bills such as Utilities
• Wages for staff

• The amount of working capital held will vary depending on the type of business, credit terms with
suppliers and credit terms with customers.
• A new business may not be able to negotiate credit terms with suppliers as they may see them as
a risk, therefore the new business may not be able to give customers credit without raising
capital.
• A business with too little working capital may end up with a negative cash flow, but a business
that holds too much can be costly and wasteful.
• Working Capital is the most liquid asset in a business! It is immediately accessible to pay debts.
 Managing working capital?

• Different businesses have different working capital needs.

• Size of the business

• Stock levels
• Debtors and creditors
• Maintaining adequate levels of working capital
 Managing working capital?
• Different businesses have different working capital needs.
• Size of the business
• The larger the business the larger the amount of WC.
• Stock levels
• Firms that adapt a JIT approach will have lower WC figures. The more stock the higher
the WC for example a window cleaner versus Greencore.
• Debtors and creditors –
• The time between buying stock on trade credit and selling the finished product can
influence the levels of WC. For example a builder. Projects take months and so will
payment from the client.
• Supermarkets may have negative WC (current assets and less than current liabilities)
as they buy in from suppliers and sell the product to the customer before paying the
trade credit to the wholesalers.
• Some firms work with negative working capital. Textbook says a firm requires twice as
many current assets as current liabilities to operate safely. This means current ratio
should be between 1.5 and 2. this is how a stakeholder can see if a firm is working
effectively.
 Managing is working capital?

• Different businesses have different working capital needs.

• Maintaining adequate levels of working capital
• Firms need to ensure that current assets are not too low and current liabilities not too
high as they will encounter trading issues.
• A firm maybe unable to finish a product or fulfil orders on time due to low numbers of
stock/ raw materials.
• Also, a firm may not be able to pay bills and invoices on time. However firms may
want low WC as stock is expensive to keep.
• Money can be tied up in stock.

So why is cash so important?

 Working Capital in the Accounts
• An accountant may suggest that the ratio of current assets to current liabilities should be 2:1, i.e. that
firms should hold twice the amount of assets to liabilities. The concept ‘current’ refers to a short
period of time.
• WC is calculated as: Working Capital = Current Assets – Current Liabilities
• Current Assets are things that a business owns and change value on a day to day basis. These include:
• Stock
• Cash
• Debtors

• Current Liabilities are things that a business owes that must be paid within a year or less. These
include:
• Bank Overdraft
• Supplier Trade Credit
• Short-Term Loans
 Working Capital in Practice
The ‘Silly Sausages’ Fast Food Van
Current Assets
Stock 1,000
Current Assets
Debtors 10,000 Things the business own
Bank 10,000
Current Liabilities
Current Liabilities
Trade Credit 1,000 Things the business
Bank Overdraft 250 owes
£19,750 Working Capital
(Assets – Liabilities)
 Working Capital Cycle Keith’s Coffee LTD

Cash Cash

Raw Materials There should always

be more cash at the
Sales end then at the start,
this can be used to
pay overheads and
the rest is profit.

Labour
Finished Product (Remember Labour can be
Manual or Capital)
 Improving Working Capital
There are 2 ways to Improve working capital:

Increase Money Coming In Decrease Money Going Out

• Get customers to pay more quickly • Negotiate later payments with suppliers*
• Sell stocks to avoid holding too much • Spread costs out
• Obtain external finance • Sell off unused assets
• Increase Sales • Lease rather than buy assets

*Sometimes there may be a payment due at a bad time. Think about a household situation – If work pays you on the 20 th of
each month and your Phone bill is due on the 18th of each month, you may want to negotiate to pay after you receive your
wages i.e. After the 20th … Similar problems occur in Business.
Chapter 9
Business Failure
 Why do Businesses fail?
• Market Conditions – Characteristics such as competitors, market growth rate,
legislation, level of innovation and level of demand. Sometimes businesses have the
right product but at the wrong time.
• E.g. Selling Electronic Vapour Pens at the start of the smoking ban – Right product at the right time?

• Recession – When the economy slows down consumers spend less and therefore
demand decreases. Consumers may even get a wage cut. This means that the level of
luxury goods and services will decrease.
• E.g. Decrease in the demand for expensive Television packages.

• Weak Management – Bad cash-flow control can cause a disaster for a business. Also
bad management of staff may mean quality and productivity decrease.
Click here to download my companion flyer for easy revision & more detailed infor
mation and points about why businesses fail!
 Why do some businesses fail?

• Internal causes
• Lack of planning
• Cash Flow issues
• Over trading • Lack of funds
• Investing too much into fixed • Relying on a narrow customer base
assets
• Allowing too much credit to
• Marketing problems
customers • Failure to innovate
• Over borrowing • Lack of business skills
• Seasonal factors
• Unforeseen expenditure
• Poor leadership
• External factors
• Poor financial management
 Why do some businesses fail?
• External causes
• Competition
• Changes in legislation
• Changes in customer tastes
• Economic conditions
• Change in market prices
Financial and Non Financial causes of business
failure
• The reasons for failure can be classified as being financial and non financial.

• Financial – shortage of cash resulting in closure or bankruptcy. The importance of cash

flow management can not be overemphasised!
• Non financial – all issues must be addressed! Failure to meet customer needs,
compete effectively and or adapt to economic demands may result in cash flow issues
and thus closure (as stated above)
 Topic 4
Resource Management
 Chapter 10
Production & Efficiency
 Keywords
• Efficiency – using available resources in the most economical way possible.
This means keeping costs to a minimum and not wasting staff or capital
equipment time.
• Productivity – A way of measuring efficiency by calculating Output per person
employed
• Capital Intensive – Using high proportion of capital equipment and relatively
low labour
• Labour Intensive – Using high proportion of labour and relatively low capital
equipment
• Capacity Utilisation – Actual output as a percentage of maximum output, per
period of time (Current output / Maximum Output x 100)
 Keywords
• Time-Based Management – focuses on flexibility because this is the best way to
avoid wasting time, either through employees having nothing to do or idle
machinery.
• Lean Management – encompasses a whole range of techniques for reducing
waste and cutting the cost of production processes.
• Kanban – A Japanese JIT system which uses cards to track stocks of inputs
automatically, so that components are delivered to the right place at the right
time.
• Competitive Advantage – The advantage a firm gets over its competitors by
offering customers greater value in a specific way.
 Operations Management
• Operations management is an umbrella term for all of the processes that
take the product from conception to sale:
• Design – where all aspects of the product are defined so that it can be carefully
positioned. The more closely it fits to the consumer requirements, the better it
will sell.
• Planning Production – finding the most efficient and cost-effective way of
creating the product. This will involve all the necessary inputs such as the
people required, capital equipment and technology.
• Suppliers – deciding on suppliers that might provide raw materials,
components, distribution or advertising services. Some business have their own
‘in-house’ departments for this depending on the size, efficiency and costs of
the business and product.
• Getting raw materials or components from external suppliers is called outsourcing
 Productivity
• Businesses strive to market products that will cost less. Lower prices can mean
higher sales, a larger market share or loyal customers.
• Increasing efficiency and cutting costs go together, and can be achieved when
ways are found to produce with fewer resources.
• In order to stay competitive, all business have to stay competitive. One way of
measuring efficiency is by looking at productivity which is output per person
employed.
• The main ways of increasing productivity are by Employing new technologies,
Investing in more capital equipment or Training and organising staff efficiently.

Increase productivity  Means using fewer resources  so Production costs fall  Meaning prices can be cut
and sales rise  so Market share and profits increase  The Business gains competitiveness
 The Manufacturing Production Process
• Examples of waste in the production process are:
• Time spent waiting for parts to arrive
• Unsold stock having to be stored
• Layout of the workplace isn't efficient
• Money wasted when machinery is brought for a one off job
• Staff trained in a single skill

• Businesses also need to consider whether they need their own transport fleets or whether
money can be save by hiring logistic firms
• Having your own logistics is good because drivers can go out anytime when required but
lorries and drivers can often be lying idle.
• Flexibility is also important in Lean Management. This can be applied to staff – if they are
multi-skilled they can be kept busy in different ways. This can also be applied to Capital where
machinery can have multiple uses.
• This is called Flexible Specialisation
 Economic Manufacture

• Economic manufacture is making something that stays within budget, that

is not wasteful and that would be competitive in its costing.
• Achieving this is easiest often easiest when it is possible to mass
manufacture. If very high output is unrealistic, it may help, it may help to
use batch production.
 Lean Management

• Lean management, or Lean production, at its simplest means minimizing waste of time and resources. The
point of adopting this is to increase efficiency and develop competitive advantage.
• As a strategy, Lean management includes:
• Careful control of stocks using JIT where suitable
• Attention to quality issues & reducing defects
• Continuous Improvement of ideas from all staff
• Reducing development times to meet a change in customer needs quickly
• Attention to training and developing staff skills

• As well as a reduction in cost and improvement in productivity arising from reduced waste, lean production
provides the competitive advantage of better reputation, better quality and better customer service.

Exam Tip: Quality issues is in Chapter 10. Stock Control and JIT were in Chapter 8.
 Why Lean Production?
Traditional production methods such as job, batch and flow often
result in high levels of waste and inefficient use of resources

Complete the boxes with ways

The aims of lean production are:
lean production achieves these
aims:
Eliminate waste

Maintain quality

Produce more

Use less
 Continuous Improvement
Developed by the Japanese and known as ‘kaizen’. The idea is that
improvement should not happen as ‘one offs’ for a long period, but rather a
continuous improvement by adapting and changing production techniques
gradually in order to eliminate waste at all levels
I’ve worked
What is waste? It’s a waste of time overtime every
having that specialist day this week, I
machine. We only use am going to be
it occasionally! sick next week
Why do I have to walk over
there to get the tools I
need?

I’ve been waiting for an

hour for the materials I
need!!

‘No day should pass without some kind of improvement being made
somewhere in the business.’
 J I T Manufacturing
J I T manufacturing is ‘pulled’ by the market and ‘made to order’ rather
than by using the idea of ‘just in case’ production

In this way stocks can be kept to a minimum. The Kanban system is the key. It
is a card that goes with the product and generates more parts to be delivered
to each workstation

What are the main advantages to the business of this system?

• Reduction of stock levels Think about the advantages/

• Increase in working disadvantages:
capital. Why? • to the business
• No unsold goods • to the customer
• Matches demand
• to the employees
• Should lead to higher
quality
 J I T Manufacturing
Remember: JIT manufacturing is not an appropriate method for
all manufactured goods or workforces. Think about the factors
which have to be in place for it to be successful

Will the
workforce and
managers
What if there accept the
is a sudden Can we afford not to
cultural change?
change in buy in bulk?
demand?

Can we rely on
Can we afford
our suppliers
the investment
to make
in technology?
regular
deliveries?

Exit
 Cell Production
This method of production reorganises the work area into separate
‘cells’ or areas where similar types of work take place before the
‘product family’ is moved to the next ‘cell’

A ‘product family’ is a group of products which requires a

sequence of similar operations e.g kitchen cabinets

Each cell decides and controls the work schedule.

START WS1 WS2 WS3 Using the diagram

devise a cell system for
WS4
the making of kitchen
cabinets
WS7 WS6 WS5
END
 Time Based Management
The aim of this type of management is to eliminate a certain type of
waste i.e. TIME
How do businesses achieve this?
Work study Make ‘families of
JIT Cell Production products’

Cut lead
times
‘TIME IS MONEY’
TQM
Shorten
production
Up to Date
Lean Design runs
Technology
Lean design is an approach which attempts to carry out a number of design tasks
simultaneously in order to save time. This done using project teams of specialists
who can identify potential problems and solve them before time is wasted
 How does Lean Production work?

• The company examines everything it produces and every

process and finds ways of improving it (Kaizen)

• Makes maximum use of new technology (capital intensive)

• The company attempts to keep everything to a minimum

(stock – JIT) (waste – TQM) (time – time based
management)
 Evaluation
 Any evaluation must be made in the context of the
business describe in a case study or exam question
 Remember no new strategy such as lean production, lean
design, J I T or time based management suits all
businesses
 Any evaluation must look at to what extent a new
strategy such as lean production can contribute to the
overall success in the business and the stakeholders
 Any evaluation must look at the relative importance of factors in the
decision. A business has to prioritise in order to make a strategic
decision
 A business must continually review its production, stock and quality
systems if it is to maintain its competitive edge in the market

NO BUSINESS CAN STAND STILL!!

Exit
 Capacity Utilisation
• Capacity utilisation looks at how much of the production capacity of the
business is being used. It is a measure of efficiency and a key factor is a
business wants to expand.
x 100
• This formula compares actual output with the potential output at full
capacity.
• You can increase capacity by:
• Changing shift patterns
• Use overtime or employ temporary staff
• Expand the business
• Invest in more capital equipment
 Kanban
• Kanban is where products are finished in response to customer orders. This
is a system of cards where each box of components has a Kanban card
which will carry out instructions to move within the production process.
• In many businesses Kanban is part of a sophisticated electronic system
which needs to be carefully organised with suppliers
Chapter 11
Stock Control
 Keywords

• Stock Control – The process in which the business ensures that stocks of
inputs are adequate to meet production requirements, and that the stocks of
the finished product are readily available to meet customer demand.
• Buffer Stocks – Stock that is kept as a back-up to ensure the business never
runs out completely of inputs or finished stock.
• Just-in-time (JIT) – Keeps the cost of holding stocks to a minimum by planning
production so that raw materials, components and work in progress are
delivered just as they are required.
 What is Stock?
• Stock has different meanings in business it could be:
• Raw materials – Used in the production process
• Work-in-progress – Products in the process of being made
• Spares – Kept incase of capital machinery breaks down
• Finished products – Final goods ready to be sold or delivered

• A business must get the stock right - if they hold too much they risk higher
storage and insurance costs, cash flow problems and increased obsolescence
(waste).
• However, If they don’t hold enough stock then they may not be able to meet the
demand of customers so they will go to a competitor who has the good in stock
(E.g. A kettle in Currys is out of stock, customers buys at Argos instead).
 Managing Stock
There are a number of ways that a business can use to manage their stock more
efficiently:
EPOS Waste Management Stock Control Charts
• Electronic Point of Sale • Selling old stock on offer, its • Traditional method that can
• A database that is kept better to get less profit on an be integrated from an EPOS
up-to-date by using item then let it go to waste system
barcodes and scanners • Put new stock at the back (E.g. In • However it is based upon
• It is common in retail and a supermarket put bottles of milk assumptions that Deliveries
generally straight forward at the back so customers by the are on-time and stock is at a
sooner BBD. constant rate
 Stock Control Chart

• Maximum Stock – The most stock the business can

Maximum Stock
hold
•

Stock Level (Units)

Reorder Level – The level at which the business
should reorder Reorder Level

• Minimum Stock – The point at which more stock is

delivered Minimum Stock
• Buffer Stock – Backup stock in case lead time is Lead
longer or demand is higher than expected Time
Buffer Stock
• Lead Time – The time it takes for stock to arrive
from ordering Time (Weeks)
 Just-in-time (JIT)
• JIT stock control provides material, components and accessories
immediately prior to when they are needed. The system doesn’t use buffer
stocks at all, or if it does reduces them.
• This system allows businesses to have smaller storage areas meaning
cheaper to hold and the chance of stock being stolen or going obsolete is
reduced. Also fewer people would be needed to manage the stock.
• To make JIT effective the business needs a good supplier relationship to
ensure stock arrives on time and is correct and the IT system, if used, needs
to be closely adapted to work with the system.
• If they order in smaller quantities more frequently, then they wont get bulk
discounts.
 Economies of Scale
• This is when each unit made is cheaper the more that is produced
• For example, in a printing company the prices may look like this:
• 100 Prints = £200 (I.e. £2.00 per print)
• 200 Prints = £300 (I.e. £1.50 per print)
• 300 Prints = £400 (I.e. £1.30 per print)

• The more prints ordered, the cheaper it is per print

• The business wont loose out because the initial cost of the print design and plate
only has to be paid off once, then they can still make a profit but pay off the
variables for ink and material per print
Chapter 12
Quality Control
 Keywords
• Quality Control – ways of ensuring that quality is maintained,
traditionally by checking for defects after the product has been made.
• Quality Assurance – Takes into account customer needs and involves
examining every aspect of design, development, production and
marketing.
• Total Quality Management (TQM) – Where each member of staff is
responsible for quality.
• Quality Circle – A small group of employees in the same department who
meet regularly to discuss production problems.
• Kaizen – A Japanese term for continuous improvement overtime.
• ISO-9000 – A worldwide recognised quality certificate.
 Quality
• Quality can be defined as the minimum standard that a product or service can
be
• There is generally a trade-off between Quality and Price because the better
quality materials and capital used, the more expensive it is to make therefore
the Price would have to be increased
• Quality can be monitored by Quality Circles. This is when a group of staff who
have good insight and perspective into the production process meet up and
discuss production
• After the meeting, the feedback is given to the management team who can
improve the production process and set targets
• The disadvantage is that it costs time and money to implement

• When the management want to implement improvements to quality or

productivity, they can use the Kaizen method which is when they introduce
production slowly over time to make it less overwhelming to staff
 Quality Control
• Quality Control is where the product or service is checked for defects at
the end of production –
• It could be a chocolate bar checked by staff to ensure it aesthetically correct and
scanned to ensure it doesn’t contain foreign bodies
• It could be where the customer is asked to complete a survey about the service of a
Satellite Dish being installed

• There are disadvantages such as –

• The source of a problem may be difficult to find
• Once the product has a defect the whole unit, possibly batch, will have to be
restarted
• A Unit from each batch have to be taken away to sample by other staff

Thornton's sell mis-shapen chocolates in cheap bags

 Quality Assurance
• Qualityassurance involves having a well publicised system that
documents the processes to ensure quality is achieved
• The quality is collaborated by all departments, from the design process
to the final product
• They will work together to achieve reliability and quality
• ISO 9000 is an international procedure providing certificates that are
designed to ensure that a quality assurance system is in place
 Total Quality Management (TQM)
• TQM is a form of Quality Assurance where every employee is responsible
for quality to minimise waste
• This culture has to come from the top levels of the hierarchy so that staff
feel its necessary, the management team will have to trust staff and give
them the responsibility
• This isn't appropriate for small or service businesses
Positives Negatives
Generates better quality products and the business There are costs of implementing it – E.g. Training
can adapt a zero-defect attitude
Customers will be more satisfied and make repeat If 1 person fails to stick to TQM, it can put everyone
purchases which will increase revenue else out of place
It will reduce waste which reduces costs Expectations of staff may be too high
 Topic 5
External Influences
 Chapter 13
Economic Influences
 Key Terms
• Economic Cycle – is the sequence of depression, recovery, boom and recession
which creates fluctuations in demand for products.
• Gross Domestic Product (GDP) – is a measure in the size of economy and gives
the money value of all output. Its used as a measure of national income and total
expenditure.
• Economic Growth – means an increase in the total output of the economy. If it is
rising, the standard of living should improve & business will see rising demand.
• Unemployment – occurs when there are people who want to work but cannot
find a job.
• Inflation – is a sustained rise in the general level of prices of goods and services. It
can be measured using the Consumer price index or Retail price index.
• Government Expenditure – is the amount of money that the government spend
on public services such as the NHS and Benefits.
• Exchange Rates – is comparing one currency in exchange for another.
 Economic Cycle & Recessions
• Recessions can be caused by many factors, such as in 1974 and 1980 there were hugs oil price increases
so people had to pay more for fuel so had less to spend on luxuries, and businesses that use oil as a raw
material found it difficult and would have had to increase the price to match their new costs.
• Economic Cycle effects:

Depression Recovery Boom Recession

Unemployment High Falling Low Rising
Inflation Low Stable Rising Falling
Confidence Very Low Rising High Falling
Investment Very Low Rising Rising Falling
 Inflation
• In a booming economy, demand is growing fast but business can still put
their prices up to sell their products
• In a recession, businesses are competing so they are more likely to keep
prices the same or cut them
• Inflation automatically increases in a boom and slows in a recession.
• When commodity, oil and VAT prices increase this can also effect inflation

Effects on a business Effects on a consumer

Makes the future more uncertain for a Can make the consumer less confident so
business which is a risk they spend less
Its harder to estimate the likely future Buy less luxuries and stick to essentials
demand for a product like Bread, Milk etc.
Costs will increase Wages will decrease
 Globalisation, Imports & Exports

• Globalisation is the way in which all the worlds economies have become
more closely integrated. There is more foreign investment and trade.
• Imports are products or materials brought in from other countries.
• Exports are products or materials sold to other countries.
• When import prices rise, inflation rises because many of the products we
buy are imported.
 Exchange Rates
• Exchange rates is the price of one currency expressed in terms of another (such as
£/$)
• If the value of the £ Appreciates (increases)  Imports will be cheaper
• If the value of the £ Appreciates (increases)  Exports will be more expensive
• If the value of the £ Depreciates (decreases)  Imports will be more expensive
• If the value of the £ Depreciates (decreases)  Exports will be cheaper
Putting it into practice:
• Converting Currency = The amount you want to exchange x The Exchange rate
• E.g. £100 into $Dollars = £100.00 x 1.64 = $164.00
• E.g. £185 into €uros = £185.00 x 1.20 = €222.00
• You'll be given the exchange rate in the question!
Strong
Pound
Imports
Cheap
Exports
Dear
Select from the list below which would benefit from a strong pound and which it
would be detrimental to;
a) Toyota wanting to set up a factory in the UK a) Detrimen
b) British Airways wishing to takeover Qantas tal
c) Land Rover selling cars in the UK b) Benefit
d) Jaguar’s exports to the USA
c) Detrimen
e) A French water company wishing to buy shares in Severn Trent
tal
f) Raleigh bikes who imports its components from abroad
d) Detrimen
tal
e) Detrimen
tal
f) Benefit
 Unemployment
• Unemployment is when people are willing and able to work but haven't got a
job.
• This can be caused by changes in the economic cycle, redundancy, transition
between jobs or season.
• Positives & Negatives on a business:

Positives Negatives
More people looking for work People have less money to spend
More choice in recruitment Demand and Confidence will fall
May be able to pay lower wages Retained profits may be lost is the
business makes posses
 Public Spending

• The public sector are the governments own employees, civil servants, council office staff,
NHS employees, teachers, the armed forces etc.
• Government Expenditure is the amount of money that the government spend on public
services such as the NHS and Benefits.
• When government cuts their expenditure, there is normally job losses and redundancies so
they will spend less so many businesses will see falling sales revenue putting their profits at
risk.
• When businesses make a loss and close, there are even more job losses which means more
unemployment and everyone will feel less confident about the future.
 Tax

• Tax revenue is vital to pay for services. When unemployment is low and incomes are
growing, tax revenue will be growing too.
• Borrowing money can fund investments and expansion into public services such as
the NHS.
• When the economy grows more slowly and recession is looming, any past surplus
and borrowing can make it possible to keep employment and incomes from falling.
• When taxes are increased to pay for higher spending, the economy changes but
doesn’t shrink unless they are increased to reduce government losses.
 VAT
• Value added tax is the tax added to the price of goods and
services.
• In 2011 VAT increased from 17.5% to 20.0%
• No VAT is paid on food, public transport or children's clothing
and there is a reduced rate to 5.0% for utilities like gas &
electricity (Exemptions)
 VAT Continued
• If VAT increases, businesses will increase prices to cover the tax except a few
who will keep the prices the same to stay competitive
 Interest Rates

• Interest rates are the cost of borrowing money

• The bank of England tries to keep inflation under control by changing
interest rates.
• When the BOE adjusts their interest rates, banks adjust theirs by a similar
rate.
• If the rate goes up, business loans, mortgages and personal loans become
more expensive (You will pay more interest).
Chapter 14
Legislation
 Keywords

• Consumer Protection – A set of laws that ,make businesses accountable to

their customers.
• Regulators – Independent bodies set up by the government for industries
that have previously been nationalised and had some monopoly power.
• Office of Fair Trading (OFT) – An organisation that investigates complaints
made by consumers about unfair competition, consumer protection & trade
description.
 Consumer Protection Acts
• Sale of goods Act 1994 – The law requires that products must be of
satisfactory quality, fir for purpose and as described.
• The Trade Descriptions Act 1968 – The law requires that products are
correctly descripted and not portrayed that it does things it cant.
• The Companies Act 1998 – This law requires that businesses must not
fix prices, bid for contracts, Limit production to reduce competition,
charge different prices for different customers.
• Sometimes this doesn’t apply – E.g. Child Ticket half the price of an Adult ticket.

Click here to download the companion flyer for easy revision & more detai
led examples of each Act plus information about the OFT!
 Regulators
• Regulators are independent bodies that are set-up by the government
for industries that have considerable market power.
• There is a regulation body for every industry that cant easily be replaced
by another organisation:
• OFGEM—The office of Gas & Electricity Markets
• OFCOM—The office of Communication Markets
• OFWAT—The office of Water Suppliers.
 The Office of Fair raiding (OFT)
• The Office of Fair Trading oversees UK policies and investigate claims
regarding Consumer Protection & Trade Description.
• Any consumer who feels that they have a genuine claim against a
business can go to the OFT where they will investigate into the claim and
come to a conclusion, sometimes suing them for money.
• The OFT can take an investigation further that a business complaints
department as they can be bias towards the company.

Click here to download the companion flyer for easy revision & more detai
led examples of each Act plus information about the OFT!
 There are predictions that the
economy may be heading in to a
recession.
• Cut back on
investment
• Particularly affect
luxury goods
manufacturers/retailer
s
• Scale back production
 Exchange rates are fluctuating

• Fluctuating exchange rates causes the

price of imported and exported goods
to fluctuate – this makes predicting
demand and signing long term
contracts vey difficult.

• Firms will not know how much to invest

as they can not predicted sales. This
may deter investment.

• Firms who export price elastic goods

will find the most difficulties.
There are rumours that interest
rates will rise
• Firms will expect a
recessionary effect
• Cut back on investment
• Particularly affect luxury
goods
manufacturers/retailers
• Scale back production
• Take out less loans – the
loans they do take out the
might fix
• Discourage new businesses
starting up.
 Uncertainty over Inflation
• Inflation causes uncertainty.
Rising prices will cause a
businesses’ costs to rise.
• Firms may find it difficult to
forecast their future prices and
hence future sales
• They may expect the Bank of
England to respond with an
increase in interest rates that will
have a recessionary affect – firms
may therefore be reluctant to
invest.
• It will be difficult to sign long
term contracts.
 Good Luck!

What next?

Do as many exam questions as you can and get them marked

by your teacher!