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2.3 How do businesses survive?1 BUSINESS MANAGEMENT 2.3 How do Businesses Survive?

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Presentation on theme: "2.3 How do businesses survive?1 BUSINESS MANAGEMENT 2.3 How do Businesses Survive?"— Presentation transcript:

1 2.3 How do businesses survive?1 BUSINESS MANAGEMENT 2.3 How do Businesses Survive?

2 2.3 How do businesses survive?2 In this unit you will learn … About the need to plan What is a saleable product What are costs What is break-even analysis Why is Cash Flow important What are Final Accounts What are ratios and percentages used for Why is Market Research important How to make comparisons between years or businesses

3 2.3 How do businesses survive?3 The Need to Plan! All organisations should have goals or objectives so that they know what they are aiming for. Suggest objectives for the following organisations … Oban High School Oban Saints Oxfam Tesco Oban High School Oban Saints Tesco Oban High School Oban Saints Oxfam Tesco Oban High School Oban Saints

4 2.3 How do businesses survive?4 The Need to Plan! Business organisations must prepare a business plan/forward plan (set objectives) to ensure that they: Meet customer needs and wants Manage costs effectively Stay competitive

5 2.3 How do businesses survive?5 Types of Decisions to be Made product or service? how many to make? how many workers? when will I make a profit? what price? new product? size of product? how much will it cost? what materials?

6 2.3 How do businesses survive?6 Saleable Products/Services Saleable products must… be of suitable quality in the quantities required at a suitable price available to the correct consumer market which consumers want to buy

7 2.3 How do businesses survive?7 Covering Costs! ALL types of organisation, whether they exist to make a profit or not, must consider COSTS! What costs would be involved in running these organisations? Oxfam Tesco Oban High School Oban Saints

8 2.3 How do businesses survive?8 Example of Costs Fraser decides to make a jar of jam Fruit £0.50 Sugar £0.20 Mum’s gas £0.10 Jar and cover £0.05 Q: What is the lowest price Fraser could charge in order to cover his costs? A: £0.85 Q: If Fraser charged £1.00 for the jar of jam, how much profit would he make? Answer: £1.00 -£0.85 £0.15

9 2.3 How do businesses survive?9 Another Example Fraser goes into mass production of jam Sales Income £15,000 Fruit £7,000 Sugar £3,000 Jars and covers £300 Light and heat £500 Staff wages £2000 Rent of factory £1,000 Insurance £200 Fraser will prepare a profit and loss account to calculate his profit from making jam

10 2.3 How do businesses survive?10 From the Profit and Loss Account, answer the following questions … 1.What are the total costs? 2.What is Fraser’s income? 3.Jam sells at £1 per jar. How many jars were sold? 4.How could Fraser increase his profit?

11 2.3 How do businesses survive?11 1.What are the total costs? 2.What is Fraser’s income? £15,000 3.Jam sells at £1 per jar. How many jars were sold? £15,000/£1 = 15,000 jars 4.How could Fraser increase his profit? Increase price of jam eg to £1.50 Reduce costs

12 2.3 How do businesses survive?12 Important points about Costs! Profit is the amount made after costs are paid. Businesses must cover costs or they will make a loss Some new businesses will aim to only cover costs or break-even (ie not make a profit or a loss) in the first few years - to get established Forecasting income and costs allows businesses to make decisions and plans eg – get a loan or overdraft in a month where income is low.

13 2.3 How do businesses survive?13 Click for video

14 What is a Budget? A plan that a business prepares for the year ahead. It is based on the objectives of the business and provided targets for the employees to achieve.

15 Why Prepare a Budget? Greater control over the future of the business – gives targets and reduces RISKS Weaknesses or difficulties can be anticipated before they happen Less uncertainty and fear about future Decisions can be made eg to purchase asset?

16 What does a Cash Budget look like? Can you see any possible problems? Closing Balance Van 300 Wages 1100 Heat and Light 2000 Rent Purchases Payments Sales Receipts Opening Bal MarchFebruaryJanuary CASH BUDGET FOR FIONA’S FLOWER SHOP

17 What could Fiona do about the February cash flow problem? Arrange a bank loan Arrange an overdraft - when there is a negative balance in the bank account. Buy the van on Hire Purchase Try to increase sales Find a cheaper supplier

18 Using a Spreadsheet for Budgets Can perform calculations (formula) Can run scenarios (what ifs?) Can display results on charts

19 Importance of Planning and Control Businesses must cover costs or they will make a loss Some new businesses will aim to only cover costs or break-even (ie not make a loss) in the first few years - to get established Profit is the amount made after costs are paid. Forecasting income and costs allows businesses to make decisions and plans eg – get a loan or overdraft in a month where income is low.

20 Types of Costs Fixed Costs are those costs which stay the same irrespective of how much you sell or produce (eg rent for premises, insurance premiums) Variable Costs are those costs which increase directly as sales or production increases (eg power to machines, some wages [where workers are paid according to how much they produce])

21 Costs & Revenues (£) Quantity Sales Revenue Fixed Costs Total Costs Break-even point G/C Value of Sales and Costs No of Items Sold

22 Costs & Revenues (£) Quantity Break-even point For an explanation of the shaded areas see next slide G/C Area of loss Area of Profit BREAK-EVEN CHART

23 The green shaded area (to the left of BEP) shows the losses made at the appropriate levels of sales since Total Cost is greater the Sales Revenue. The blue shaded area (to the right of BEP) shows the profits made at the appropriate levels of sales since Sales Revenue is greater the Total Cost. Therefore the BE chart allows you to calculate whether a profit or loss will be made at any level of sales. G/C

24 Fixed or Variable? Rent Chocolate Staff wages Packaging Icing sugar Coffee Electricity Ribbons Flour Advertising material Insurance Lolly sticks Ice cream Tea Milk Website designer

25 TRADING AND PROFIT & LOSS ACCOUNT TRADING ACCOUNT Gross Profit = difference between money from selling goods and cost of buying or making these goods PROFIT & LOSS ACC Net Profit = gross profit less expenses (overheads), eg wages, rent, lighting C

26 Trading and Profit & Loss Account C FRASER’S TRADING, PROFIT AND LOSS ACCOUNT 5000 NET PROFIT Rent 50 Insurance 600 Wages 300Light and Heat Less Expenses 6000 GROSS PROFIT 4000Cost of Sales 1200Less Closing Stock Add Purchases 1000 Opening Stock Less Cost of Sales Sales £ £ TRADING ACCOUNT – everything related to sale of goods and services PROFIT AND LOSS ACCOUNT – for all expenses other than goods and services

27 BALANCE SHEET Shows the VALUE of the business on a particular date C ASSETS LIABILITIES and CAPITAL =

28 FIXED ASSETS – last longer than a year CURRENT ASSETS – last less than a year CURRENT LIABILITIES – to be repaid in less than a year CAPITAL – the owner’s share of the business LONG TERM LIABILITY – repaid over more than a year

29 What are ratios? Ratios are calculated from final accounts –Trading, profit and loss account –Balance sheet Comparison between years Comparison between organisations How well has the company done Has the business improved or not?

30 Trading, Profit and Loss Account Ratios Gross Profit % Ratio Gross Profit Sales Yr 1 = 60% Yr 2 = 45% A higher percentage is GOOD! A lower percentage is BAD! X 100 Calculating this ratio helps to check: the price paid for raw materials wastage or damage to stock

31 Trading, Profit and Loss Account Ratios Net Profit % Ratio Net Profit Sales Yr 1 = 28% Yr 2 = 36% A higher percentage is GOOD! A lower percentage is BAD! X 100 The Net Profit percentage helps to monitor the amount a business spends on expenses

32 Rate of Stock Turnover Cost of Sales Average Stock (Opening+Closing Stock/2) It is important that a business does not buy too much stock. A rate of 1.3 times means that stock has changed only once in a year! Rate of turnover depends on product. A fishmonger will have a rate of 300 times a year! Trading, Profit and Loss Account Ratios

33 Balance Sheet Ratios Working Capital Ratio Measures how easily short-terms debts can be paid off Current Assets : Current Liabilities 2 : 1Good 1 : 2Bad Liquidity indicates whether a business has sufficient cash assets to meet its debts. Any business with insufficient assets to cover its debts will fall into financial difficulty.

34 Balance Sheet Ratios Acid Test Ratio oStock is least liquid asset oRatio should be greater than 1 Current Assets - Stock : Current Liabilities 1.2:1Good 1:2Bad Liquidity indicates whether a business has sufficient cash assets to meet its debts. Any business with insufficient assets to cover its debts will fall into financial difficulty.

35 Balance Sheet Ratios Return on Capital Employed (ROCE) Net Profit Capital Employed X 100 If the return is the same as or lower than that to be earned from a safe investment (eg saving in the Bank or Building Society) then the Sole Trader will have to decide whether it is worthwhile for him/her to continue in business.

36 Ratio Summary Properly used, ratios can tell interested parties about 3 main areas of a business’s finances: Profitability – Gross Profit %, Net Profit %, Return on Capital Employed Liquidity – Working Capital Ratio, Acid Test Efficiency – Rate of Stock Turnover

37 Find out what is happening in the market at the moment Help predict the future – for product development Find out why sales have fallen Investigate if there is a market for a product/service Market Research Reasons for Market Research C

38 Sampling – may not reflect nations views People’s behaviour not always predictable Wording of the questions – leading? Attitude and personality of the interviewers? Market Research Problems with Market Research C

39 Use of Ratios Compare between 2 years – can see if company has improved, has new idea worked, etc. Compare between companies - you can compare 2 similar companies to see if one is better managed, better resources, etc. Compare against expected (forecast) performance C

40 SUMMARY OF RATIOS PROFITABILITY - return on capital employed gross profit percentage net profit percentage LIQUIDITY - working capital ratio acid test ratio EFFICIENCY - rate of stock turnover C

41 On the sheet provided, calculate Fraser’s Gross Profit percentage for years 1 and 2 and comment Net Profit percentage for years 1 and 2 and comment Rate of Stock Turnover for years 1 and 2 and comment

42 Comment: Fraser’s Gross Profit percentage has decreased which means that he is less profitable in buying and selling. This could be because the cost of buying stock has increased. He may have to look for cheaper suppliers or increase the selling price of his goods.

43 Comment: Fraser’s Net Profit percentage has decreased which means that his expenses are relatively more expensive this year. He should consider changing his electricity supplier as the cost of light and heat has doubled.

44 Comment The average stock has remained the same, however the rate of turnover has increased which proves that Fraser has been selling stock efficiently – he is moving stock more often.

45 Comparing Businesses Comment on Futura’s Gross Profit Percentage and Stock Turnover in comparison with the other 3 businesses. Rate of

46 BALANCE SHEET RATIOS RatioCoy A Coy B Comment Working Capital Ratio 2:15:1Business A has ideal ratio whereas B is probably keeping too much stock Acid Test Ratio 1:10.5:1Business A has ideal ratio whereas B could be in trouble if creditors demanded payment Return on Capital Employed 15%5%A is getting a good return. B should consider if the effort of running the business is worth the effort. Possible to earn a similar rate of return by investing in a high interest account

47 You Need to Know… Why businesses plan What is a saleable product What are costs What is break-even analysis Why is Cash Flow important What are Final Accounts used for Why do businesses calculate ratios and percentages What role does Market Research play in planning How to make comparisons between 2 years or 2 businesses


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