2.

Sources of finance
These are how businesses get money to finance growth, to overcome working capital / cash flow
problems etc.
Choosing the right source of finance - Businesses need to consider a number of factors when deciding
what sources of finance to use:
External sources of finance are more expensive as you need to pay interest
To use retained profits you need to get agreement from shareholders
The source of finance chosen also depends on the time period and what you need the finance
for

Internal Finance: From inside the business e.g. directors - No time limit
Internal Sources - Retained Profit
Cheap and flexible
Technically profit is shareholders, so they need convincing its used effectively
Usually okay infrequently
Idea retained profit used to generate future profits and therefore used for purchase of fixed
assets
Opportunity cost needs to be assessed

Internal Sources - Control of working capital and cashflow

Working capital measures, the amount of money the business has to pay day-to-day expenses

Working capital = current assets – current liabilities

Businesses need to be aware of their working capital and ensure that they have enough cash to
survive
Stock and debtor control – arranging appropriate credit terms
Liquidity – need to manage assets to ensure that the business has sufficient liquidity (ease of
converting assets to cash)
Stock needs to be valued correctly
Need to ensure are not holding excess stocks or excess cash

Internal Sources - Sales of Assets

This can allow business to develop more profitable ventures
If in crisis can sell fixed assets but will lead to a decrease in profitability in long term
In principle the sale of these assets should allow a firm to increase its level of profit

Internal Sources - Sale and Leaseback

This allows the organisation to receive a cash payment – improving short term cash flow
But have to rent the asset which may reduce profit long term
If cash used to buy more profitable assets the cost of rental is covered
External sources - From outside the business

External Sources of Finance – Long Term Share Capital

Limited companies can issue shares
Shareholders receive dividends
Shares can be
o - Preference shares – fixed % dividend
o - Ordinary shares – risk capital / equity

Loan Capital
Providers of loans = creditors
Four main types of loan capital:
o - Debentures – long term loan to the business at an agreed fixed % of interest
repayable on a stated date. Up to 25 years.
o - Mortgages – used to purchase property. Up to 25 years Long term loans –
provided by specialist organisations
o - Government assistance – selective and takes form of grants generally

External Sources of Finance – Medium Term

Bank loans
Leasing
Hire purchase

External Sources of Finance – Short Term

Bank overdrafts – agreed limit, stated time period
Trade credit – suppliers allow time period before money is due
Debt factoring – business receives immediate payment for credit sales

2.2
Financial planning - Sales forecasting

Purpose of sales forecasting:

 -Right number of staff with correct skills

 -Marketing budgets
 -Profit forecasts and budgets
 -Production planning

Factors affecting sales forecasts:

 -Consumer trends (they can be short lived, making it difficult to forecast, they
can be affected by changing tastes, demographics and globalisation)

 -Economic Variables (for example change in real incomes, exchange rates, taxation
rise)

 -Actions of Competitors (the downturn of a key competitor may boost demand

significantly)
Issues with Sales Forecasting:

 -It is based off estimates

Sales, revenue and costs

Sales revenue is given by (Sales volume x Price). Sales revenue can be hard to calculate if a
business has different products and offers promotional prices.

Two ways to measure how much a business has sold are:

Sales volume and sales revenue
The cost of Production:

• Fixed Costs- costs which do not change with supply, includes rent
• VariableCosts- These costs change with supply, for example raw materials, fuel
Calculating - Total variable costs = variable cost per unit X no. of units produced
• TotalCosts- When the fixed and variable costs are added together
Break-even point= (Fixed Costs) / (Selling Price - variable costs per unit)
Contribution = (Selling price - Variable costs)
Total contribution can be used to calculate profit

Break-even Charts:
• It is a graphical representation of total costs against revenue. The point at which the lines
intersect is the break-even point
-The margin of safety is the amount which demand can fall before the company begins
making a loss

Impacts of changes in Price, output and cost:

• Price rise (revenue line will be steeper, the break-even point will fall)
• Rise/fall in demand (Has no impact on break-even point)
• Rise in variable costs (The total costs will rise, break-even point will rise)
• Fall in fixed costs (Total costs will fall, break-even point will fall)
Budgeting
Quick revise
A Budget is a forecast of costs and / or incomes

Costs and Incomes must relate to a particular purpose

Individual budgets must be based on a variety of different elements
Individual budgets are brought together into a master budget which is for the
organization as a whole

Purpose of Budgets

To plan - they help businesses control their finances as they plan expenditures over a
period of time
To control - help to ensure that businesses don’t spend more than they should

Problems with Budgets

Incorrect allocations
External factors
Poor communication
 These problems can be overcome by flexible budgeting
Some firms adopt zero budgeting to ensure allocations are not excessive

Advantages of Budgets

It indicates priorities

It provides direction and co-ordination
It assigns responsibility
It can act as a motivator
It should improve efficiency

Disadvantages of Budgets

Training requirements – staff need to be trained to set budgets and manage them
Allocation of funds – managers may find it hard to allocate funds fairly and, in the
businesses, best interests
Short term vs. Long term planning – budgets usually only look at an annual plan
therefore may fail to take a longer-term view

Zero Budgeting

This is where the budget is set at zero and budget holders have to bid for capital and
justify the reasons why
These can be good for new businesses / new ventures

Variance Analysis
Adverse (or unfavourable) variances - when actual performance is poorer than budgeted
performance
Favourable variances – where variance represents a better performance than planned
Identification of the cause of a variance can allow a company to:

Identify the responsibility

Take appropriate action

Sometimes a favourable and adverse variance may take, it is essential to therefore understand
the source of the adverse variance.
Business Liability

Unlimited Liability is where owners are liable for business debts, aka can have their personal assets
seized to clear the debt. Sole traders & Partnerships.

Limited Liability is where owners can only lose what they have invested in the business, due to the
process of incorporation. PLC & LTD.

Effects of liability on sources of finance

Sole traders and partnerships likely to rely on following sources:

-Owners capital
-Bank finance (loans and overdraft)
-Leasing
-Trade credit

Private and public limited companies can use:

-Share capital
-Bank finance (loans and overdraft)
-Angel or venture capital investment
-Peer to peer or crowdfunding
-Leasing
-Trade credit
Business Planning

Increases the likelihood of business success and is required in some finance applications such
as a bank loan. The business plan shows how the business will develop over time – vision for
the business and potential profitability.

A well written business plan will:

 Force owners take an objective, unemotional, critical overlook of the business idea
 Outlines a road map and development of the business
 An action plan which identifies critical tasks and set goals
 Flag potential problems
 Show the owner is cautious, responsible and credible – increase investor confidence

Contents of a business plan:

 Executive Summary: Business overview, describes business opportunity, marketing

and sales strategy, operations and finance
 Business Opportunity: Description of the product, price and quantity to be produced
 Buying and Production: Where resources will be supplied from, production method
to be used, cost of production.
 Financial Forecasts: Sales Forecasts, Cash-Flow forecast, profit-loss forecast and
break-even analysis
 The Business and its objectives: Name of the business, address, legal structure,
aims and objectives
 The Market: Size of the potential market, description of the potential customers,
nature of the competition, marketing priorities
 Personnel: Who will run the business, how many employees, skills and experience
of those who will work in the business
 Premises and Equipment: The premises to be used, equipment which needs to be
obtained and financed
 Finance: Where the finance to start up and run the business will be sourced
Cash-Flow Forecasting

A Forecast is a prediction of what may happen in the future

A cash Flow Forecast is therefore a prediction of the inflows and outflows of cash in the
future
Businesses use past figures and experiences to predict forecasts
A Cash Flow statement differs from a forecast. It details what has happened in the
business, i.e. the money that has flowed in and out of the business

Cash flow versus Profit

Cash flow is most important in the short term as it is the businesses ability to pay their
bills
Profit is more important in the long term
Businesses can be profitable and still experience cash flow problems

Creating a cash flow forecast

Opening balance
Total incomes
o Sale of goods
o Rental income
Total expenditures
o Materials
o Energy costs
o Wages
o Transport

Total incomes – total expenditures (outflows) = net cash flow

Opening balance + net cash flow = Closing balance
Closing balance is then carried forward as the opening balance for the next month
Uses of cash flow forecasts

To anticipate potential shortages of cash

To examine and possibly adjust the timings of receipts and payments, in order to avoid
problems
To arrange financial support where problems are forecast

Causes of cash flow problems

 Seasonal demand
Overtrading
Over-investment in fixed assets
Credit sales
Poor stock management
Unforeseen change

Types of cash flow problems

Long term structural problems

Cyclical features
Internal problems / inefficiencies
External changes
Working capital problems

Ways of improving cash flow

Improve planning
More thorough market research
Diversifying the product portfolio
Improved decision making
Contingency funds
Use of sources of finance to avoid short term working capital problems

Problems with cash flow forecasts

Inaccurate market research

Changing tastes
Competitors
Economic changes
Uncertainty

2.4
Production and Effeciency

Job Production- This is when a one-off item is produced such as a tailored suit

 + Can charge higher price,

 + work more interesting for staff
 Cost per unit is high,
 finding staff with sufficient skills hard

Batch Production- creating a small number of identical items

 Allows variation in product being made,

 speedier than job production
 Costlier to set up as machines,
  Cost p/unit still higher as machinery

Flow Production- The continuous production of the same item

 + Unit labour costs are extremely low,

 + Huge volumes allow demand to be met
 High initial costs as machines (automation),
 Need to be identical products to suit

Cell Production- Setting up a small production line so items can be flexibly produced

 + Group working more ideas,

 + small highly skilled cell
 Heavily reliant on people costs high,
 Production volume not as high as flow

Factors impacting productivity:

 Specialisation and Division of Labour

 Education and Training
 Motivation of Workers
 Working Practices
 Labour Flexibility
 Capital Productivity – Investment in new technology

Labour-Intensive Production - reliant on humans more labour forms a high % of total costs, but
adds value as needs met

Capital-Intensive Production - automation reliant (machines) high barriers to entry Fewer

costs, but initial costs high

Factors influencing Efficiency:

 Introducing standardisation
 Outsourcing
 Relocating – Lower rents and better transport links
 Downsizing – Reducing capacity which allows for a leaner more competitive production
system - - profitable business no longer subsiding unprofitable ones
 Delayering
 Investing in new technology

Lean Production: Introduced by Toyota and aims to reduce the resources used in all
aspects of production aka space used, materials, stock, suppliers, labour, capital and time.
 Raises Productivity
 Reduces costs and cuts lead times
 Reduces the number of defective products
 Improves reliability and speeds up product design
Kaizen: Continuous improvement. Small changes add up to long term impact which
benefits the business.

Just in Time Production (JIT): Involves minimising or eliminating the amount of stock held by a
business. It reduces all the costs associated with stock holding

2.5
Legislation

Consumer Protection: These laws are designed to protect customers from being misled. For
example:
 Sale of Goods Act (requires goods to be of the purpose advertised)
 Trade Description Act (the good must do what is advertised)

Employee Protection:

These laws protect employees from being exploited by businesses. For example:
 Minimum wage (means all workers are paid a decent wage)
 Right to a contract of employment (better job security)

Environmental Protection:
These laws protect the environment from damage by businesses. For example:
 Landfill Tax (heavily tax to discourage the use of landfills
 Environmental Protection Act (risk assessments to be carried out by companies)

Competition Policy:

The Competition and Markets Authority was established to launch investigations into cartels, takeovers
and anti-competitive practises such as
 Increased prices
 Restricted consumer choice
 Raise barriers to entry
 Market share – collusion – cartels
 Increases innovation
 Reduces business costs – grow to exploit economies of scales
 Increased efficiency
 Slow down mergers or takeovers which may lead to business delays
  May force sale of assets if mergers/takeovers lead to too great of held market share

2.5
Competitive Environment

Determinants of competitiveness: Not all markets are the same, different markets have
different market structures which are comprised of behaviour and characteristics of which are
listed below

 The number and relevant size of business in the market – Some large markets may
have a large amount of small firms which compete with each other such as farmers,
where the market share of each participant is fairly small. Some markets there maybe a
few large firms or a single large firm – monopoly such as British Gas before it was
nationalised
 The extent of barriers to entry – In some markets its easy for firms to setup and operate,
the barriers to entry for opening shops is quite low due to low costs and the amount of
knowledge required about the market is fairly low, however some markets such as the
drug industry patents and licenses may provide a barrier to entry for other firms, in
some markets the cost of starting are extremely large such as car manufacturing
 The extent to which products can be differentiated – Some markets goods are
homogeneous where standards are to be conformed to, this the case for raw materials
and commodities such as steel and gold where there’s limited variation between firms
for
the
 same goods. Some markets differentiation is as essential in branding where
differentiation is high the focus on non-price elements of the design mix are emphasised
 The knowledge that buyers and sellers possess – Perfect knowledge is where buyers
know where to buy the best products for the best price and supplies know how to
maximise production and efficiency which is the case for some markets. Some markets
on the other hand there is some markets with imperfect knowledge which can provide
some firms with a competitive advantage, where knowledge is imperfect business will
put greater emphasis on the non-price elements of the design mix.
 Degree of interrelationship- Some markets the behaviour, success and failure of other
firms has no effect on other market participants for example farming. Other markets
where there’s a decline in sales for one firm it can usually be attributed to an increase in
sales for another firm in that market
 Legal Factors- Monopolies – Cartels and Collusion may limit the competitiveness of
other firms in that market.

Impact on business of a competitive environment:

 Price – Competitive markets mean firms have limited control over prices and will often
be passed down from leaders. If a firm can differentiate their products enough, they
may have the ability to charge higher prices due to superior quality – Moncler Genius,
Burberry, Prada.
 Profit – The profit available in the market has to be shared across a great number of
participants. Profit margins are also likely to be squeezed, firms might be able to reduce
costs which may allow them to indulge in larger profit margins.
 Communication with Customers – Business will be under pressure to meet customer
needs in order to survive firms must successfully meet and adapt to the needs of the
consumers which will mean increased consumer communication and market research
for firms – Twitter, Reddit, Facebook.
 Innovation – Firms are forced to innovate in order to steal market share and survive in
the market, failure to innovate will likely lead to stagnating/falling sales in the market –
essential for branding that firms innovate to differentiate their products from consumers,
 Product range – Firms expanding their product range will likely force other participants
to do the same for example Magners Cider which lead to Carling and Stella opening
their own cider line
 Marketing – The greater the competition in the market the more which will need to be
invested into marketing and advertising and the methods of promotion will likely be
shaped by other market participants and their relevant success to such.

Competition and Market Size:

 Global Markets
o Largest markets – large potential for sales and profits
o Accessible due to the internet
o Large amounts of competition
o Have grown with the growth of globalisation and reduced barriers to trade
o Can allow for international branding and increased consumer confidence
o High amount of organisational and communication skills required
o Can exploit large scale Economies of Scale

 National Markets
o Confined to national borders
o Limited consumer base
o Usually extremely high competition – UK car market
 Regional Markets
o Can host monopoly – train services
o Able to more accurately meet needs and desires of consumers