Mock Paper 1 Revision
Payback Period
Time taken for project to repay initial investment
Usually measured in years and months
Focuses on cash flow and focuses on cumulative cash flow until the moment it reaches the amount invested for the project
If investment is 500,000, year 0 = -500,000
First year cash flow is 100,000. Year 1 = -400,000 and so-on
If payback goes from - to + then payback has been achieved
If payback is not achieved in year 3 but is + at the end of year 4, then payback was achieved somewhere in between.
Divide how much money is needed at the end of year 3 to reach payback by how much was mad in year 4.
If in year 3 you were still -75,000 and you made 150,000 in year 4, you would reach payback. 75,000 / 150,000 = 0.5. Payback = 3.5 years
Positives
Easy to calculate
Focuses on cash flow. Good for businesses with low available cash
Emphasises speed of return
Straightforward
Negatives
Ignores cash after payback, doesn't look at overall project return.
Encourages short-term thinking
No qualitative aspect
Does not create a decision
Price Elasticity of Demand
Triple Bottom Line
Break Even
Where both variable and fixed costs meet with income
Measures responsiveness of product demand to a change in price
Essential to an effective marketing strategy
Calculation
% change in quantity demanded / % change in price
Used to Predict
Effect of a price change on total revenue and expenditure
Price volatility in a market following supply changes
Effect of a change in an indirect tax (e.g. VAT, fuel) on price and quantity demanded. Can the company pass some or all of the tax onto a customer
Part of price discrimination (yield management). Charges different prices for the same product to different segments e.g. peak and off-peak train tickets
Values of PED
PED = 0: Inelastic. Demand does not change when price does
PED = 0-1 (e.g. 0.5): Inelastic. % change in demand is smaller than % change in price
PED = 1: Unit Elastic % change in demand is the exact same as % change in price.
PED > 1: Elastic. Demand responds proportionally to price change. 20% increase in food price may lead to a 30% drop in demand
Income Elasticity of Demand
Calculation
% change in demand / % change in income
Normal Goods
Normal Goods: Have a positive income elasticity of demand. As consumer income rises, more is demanded at each price.
Normal Necessities: Income elasticity of demand between 0 and +1. If income increases by 10% and demand for fresh fruit increases by 4%, income elasticity = +0.4. Demand is rising less than proportionally to income
Luxury Goods and Services: Income elasticity of demand of >+1 Demand rises more than proportionate change in income. 8% increase in income leads to 10% rise in demands for new kitchens. This would be +1.25
Inferior Goods
have negative income elasticity of demand meaning demand falls as income rises. Inferior goods exist where superior goods are available if the consumer has enough to buy it e.g. low-price own label supermarket food.
Strongly Positive For:
Fine wines and spirits, high quality chocolate, luxury holidays
Sports cars
Sport and leisure facilities (memberships and exclusive clubs)
Lower for:
Staple food products: bread, veg, frozen food
Mass transport (bus, rail)
Beer and takeaways
NEGATIVE for cigarettes and urban bus services
Fair Trade
Key Aims
Guarantee a higher / premium price to certified producers
Achieve greater price stability for growers
Improve production standards. A grower will be able to receive a Fair Trade license if it can imporve working conditions, better pay and a guarantee of environmental sustainability
Fairtrade premium price may be offered - for direct investment in improving business and communities. E.g. 2008 Tate & Lyle announced their sugar would be Fairtrade, benefitting 6000 sugar producers who would receive Fairtrade premium
Critics
Impact on non-participating farmers: Encouraging consumers to buy Fairtrade cuts demand for farmers in poorer nations without Fairtrade thereby risking worsening extreme poverty
Who captures the gains from Fairtrade coffee? Some evidence that a large part of the premium price goes to processors and distrbutors rather than the farmers
Argued that fundamental causes of poverty are not addressed. Greater invetsment needed in raising farm productivity therefore reaching multi-lateral trade agreements to reduce tariff imports and improve access for poor countries
Free market think-tanks believe that Fairtrade resulted in excess coffe production for example, which has driven down world coffee prices
Debt Factoring
A business sells its debts (receivables) on to a third party (factor) at a discount for quick cash. May also sell receivable assets to meet immediate cash needs
Advantages
Releases immediate cash. Money required from invoice received immediately
Saves time and resources. No need to spend time and resources on the task of invoice claiming and payment collection. Competition in factoring business is high so costs are not massive
Frees ongoing working capital. Businesses using factoring companies enjoy more flexibility. Direct access to invoiced funds make it possible to repay ban facilities and release previously pledged security
Brings peace of mind. Businesses won't have to worry about clients honouring their debts
Enables better customer management. Factroing company will credit check potential customers, lets businesses have a higher chance of trading with customers who will pay on time. Customers will respect the factors and will e more prone to pay quickly
Disadvantages
Loss of profit. Debt factoring comes at a price. A percentage of factored funds will be taken from the second transaction, resulting in a loss of profit
Loss of image control. Need to make sure factoring company is trustworthy. Some customers will wish to deal with business/provider directly. Businesses place their most valuable assets (client base) in outside hands. Brutal factors may affect their image
Debt factoring means debt. Not always defined as such, facotring means businesses owe funds to their factors. This is only paid when their customers pay. If a business wants to terminate their contract with a factoring company, they will have to pay off unpaid invoices by themselves.
Helps share the corporate social responsibility agenda.
What is it?
A concept that encourages the assessment of overall business performance based on three important areas: Profit, People and Planet. It measures success financially, socially and environmentally
Limitations to Traditional Performance Measures
General assumptions
Business are usually assumed to be profit maximisers
Profit is the traditional measure of business success
Profit is closely linked with business value (share price and market capitalisation)
Profit is often the basis for financial incentives (senior management bonuses)
More to Business Success than Profit
Profit
Familiar to managers
Identified from income statement
Audited = reliable figure
Planet
Measures the impact of business activity on the environment
More tangible - e.g. emissions, use of sustainable inputs
People
Measures extent to which business is socially responsible
Hardert to calculate & report reliability & consistently
Benefits
Encourages businesses not to think narrowly (profit)
Encourages CSR reporting
Supports measurement of environmental impact & extent of sustainability
Criticisms
Not useful as an overall measure of business performance
Hard to reliably and conistently measure People and Planet bottom-lines
No legal requirement to report it - so take-up has been poor
Innovation
Innovation is the practical application or a new invention into marketable products and services
The first bake created was an invention; the racing bike was innovation
Product Innovation
Launching new or improved products into the market
Process Innovation
Finding better or more efficient ways of producing existing products, or delivering existing services
Advantages
'First mover advantage: allows for...
Higher prices and profitability
Added value
Opportunity to build early customer loyalty
Enhanced reputation as an innovative company
Good PR (e.g. news coverage)
Increased market share
Advantages
Reduced costs
Improved quality
More responsive customer service
Greater flexibility
Higher profits
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Risks
Competition: Other companies will try and replicate
Availability of finance: Research and development competes for scarce cash, R&D demands high rate of return and investing can be costworthy
Uncertain commerical returns: No guarantee of future profits, product may fail