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Unit 5 - Finance Management - Coggle Diagram
Unit 5 - Finance Management
5.1 Sources of Finance
Expenditures
all business activities need funding in order to continue operations. It's important for the business to define the clear purpose of each expenditure
Capital Expenditures: money spent on items that will be used over and over again. (fixed assets)
Revenue Expenditure: spent on your daily activities. (liquid assets)
Types of Capital
Start-up capital: money injected into the company when it opens. It's your initial amount
Working Capital: money needed for everyday work, such as raw materials, running costs, wages
Internal Sources of Finance
Personal Funds: money that comes from the owner's own pocket
Retained profits: money that comes from the profits of the company as it undergoes its cycles
Sale of Assets: selling some of your fixed assets in order to turn them into liquid (liquidating)
External Sources of Capital
Loan capital: : borrowing money from a financial institution, like banks. This will, in turn, yield interest fees, which are stacked on top of the original amount
Share capital: selling part of the ownership of you company to another party
Time-based finance
Short term
Bank overdrafts: bank allows you to either withdraw more money than you have on your account.
Trade Credit: means you are delaying the payment of your purchases, which in essence becomes a source of finance
Debt Factoring: when you sell a good or service in trade credit, you are no receiving any money upfront and are creating a debtor
Long term
Loan capital: borrowing money from another institution
debentures: bonds sold to people by companies wishing to raise funds. meaning that for the duration of debentures, the company will pay the buyer a fixed interest fee
share capital: selling shares of your company in exchange for capital
Medium term
Hire purchase: you purchase a product and make a contract to make a fixed set of repayments over a period of time
Leasing: make the same fixed set of repayments to the seller. fees are smaller, since the asset does not belong to you
Special Sources of Finance
Grants: money given by the government in order to support a specific business practice or segment
venture capital: money given to companies not listed in the stock exchange.
business angels: from a wealthy entrepreneur who wishes to help other entrepreneurs start their business
Subsidies: money given by the government in order to support business activities in sectors that need help or of the public interest
5.2 Costs and Revenues
Costs: total expenditure incurred by a business in order to run its operations
Revenue: is the total money generated from the sale of its goods and services
Profit: is the difference between revenue and cost. This is what the company effectively gets after a full business cycle
Types of Costs
fixed costs: do not change with the amount of goods or services provided. These are expenses that have to be paid regardless of any business activity that the firm engages in.
Variable costs: change according to the number of goods or services produced. These are proportional to the nature and size of the business activity.
semi-variable costs: are an interesting mix of variable and fixed costs. They remain fixed for a given level of production or consumption, and if exceeded, they become variable.
direct costs: are identified directly with the production of specific goods and services.
Indirect costs: are not directly traceable to a cost center such as a product, activity or department.
Total Revenue
total amount of money a firm receives from its sales. It is calculated by multiplying the price per unit by the number of units sold: Total Revenue = price per unit x quantity sold
rental income: a business could receive income form rent it collects from property it has invested in. A seasonal business could also hire out its office
Sale of fixed assets: this could be from the sale of unused assets in a business
Interest on deposits: holding substantial amounts of cash in the bank can lead to a business earning good levels of accumulated interest on the money
Donations: these could be a cash gift made by an individual or organization targeting mostly charitable organizations
5.3 Break-even Analysis
Breaking even
means when a company achieves enough revenue to cover its costs. It is an essential measuring tool to gauge the spending of a company.
Contribution
is how much a unit or a batch generates in terms of revenue. determining how much a product contributes to its fixed costs and profits after deducting the variable costs.
Contribution per unit is calculated: contribution per unit = price per unit - variable cost per unit
Total contribution = total revenue - total variable cost
Profit calculated by: Profit = total contribution - total fixed costs
Break-even chart
a graphical solution that measures the value of a firm's costs and revenues against a given level of output.
break-even point
calculate how many units or what level of output it needs to sell to cover all its costs.
margin of safety
This is the difference between the current output minus the break-even output.
formula: margin of safety = current output - break-even output
Calculating the break-even quantity ways to calculate
Contribution per unit: break-even quantity = fixed costs/contribution per unit
TC=TR method: Total costs = Total Revenue
Profit or Loss
profit = total revenue - total costs
Target Profit
it's important to know how much you need to sell in order to reach a certain profit.
Target profit output
your total output needed in order to reach your goal.
formula: target profit output = fixed costs + target profit/contribution per unit
Break-even revenue formula
break-even revenue = fixed costs/contribution per unit x price per unit
Drawbacks of the break-even analysis
Assumes all output produced will be sold, with no chance of stock-up
Assumes pricing will remain the same, which might not happen due to discounts
Semi-variable costs are not shown. If they are shown, it will be much more complex
Not useful for changing or dynamic environments