Finance for Business Overview

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Questions and Answers

What is the primary function of the balance sheet?

To analyze a business's revenue and expenses.

To show the profitability of a business over a specific period.

To track the flow of cash in and out of a business.

To provide a snapshot of a business's financial position at a given time. (correct)

Which of the following is NOT a component of the balance sheet equation?

Assets

Profit (correct)

Equity

Liabilities

What is the difference between current assets and non-current assets?

Current assets are owned by the business, while non-current assets are borrowed from others.

Current assets are used for short-term operations, while non-current assets are for long-term use. (correct)

Current assets are liabilities, while non-current assets are equities.

Current assets are investments, while non-current assets are tangible possessions.

Which of the following is an example of a non-current liability?

Bank loans (B) Signup and view all the answers

What is a disadvantage of using the balance sheet to analyze financial position?

It does not reflect changes in the value of assets over time. (B) Signup and view all the answers

How can stakeholders benefit from the information provided in the balance sheet?

By assessing the company's ability to repay its debts. (B) Signup and view all the answers

Which of the following is NOT a reason why the balance sheet is considered a useful tool for decision-making?

It provides a clear view of the company's cash flow. (C) Signup and view all the answers

Which of the following is an example of a non-current asset?

Buildings (C) Signup and view all the answers

What is the primary reason for needing short-term finance in a business?

To cover day-to-day operational expenses (A) Signup and view all the answers

Which of the following factors is NOT directly influencing the choice of a source of finance?

Personal relationships with lenders (A) Signup and view all the answers

What does the 'Gold rule' suggest regarding finance?

Match the type of finance to the type of asset being financed (D) Signup and view all the answers

What does high gearing indicate about a company's financial status?

The company's loans exceed its share capital (B) Signup and view all the answers

What is a possible effect of agriculture's inefficiencies on resource allocation?

Greater dependency on government subsidies (B) Signup and view all the answers

What is the primary purpose of the profit and loss statement?

To establish whether a business has made a profit or loss (A) Signup and view all the answers

Which part of the profit and loss statement indicates the gross profit?

Trading account (B) Signup and view all the answers

What does retained profit represent in the appropriation account?

Profit after dividends have been paid to shareholders (A) Signup and view all the answers

Which of the following is NOT a disadvantage of the profit and loss statement?

It provides insights into cash flow management (D) Signup and view all the answers

What is the formula for calculating profit before interest and tax?

Gross profit minus expenses (D) Signup and view all the answers

What factor do financiers typically consider when assessing a company's financial health?

The company's credit standing (A) Signup and view all the answers

How is the cost of sales calculated?

Opening stock plus purchases minus closing stock (C) Signup and view all the answers

What role does a code of ethics play in accounting?

It provides a framework for ethical behavior among accountants (A) Signup and view all the answers

Why might the profit and loss statement be considered dynamic in nature?

It reflects flows of income and expenditure over time (C) Signup and view all the answers

Which stakeholder is most concerned with job opportunities and environmental practices of a company?

Local community (C) Signup and view all the answers

What are variable costs dependent on?

Number of goods or services produced (B) Signup and view all the answers

Which of the following is considered a direct cost?

Raw materials (B) Signup and view all the answers

Which type of cost is associated with overhead expenses?

Indirect costs (D) Signup and view all the answers

How is total revenue calculated?

Price per unit multiplied by the number of units sold (B) Signup and view all the answers

What is an example of an 'other revenue stream' for a business?

Interest earned on deposits (C) Signup and view all the answers

Which statement best describes absorption costing?

All costs are absorbed into production (B) Signup and view all the answers

Who are considered internal stakeholders?

Shareholders, managers, and employees (D) Signup and view all the answers

What is the primary purpose of final accounts?

To compile financial statements at the end of an accounting period (D) Signup and view all the answers

What do total costs consist of?

Fixed costs plus variable costs (B) Signup and view all the answers

Which of the following is NOT a common form of indirect costs?

Wages of production workers (D) Signup and view all the answers

What is one disadvantage of insisting that customers pay with cash only?

It may lead to losing customers who prefer credit payments. (B) Signup and view all the answers

Which of the following is a method for investment appraisal?

Payback period (D) Signup and view all the answers

What does the average rate of return (ARR) measure?

Annual net return as a percentage of capital cost. (D) Signup and view all the answers

What is a key advantage of the payback period method?

Easily calculated and understood. (D) Signup and view all the answers

Why do investors prefer to receive money today rather than in the future?

Money today can be reinvested and grow over time. (A) Signup and view all the answers

What risk is associated with sourcing cheaper suppliers?

Potential compromise on the quality of products. (C) Signup and view all the answers

What does debt factoring allow a business to do?

Recover a portion of funds while outsourcing collections. (A) Signup and view all the answers

Which of the following is a disadvantage of the average rate of return method?

Does not account for cash flow variations over time. (A) Signup and view all the answers

What major impact does inflation have on the time value of money?

It decreases purchasing power as prices rise. (D) Signup and view all the answers

Which financing method allows a business to sell an asset and lease it back?

Sales and leaseback (B) Signup and view all the answers

What does the term 'compromise on quality' refer to in business strategy?

Reducing standards to lower production expenses. (D) Signup and view all the answers

What does a higher payback period imply about an investment?

It requires a longer time to recoup the initial investment. (D) Signup and view all the answers

Which financing option often comes with additional costs, such as increased interest payments?

Bank overdraft (C) Signup and view all the answers

What advantage does improving cash flow offer to a business?

Facilitates easier management of operational expenses. (D) Signup and view all the answers

What is a key disadvantage of using personal savings as a source of finance for a business?

It poses a significant risk to the business owner, as they may invest their entire life savings. (D) Signup and view all the answers

What is the main characteristic of retained profit as a source of finance?

It is a long-term source of finance that is reinvested back into the business for growth. (C) Signup and view all the answers

Which of the following is NOT a characteristic of share capital as a source of finance?

It is a source of finance that is often used by small and medium-sized enterprises (SMEs). (C) Signup and view all the answers

What is the primary difference between fixed and variable interest rates on loan capital?

Fixed interest rates remain constant throughout the loan term, while variable interest rates fluctuate based on market conditions. (D) Signup and view all the answers

Which of the following is NOT a characteristic of an overdraft?

It is considered a short-term source of finance, typically used to cover temporary cash flow shortages. (D) Signup and view all the answers

What is the key advantage of trade credit as a source of finance?

It allows businesses to defer payments to suppliers, improving cash flow management. (D) Signup and view all the answers

Which statement BEST describes the concept of crowdfunding?

It involves a large number of investors contributing small amounts of money to a project or venture. (B) Signup and view all the answers

What is a key difference between leasing and buying an asset?

Leasing involves periodic payments for the use of an asset, while buying involves a single upfront payment. (A) Signup and view all the answers

Which one of the following is NOT a characteristic of microfinance providers?

They are primarily focused on providing loans to large corporations for expansion projects. (D) Signup and view all the answers

What is the primary role of a business angel in a startup?

To provide financial capital to startups in exchange for a share of ownership. (D) Signup and view all the answers

What is a key characteristic of venture capital as a source of finance?

It is a long-term investment strategy that requires a high level of risk tolerance from investors. (A) Signup and view all the answers

What is the primary objective of subsidies?

To provide financial assistance to businesses to reduce costs and encourage production. (C) Signup and view all the answers

Which of the following is NOT a characteristic of external sources of finance?

They provide a guaranteed return on investment for all investors. (A) Signup and view all the answers

In what way does leasing help a business?

It helps businesses avoid the risk and responsibility of owning assets by accessing the asset for a specified period. (B) Signup and view all the answers

The term 'authorized share capital' refers to:

The maximum amount of capital that shareholders intend to raise through the sale of shares. (C) Signup and view all the answers

Which of the following is NOT a characteristic of an entrepreneur who might seek funding from a business angel?

They are looking for a loan with low interest rates and long repayment terms. (C) Signup and view all the answers

Study Notes

Role of Finance for Business

Businesses need capital for various reasons, including starting up, expanding, daily operations (fuel, labor), owner compensation, and taxes.
Finance measures business performance through profits. Profit indicates if a business risks collapse due to insufficient funds for daily expenses.

Capital Expenditure and Revenue Expenditure

Business expenditures are categorized into capital and revenue expenditure.
Capital expenditure involves items used repeatedly over a year, mainly non-current assets (e.g., equipment). This is shown on the balance sheet.
Revenue expenditure covers daily operational costs consumed within a short timeframe, shown on the profit and loss statement.

Internal Sources of Finance

Personal Funds: Owners' savings used to finance the business.
Sale of Assets: Selling unused assets to raise capital. This includes land, buildings, and equipment.
Retained Profit: Reinvested profits not paid as dividends. A major source, particularly for smaller businesses.

External Sources of Finance

Funds Needed for Activities: Daily operations, startups, expansions, etc.
Personal Funds: The main source for sole traders seeking maximized control. Reflects personal commitment to the business.
Retained Profit: Within the company, easier access than external loans.
Sale of Assets: Selling assets not needed for business operations.
Share Capital: Funds raised by selling shares in a limited company. Shareholders receive dividends if profitable, and have a right to the profits.
Loan Capital: Money borrowed from financial institutions (e.g., banks). Interest is charged on the loan and installments are spread evenly until paid off.
Overdraft: A business can withdraw more money than what is currently in their account, interest is typically charged on the amount overdrawn.
Trade Credit: An agreement allowing businesses to pay at a later date.
Crowdfunding: A large number of individuals contribute small amounts to fund a business venture.
Leasing: Using an asset without purchasing it, typically with periodic payments. The lessee has the option to buy the asset at the end of the lease agreement.
Microfinance Providers: Institutions offering banking services to low-income or unemployed individuals, including loans and other banking services. This includes microcredit, microinsurance, savings, and current accounts.
Business Angles: Individuals who provide financial capital in return for equity in start-ups or small businesses with demonstrated growth potential.
Venture Capital: Risk capital funding early-stage or expanding small businesses with high profit potential, but typically challenging to access traditional funding.

Short and Long Term Finance

Match the type of finance to the asset being financed (short-term assets with short-term sources, etc.)
Be mindful of investor preferences.
Consider day-to-day operations and longer-term improvement needs.

Factors influencing Choice of Financing

Purpose of the funds
Cost
Status and size
Interest payments
Flexibility
Risk

Profit and Loss Account

Shows a business's profit or loss, before interest and tax, from a specified time period.
Involves subtracting expenses from sales revenue.

Balance Sheet

Presents a company's assets, liabilities, and equity at a specific point in time.
Assets = Liabilities + Equity

Cash Flow

Tracks the movement of cash inflows and outflows over a period.
Cash inflows: money coming into the company.
Cash outflows: money leaving the company.
Essential for measuring a company's ability to meet its obligations.

Liquidity Ratios

Current Ratio: Compares current assets to current liabilities, assesses short-term financial health.
Acid Test Ratio: A more stringent liquidity measure, excludes inventory from current assets to assess a company's ability to pay off immediate debts.

Efficiency Ratios

Stock Turnover Ratio: Measures how quickly stock is sold and replaced.
Debtor Days: Time taken to collect money owed to the business (accounts receivable).
Creditor Days: Measures the time within which the business pays its suppliers (accounts payable).

Limitations of Ratio Analysis

Single-ratio result is not sufficient, requires comparison with other businesses or previous periods.
Financial statements are created as of a particular date (not a measure of ongoing performance),
Results can be influenced by window-dressing manipulations (making the company look more profitable).

Insolvency and Bankruptcy

Insolvency: when a business cannot meet its debt obligations on time.
Bankruptcy: the legal process when a person or firm declares it cannot service its debts, and the firm's assets are liquidated to pay off creditors.

Cash Flow Forecasting

Predictive financial document estimating future cash inflows and outflows, often on a monthly basis.
Shows cash to meet obligations, enabling business planning.

The Value of Money

Investors prefer receiving money sooner.
Time value of money is impacted by: interest rates, time horizon.
Considering time value of money in making financial decisions is vital.

Compound Interest

Interest that is calculated not only on the initial principal, but also on the accumulated interest from previous periods. This causes the total growth to accelerate over time.

Discounting

Process of reducing (discounting) future values to present values with consideration of time value of money.
Essential for comparing investments of different time horizons.

Net Present Value (NPV)

NPV = Sum of Present Values of Future Cash Flows − Initial Investment
A financial method for evaluating projects, considering time-value of money, to determine whether the investment will be profitable.

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Description

Explore the crucial role of finance in business, including the importance of capital for operations, the distinction between capital and revenue expenditures, and various internal sources of finance. This quiz covers key concepts essential for understanding how finance impacts business performance and decision-making.