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Unit 5: Financial Information

IGCSE Business Studies revision

Why Businesses Need Finance

Firms need finance (or capital) for a range of reasons. These include:

  1. To start up - every firm needs to pay for the initial fixed costs
  2. To cover costs - materials, rent, wages, etc
  3. To expand - new operations at home or abroad, or upgrades to working capital may be neccessary
  4. To undertake research and development - to improve product quality and bring in greater sales.

Types of Capital

  • Fixed Capital - the amount of cash available for spending on fixed assets (land, vehicles etc)
  • Working Capital - the amount of cash available for the running of the business
  • Venture Capital - money injected by an entrpreneur interested in making a profit in return for shares

Types of Finance

Internal vs External Finance

An internal form of finance is one which is raised from within the company, whereas an external form of finance is one raised from outside the company.

Examples of internal finance:

  • Retained Profits
  • Employers Own Funds
  • Asset Selling

Examples of external finance:

  • Trade Credit
  • Venture Capital
  • Shares
  • Loans
  • Hire Purchase

You can read more about these in our revision notes (click on the store above)

Factors to consider when choosing finance

There are many things to consider when deciding where to get your company's capital from. These include:

  • Amount needed - how much is needed? Can you fund it yourself? Is it worth going to a bank?
  • Time - Do you want it immediately? Can you wait? Can you pay back quickly?
  • Legal Identity - Are you a PLC or a Sole Trader?
  • Size of firm - Do you have a lot of fixed assets? Will the bank give you a large loan?
  • Current state of finances - What are your profit margins? Will investors be attracted? Will banks be keen to loan to you?
  • Existing profits - Do you make enough money not to have to rely on others?

Ultimately companies must choose the option that suits their business best.

Cash Flow

Cash flow is the amount of money entering and leaving a firm in a given time frame. Cash flow forecasts predict how much money will be coming in and going out. Firms need cash to purchase materials in order to create products... which generates cash, as illustrated .

IGCSE Business Studies Cash Flow
Figure 2.1 - How Cash Flow Works

Cash Flow Forecasts

Cash Flow Statements are financial documents that show where the cash in a firm is going in and coming out. They can be made over any period of time, and even projected into the future. The table above shows the different features of a cash flow statement. You may be asked to fill one in, so be sure to look at Figure 2.2 to work out exactly where things go.

Cash Flow Problems

Cash flow problems occur when cash inflows are smaller than cash outflows

Read the following article:

  1. Why was the company facing cash flow problems?
  2. Can you think of other reasons why a firm may have cash flow problems?
  3. What do you think the consequences of cash flow problems are?

Remember, for additional notes on this topic, see our revision guide in the store.

Cash Flow Solutions

To get better cash flow, the following methods could be use. Firstly we can identify ways to increase inflows

  • Manipulate price (down for elastic goods, up for inelastic goods)
  • Make a promotional campaign
  • Take out a loan
  • Demand debtors pay up

Alternatively, we could see ways to decrease outflows

  • Sack workers or ineffective staff
  • Cut back on expensive supplies
  • Stagger payments to creditors
IGCSE Business Studies Cash Flow Forecasts
Figure 2.2 - Cash Flow Statements

IGCSE Business Studies Cash Flow Solutions

Figure 2.3 - Creative Solutions to Cash Flow Problems

Final Accounts

Final accounts are documents a firm needs to submit at the end of the year to show their overall value. It includes two documents

  1. Income Statements
  2. Balance Sheets

These will now be considered in turn, below. Be careful with your definitions as the example on the right shows!!

Income Statements

Income Statements are also known as Profit/Loss Accounts. They Show the final profit/loss made by a firm in a financial time frame. It is often split into three sections - the trading account, profit/loss account and appropriation account (though these terms are not needed for IGCSE). Things to spot on an income statement include:

  • Profit generated on the goods produced - known as Gross Profit . Does not include the cost of holding stock
  • Net Profit this is Gross Profit plus expenses not to do with the production of the product
  • Retained Profit This is Net Profit minus any tax or dividends due.
  • IGCSE Business Studies Income Statements revision
    Figure 3.2 Income Statements

    Balance Sheets

    Balance Sheets are the second part of Final Accounts. They are used to show the total net assets of a company. This means, its total value, including all of the things it owes, and everything it is owed. Items of worth that a company owns are called assets whilst items that a company owes other people are called liabilities.

    Types of Assets

    • Current Assets
      • Items of value that are used within a year
      • e.g. non-finished stock, unsold stock, cash in bank
    • Non-Current Assets
      • Items of value that are not used up in less than a year e.g. land, machinery
    IGCSE Business Studies Assets Revision
    Figure 3.3 Summary of Assets

    Types of Liabilities

    • Current Liabilities
      • Items of value that are owed to other firms or people to be paid back within a year
      • e.g. Credit card loans
    • Non-Current Liabilities
      • Items of value that are owed to other firms or people to be paid back in more than a year
      • e.g. Mortgages
    IGCSE Business Studies Liabilities
    Figure 3.4 Summary of Liabilities
    IGCSE Business Studies Balance Sheets Revision
    Figure 3.5 Balance Sheets

    Ratio Analysis

    Use the following information to calculate the:

    • Gross Profit Margin
    • Profit Margin
    • Return on Capital Employed

    Use the following information to calculate the liquidity ratio for the firm at hand:

    • Calculate the Current Ratio
    • Calculate the Acid Test Ratio

    For more information on how to do this, purchase our revision notes in the store, above!