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A-Level Business studies Revision notes 2015

Contents Business Objectives and Strategy... 3 Business Organisation... 5 Marketing... 10 Marketing Planning... 15 Budgeting, Costing and Investment... 20 Company Accounts... 23 Ratio Analysis... 27 Production Control... 29 Production Decision Making... 32 External Environment... 35 Management, Leadership, Motivation and Communication... 39 People in the Workplace... 43 1

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Business Objectives and Strategy Aims These are the long-term goals that provide direction for setting objectives. They are often expressed in the form of a mission statement. A typical corporate aim might be 'to become Europe's number 1 car manufacturer'. From this aim, a company can set a number of objectives and targets, such as to increase the quality of its products, to improve productivity levels, or to increase the effectiveness of its promotional campaigns. Contingency planning This means preparing for unwanted and unlikely possibilities. A business may produce a contingency plan in case of: a severe recession an environmental disaster a sudden strike by its workforce Contingency plans enable a business to be in a better position to manage a crisis, rather than to try and simply cope with it when it occurs. Corporate objectives These are the goals of the whole company. These should be based upon the company's aims and mission statement. Each department should then set its objectives based on the corporate objectives. Examples of corporate objectives include: to achieve long-term growth. to diversify the range of products and markets. to maximise profits. Crisis management This is the response of an organisation to a crisis (e.g. a fire, terrorist activity, natural disaster). Many companies will have some sort of contingency plan to cater for such situations, but it is rare that the actual crisis will go according to plan. It is likely that the person in charge at the time of the crisis will manage the crisis in a very authoritarian fashion, as he needs to make quick and effective decisions without the time for discussion and consultation with others. Decision tree This is a diagram that sets out the various possible options available to a business when it makes a decision (such as an investment) plus the probable outcomes that might result from each option. A decision tree also shows the likely probability of each option occurring and it sets out the likely amounts of money that can be expected at the end of each branch. Essentially, a decision tree shows the average amounts of money that are likely to be received if the decision was taken many times. 3

Mission statement This outlines the aims of a business in an attempt to provide a sense of direction and shared purpose for the stakeholders of the business. It often states what the business has done, what it would like to do and the strategies that it will use to achieve its overall aims. Objectives These are the medium- to long-term goals and targets of a business. Objectives must be achievable and realistic if they are to be of any use to employees, since an unrealistic objective is likely to act as a demotivator to the workforce. Objectives need to be agreed through consultation with employees, rather than simply being set by the managers and Directors. This gives the employees a sense of belonging and responsibility - which is likely to lead to higher levels of motivation and job satisfaction. Stakeholder This is an individual, or a group of people, with a direct interest (financial or otherwise) in a business. The main stakeholders are employees, shareholders, customers, the government, suppliers, creditors, pressure groups and the local community. Each group of stakeholders is likely to want the business to achieve a different objective or to follow a different course of action. These differing opinions and views often, inevitably, result in conflict between the stakeholder group and the business. Strategy This is a medium- to long-term course of action, which will enable the business to achieve its objectives. The strategy would include what needed to be done, the resources required and the likely timescale involved. SWOT analysis This is an investigation into the strengths (e.g. high level of market share), weaknesses (e.g. high gearing), opportunities (e.g. new markets to break into), and threats (e.g. new competitors entering the industry) that a business is faced with at a specific point in time. Strengths and weaknesses are internal factors which the business has direct control over, while opportunities and threats arise from the external environment and are, therefore, more unpredictable and potentially dangerous. "What if...?" questions Before contingency planning can take place, a business must consider many possible threats and crises that it may face, in order to be able to react to them swiftly and efficiently if they do ever occur. These are often computer-simulated and they can predict to a high level of accuracy the likely effects of a crisis on the finances and resources of a business. 4

Business Organisation External financing This means obtaining sources of finance from outside the firm. This can be done in one of three ways: debt (such as loans), share capital, or grants from the Government. External constraint This is a factor outside the control of the business, which directly affects the business. The main types of external constraint include consumer tastes, competitors' actions, economic circumstances, legal constraints, social attitudes and pressure group activity. Flotation This is the term given to the initial launch of a company on to the stock market, by offering its shares to the general public. Franchise This is a business which is based upon the name, products, trademarks, logos, etc. of an existing, successful business. To obtain a franchise involves the payment of an initial fee plus the ongoing payment of a royalty based on sales revenue. Franchisee This is a person or company who has bought a franchise (i.e. the rights to use the name, products, trademarks, logos, etc. of another company (the franchisor). Franchisor This is the successful business which will sell the rights to its business name, products, etc. to suitable franchisees. This can be a far cheaper and easier way to expand the company than the alternative of opening more branches itself. Horizontal integration This occurs where a firm takes over or merges with another firm at the same stage of production (i.e. the two firms were in direct competition with each-other). Internal constraint This is a factor that restricts the business from achieving its objectives, but it is within the control of the business. The main internal constraints are finance, marketing, people and production. Internal financing This is the generation of cash from within the company's resources/accounts. This can be obtained from retained profits, working capital and the sale of fixed assets. 5

Lease This is a way of securing and using property for a restricted period of time. When the lease runs out, the ownership of the property returns to the freeholder (the owner). Leasing This is a method of securing and using fixed assets (other than property) without the need for the initial cash outlays needed to purchase the asset. Limited liability This is the idea that the owners of a company (shareholders) are only responsible for the amount of money that they have invested into the company, rather than their personal assets. Thus if a firm becomes insolvent, the maximum that creditors can receive is the shareholders' initial investment. The word 'Ltd' or 'PLC' appear after the company's name to inform creditors that the business has limited liability. Management buy-in This occurs when managers from outside a company buy up the shares and take control of the company. This strategy is pursued if the managers believe that they can run the firm more efficiently than the current management. Management buy-out (MBO) This occurs when the managers of a business buy out the shareholders, and therefore own and control the business. The management believe that they can improve the profitability and efficiency of the business. Merger This is an agreement between the managements and shareholders of two companies to bring both firms together under a common board of directors. It is also referred to as amalgamation or integration. Multinational This is a business organisation which has its headquarters in one country, but has manufacturing plants in many other countries. Ordinary share These are purchased in order to have part ownership in either a Private Limited Company or in a Public Limited Company (PLC). At the end of each financial year ordinary shareholders receive a dividend per share that they own, but only after debenture holders, preference shareholders, long-term debt holders and the government (through taxes) have been paid. They are, therefore, often said to have the 'last claim' on the profits of the company. Similarly, if the company becomes insolvent and goes into liquidation, ordinary shareholders 6

are the last group of people to receive any return, after all other debts have been paid. Partnership This is a business organisation where two or more people trade together under the Partnership Act of 1890. Most partners in a partnership will have unlimited liability, which means each partner is liable for the debts of the other partners. Common examples of partnerships include solicitors, doctors, veterinarians and accountants. Forming a partnership allows more capital to be used in the business than is the case with a sole trader, and the pressures and responsibilities involved in running the business are spread over several individuals. Preference share This is a share paying a fixed dividend, which is considerably less risky than an ordinary share. If the company becomes insolvent and goes into liquidation, then preference shareholders would be repaid in full before ordinary shareholders. This is also true of dividends, which are paid to preference shareholders before ordinary shareholders receive theirs. Preference shares therefore carry less risk than ordinary shares, but they also carry no voting rights or rights to a share of the company's profitability. Primary sector This is that part of the economy consisting of agriculture, fishing and the extractive industries such as oil exploration and mining. Private limited company This is a small to medium-sized business that is usually run by a small number of people (shareholders) and in many cases it is a family run business. The shareholders can determine their own objectives without the emphasis on short-term profits that are so common among public limited companies. Private sector This is that part of the economy which is owned and controlled by private individuals and shareholders and is, therefore, out of the government's direct control. The remainder of the economy is called the public sector. Public corporation This is another name for a nationalised industry that is an enterprise owned by the government / state, which offers a product or service for sale. Public sector This is that part of the economy which is directly owned and / or controlled by the government / state. The public sector includes public corporations (nationalised industries), public services (such as the National Health Service) and local services (such as swimming 7

pools, street cleaning, libraries, etc.). Public limited company (PLC) This is a company with limited liability that has over 50,000 of share capital and a very large number of shareholders. PLCs are the only type of company allowed to be quoted on the Stock Exchange. These companies have to disclose their annual accounts, are open to take-over bids. Prospectus This is a document which companies have to produce when they go public (i.e. when they wish to float on the Stock Exchange). It gives details about the company's activities and anticipated future profits. It has to conform to the Companies Act 1985 and be handed to the Registrar of Companies. Sale and leaseback This is a contract to raise cash by selling the freehold to a piece of property and then buying it back on a long-term lease. This ensures that the firm can stay in its premises and therefore can carry on trading as if nothing has happened. The money released through this process enables the firm to improve its liquidity position, although it owns less fixed assets than before. Secondary sector. This is that part of the economy involved in the making and manufacturing of goods. Over the past twenty years, the UK has seen a large decline in the number of people employed in the secondary sector of the economy, due to firstly a fall in demand for the output and secondly due to the replacement of workers by machines (mechanisation). Sole trader This is an individual who owns and controls his / her own business. Common examples of sole traders include corner shops, newsagents and market traders. They have unlimited liability for their debts and often have little available finance for expansion. They often employ waged workers, yet keep all the profit (after tax) for themselves. Stock Exchange This is a market for securities (the collective name for stocks and shares). The London Stock Exchange is one of the biggest in the world after Tokyo and New York. Its main functions are to enable firms or governments to raise capital and to provide a market in second-hand shares and government stocks. Take-over This involves purchasing over 50 per cent of the share capital of a company and then being 8

able to exert full control over it. This process is also known as acquisition or integration. Take-over bid This is an attempt by a company to buy a controlling interest (i.e. over 50% of the ordinary shares) in another company. This is done by offering the target firm's shareholders a significantly higher price for their shares than the prevailing market price. Tertiary sector This is that part of the economy concerned with providing goods and services to customers. It is the largest sector in terms of employment in the UK, accounting for over two-thirds of the workforce. Unlimited liability This refers to the fact that the owners of certain business organisations (sole traders and partnerships) are not limited to the extent of their debts. They will have to sell off their own assets and use their own personal wealth, if necessary, to meet the debts of their business. If the business debts are greater than their own personal wealth, then the business may be forced into bankruptcy. Vertical integration This occurs when two firms join together (through a merger or a take-over) that operate in the same industry, but at different stages in the production chain. Backward vertical integration means buying out a supplier (e.g. a car manufacturer buying a components supplier).forward vertical integration means buying out a customer (e.g. the car manufacturer buying up a chain of car showrooms). 9

Marketing Asset-led marketing This bases the marketing strategy of a business on its existing strengths, rather than on what the customer wants (e.g. Nestle developing a mousse-style dessert, based on its successful Smarties brand). Base year This refers to index number data, and it relates to the year that is chosen for comparison with other years (it has an index number of 100). Confidence level. This is a measurement of the degree of certainty to be attached to a conclusion which is drawn from a sample finding. The most common type is a 95% confidence level (i.e. the sample findings will be correct for 19 times out of every 20 attempts). Correlation. This measures the relationship that exists between two or more variables. A positive (or direct) correlation is said to exist where one variable increases along with the other, and vice versa (e.g. as disposable income per head rises, then so too does expenditure on food products). A negative (or indirect) correlation is said to exist where one variable declines as the other rises, and vice versa (e.g. as the price of new cars falls, demand for new cars will tend to rise). Extension strategy This is an attempt by a business to lengthen the product life-cycle for a particular brand. It is likely to be used at either the maturity or early decline stages of the life-cycle. Types of extension strategy include: redesigning the product adding an extra feature changing the price changing the packaging and advertising Extrapolation This means calculating and analysing recent trends, and assuming that these trends will continue into the future. They can then be used to predict, to a reasonable level of accuracy, how a particular variable (such as sales) will change in the future. Index number This is a statistical measure which is designed to make changes in a set of data (such as sales figures) easier to manage and interpret. It involves giving one item of data a value of 100 (the base period), and adjusting the other items of data in proportion to it. 10

Innovation This means the commercial exploitation of an invention (i.e. altering an invention, so that it appeals to consumers and meets their needs). Market orientation This is a strategy that involves researching consumers' needs, and then developing new products and processes based around these needs. The main alternative is production orientation, where the business develops products based on its production capability and ignores consumers' needs. Market penetration This is a pricing strategy for a new product. The product is launched onto the market at a low price in order to build up a strong customer following. This low price aims to steal market share from existing competitors and it deters new competitors from entering the industry. Market research This is the process of gathering data on the habits, lifestyle and attitudes of actual and potential customers, with a view to developing products to meet their needs. Market segmentation This involves breaking the market down using various criteria, in order to identify distinct groups of customers. The main ways in which a market can be segmented are : Demographically (such as occupation or age) Psychographically (by peoples' attitudes and tastes) Geographically (by region) Market share This measures the percentage of all the sales within a particular market that are held by one product or by one company. Market size This is the total sales of all the businesses in a particular industry. Marketing mix This is often known as "The 4 Ps" (product, price, promotion and place) and it is the term given to the main variables with which a firm carries out its marketing strategy and meets customers' needs. Marketing model This is a framework for making marketing decisions in a scientific manner. It is derived from F W Taylor's method of decision-making. The model has five stages. 11

Stage 1 - Set the marketing objective Stage 2 - Gather the data that will be needed to help make the decision Stage 3 - Form hypotheses Stage 4 - Test the hypotheses Stage 5 - Control and review the whole process Marketing plan This outlines the marketing objectives and strategy of a business. The plan is normally developed in three stages : carrying out a marketing audit setting clear objectives for the next year developing a strategy for achieving the objectives Marketing strategy This is a medium- to long-term plan for meeting marketing objectives. A marketing strategy is implemented through the marketing mix (product, price, promotion and place). Moving average This is a method of identifying the trend that exists within a series of data. It calculates an average figure for every few items of data - therefore eliminating any fluctuations which may exist, in order to show the underlying trend. Niche marketing This is a business strategy that involves identifying consumers' needs and providing products to meet these needs in small, lucrative market segments. It is the opposite strategy to mass marketing. Primary data This is first-hand information that is specifically related to a firm's needs. Primary research This involves gathering first-hand data that is specifically concerned with a firm's products, customers or markets. It is gathered through questionnaires, observation or experimentation (e.g. test markets). Product life cycle This theory states that all products follow a number of stages during their commercialisation (introduction, growth, maturity, saturation and decline). Each product will pass through these stages at different speeds. Product This refers to the range of products produced by a business. This portfolio should range over 12

portfolio a variety of markets and a variety of stages in the product life cycle. One way of analysing the product portfolio of a business is through the Boston Matrix. Qualitative research This is detailed research into the motivations behind consumers' attitudes and behaviour. It is carried out through interviews and discussion groups. Quantitative research This means carrying out research into consumers' buying habits, trying to investigate such issues as a product's consumer profile, likely levels of sale at different price levels, and predicted sales of new products. Quota sample This involves segmenting the population and interviewing a given number of people in each segment, according to their demographic characteristics Random sample This involves giving every person in the population an equal chance of being interviewed to find out their tastes, shopping habits, etc. Retail prices index (RPI) This shows changes in the price of the average person's shopping basket. The RPI is the main measurement of inflation in the UK and is calculated through a weighted average of each month's price changes. Sample This is a group of people who are chosen to take part in a market research campaign. Their views and opinions are assumed to be representative of the population as a whole. Secondary data This is market research information which is collected from second-hand sources (e.g. reference books, company reports, or government statistics). Stratified sample This is a method of sampling that interviews people from a specific subgroup of the population, rather than from the population as a whole. This method of sampling would be chosen buy a business if the buyers of its products fell into a certain age-group or geographic area, rather than being spread across the whole population. Test market This is the launch of a new product within a small geographic area (rather than 13

nationally), in order to measure its potential sales and profitability. This reduces the risk and the costs associated with a national failure. Value added This is the difference between the cost of the raw materials / inputs and the price that customers are prepared to pay for the final product (i.e. value added = selling price - bought-in goods and services). 14

Marketing Planning Advertising This is a method of promotion that a business has to pay for. It is carried out through a variety of mediums, such as television, newspapers, magazines, cinema or radio. Advertising is either informative (making the market aware of the product / service) or persuasive (trying to entice customers to buy the product / service). Advertising elasticity This measures the effect on the demand for a product, following a change in advertising expenditure. It is calculated by the formula: If a large fall in advertising expenditure lead to just a small fall in quantity demanded, then the product would be advertising inelastic. Advertising Standards Authority (ASA) This is an organisation which monitors advertisements in print (i.e. magazines, newspapers, posters) in the UK and ensures that they are "fair, true, decent and legal". Advertising strategy This is the way that the business attempts to achieve its advertising objectives. The advertising strategy will usually state the necessary finance that must be available and the relevant media to be used. Branding This means creating a name and identity for a product which differentiates it from those of competitors. Brand leader This is the product (brand) which has the largest market share in a particular industry. It is often in the 'Maturity' stage of the product lifecycle and due to its brand loyalty; it can have a high retail price. Brand loyalty This is where customers are happy with their purchase of a particular product, and will return to purchase it again in the future. Consumer durables 15

These are products which are purchased by households, and are likely to last for a considerable period of time (e.g. televisions, cars, ovens, video-recorders, etc). Contribution per unit This is selling price minus variable costs per unit. The remaining money contributes towards covering fixed costs. Cost-plus pricing This means arriving at the selling price for a product by adding a profit mark-up to the total costs per unit. Direct mail This refers to promotional material that is sent directly to certain homes and addresses, which are selected from a list of known customers (e.g. 'Britannia Music Club'). Direct marketing This refers to promotional activities that involve the business making direct contact with potential customers (e.g. direct mail and door-to-door selling). Distribution This refers to the process of getting the products from the factory to the customers. Distribution channels These are the stages involved in getting the product from the factory to the customers (e.g. wholesalers and retail outlets). Income elasticity This measures the effect on the demand for a product, following a change in the income of customers. It is calculated by the formula If a large fall in income leads to a small fall in quantity demanded, then the product would be income inelastic. Loss leader This term refers to a product which has its retail price set at a level which is less than its costs of production. This strategy is often used by multi-product businesses, which hope that customers will buy their loss leader product, as well as a range of their other products which carry a significant profit margin. 16

Marketing The business function which involves getting the right product to the right place, at the right price, using appropriate methods of promotion, and doing it profitably. It is often pre-empted by carrying out extensive market research, in order to discover the customers' needs and wants. Marketing mix This term refers to the four main marketing strategies through which a business will attempt to achieve its marketing objectives. These are often known as the '4 Ps' (product, price, promotion and place). Market penetration This is a pricing strategy for a new product, designed to undercut existing competitors and discourage potential new rivals from entering the market. The piece of the product is set at a low level in order to build up a large market share and a high degree of brand loyalty. Packaging This refers to the colour, shape and presentation of the product and its protective wrappings. This is an important element in the promotional mix that a business chooses, because packaging can create a Unique Selling Point (U.S.P) for a product. Predatory pricing This is a pricing strategy which involves a business setting a price for a product at such a low level that their competitors are either forced to leave the market or, more seriously, are forced out of business. Price discrimination This is a pricing strategy which involves a business charging different prices to different people for the same product or service. This strategy aims to maximise the sales revenue of the business, by charging a higher price to those groups of customers who have a low elasticity of demand, and charging a lower price to those groups who have a high elasticity of demand. For example, the train companies charge a high price early in the morning to commuters, and a lower price several hours later for other members of the public, for the same distance and journey from London to Birmingham. Price elastic This refers to a situation where a given percentage change in the price of a product results in a larger percentage change in the level of demand for it (e.g. luxury products such as cars, holidays, dishwashers, etc). These products are considered to be price sensitive, since even a small rise in price can result in a large fall in demand. Price elasticity 17

This measures the effect on the demand for a product, following a change in its price. It is calculated by the formula: If a large fall in the price of the product leads to a small fall in quantity demanded, then the product would be price inelastic. An answer of more than one indicates that the demand for the product is price elastic. An answer of between zero and one indicates that the demand for the product is price elastic. Price inelastic This refers to a situation where a given percentage change in the price of a product results in a smaller percentage change in the level of demand for it (e.g. necessity and habit-forming products, such as milk, newspapers, alcohol and tobacco). Price leader This is the term used to describe a product or brand which is a dominant force in the marketplace and it can set its price at any level it chooses. The price that is set by competitors will therefore be dictated by the price leader. Price taker This is the opposite to a price leader. It refers to the products of a business which are not market-leaders, and therefore they have to set their price based upon the level set by the dominant product in the market place. Price war This refers to a situation where two or more businesses lower their prices in an attempt to win sales and market share from each-other. Price wars are most likely to start in very competitive markets, where the growth potential is very high and consumer sales are very lucrative (e.g. the supermarket industry - Tesco and Asda). Consumers are the only group who really benefit from a price war in the short-term, since they pay lower prices. However, if the price war results in one or more of the competitors becoming unprofitable and being put out of business, then the consumer may be faced with less choice and higher prices than before the price war started. Pricing methods This refers to the different ways that a business can decide on the price(s) to charge for its product(s). The main pricing methods are: - Mark-up pricing (adding a fixed percentage of profit to the direct production costs or total variable costs). - Cost-plus pricing (adding a percentage of profit to the full cost per unit). - Competitive pricing (setting prices based upon the existing businesses in the marketplace). 18

- Skimming (setting the price at a high level, to reflect the innovative nature of the product or to cover the high costs of production). - Penetration (setting a low price level, to undercut the existing competitors and build up a large market share). - Psychological pricing (this means setting the price for a product at a level based on the expectations of the consumer. For example, 9.99 instead of the 10 threshold, or 99 instead of the 100 threshold). Product development This is a strategy of bringing new products to the marketplace. It can either involve making slight improvements to existing products, or by developing and launching totally new products. The objectives of product development include increasing sales revenue, to increase market share, or to defend a brand leader by making it even better than the competitors' products. Product differentiation This is the perceived difference(s) that consumers believe exist between one product and its competitors. A product with a high degree of differentiation can be sold at a high price, therefore yielding a high profit-margin. Sales promotion This is a promotional strategy designed to boost the sales of a product in the short-term (using such tactics as a price discount, free products, competitions, discount coupons, etc.). Skimming This is a pricing strategy for a new product, designed to create an up-market, expensive image by setting the price at a very high level. It is a strategy often used for new, innovative or high-tech. products, or those which have high production costs which need recouping quickly. 19

Budgeting, Costing and Investment Average rate of return (ARR) This is an investment appraisal technique which calculates the average annual profit of an investment project, expressed as a percentage of the sum of money invested. Break-even chart This is a graph showing the total revenue and the total costs of a business at various levels of output. It is a form of Management Accounting and it enables a manager to see the expected profit or loss that a product will face at different levels of output. Break-even point This refers to the point on a break-even chart where the total revenue (T.R) of a business (or product) is equal to its total costs (T.C). It can also be calculated mathematically by using the following formula : Budget This is a financial plan for the forthcoming year that is drawn up to help a business achieve its objectives. It covers aspects such as sales, production expenses, etc. Budgetary control This refers to the system of regular comparison of budgeted figures (for revenue and expenses) with the actual outcomes. Any differences between the budgeted figures and the actual outcomes are known as variances - these need to be investigated and the reasons for their existence must be established. Contribution This is total revenue minus total variable costs. The remaining figure is called 'contribution' because it contributes towards covering fixed costs and, once these are covered, it contributes towards profit. Contribution per unit This is the amount of money that each unit that is sold contributes towards covering the fixed costs of the business. Once the fixed costs are covered, all extra contribution is profit. Cost centre This is a department or a division of a business to which certain costs can be allocated (e.g. wages and salaries, telephone bills, etc.). 20

Direct cost This is a cost which can be attributed to the production of a product, and it will vary in direct proportion to output (e.g. raw materials and wages of production workers). Discounted cash flow (DCF) This is an investment appraisal technique which discounts the monies that the business will receive in future years from a certain investment project, in order to give a present-day value for each year's return. Fixed costs These are costs which do not vary with output, and would be incurred even when output was zero (e.g. rent, loan repayments, salaries). Fixed costs per unit These are total fixed costs divided by the number of units produced. They are often referred to as average fixed costs. Indirect cost This is a cost which is not directly attributable to production (e.g. managers' salaries, mortgage payments, or rent). These costs are often referred to as 'overheads'. Indirect labour These are those employees such as office and cleaning staff who are not involved directly in the process of production or customer service. Net present value (NPV) This is an investment appraisal technique which calculates the total of all the years' discounted cash flows, minus the initial cost of the investment project. If the resulting figure (the NPV) is positive, then the project is viable and should be undertaken. Payback period This is an investment appraisal technique which estimates the length of time that it will take to recoup the initial cash outflow of an investment project. Profit This is the amount of revenue that remains for a business or a product, after all costs have been deducted (i.e. profit = total revenue - total costs). Profit centre This is a department or a division within a business which operates independently and produces its own annual profit and loss account. 21

Safety margin This is the number of units of output that the business produces above its break-even point. It represents the number of units that the production level could decrease by, before the business would make a loss. It is calculated by the formula : Margin of safety = Current output level - Break-even output level. Variable cost This is a cost which varies directly with the number of units that the business produces (e.g. raw materials, wages of production workers, and electricity bills). In other words, as the level of output increases, then so too will the variable costs that the business has to pay. Variable cost per unit These are the total variable costs divided by the number of units produced. They are often referred to as average variable costs. Variance This is the difference between the actual results of the business and the figures that the business budgeted for the year (e.g. sales, wages, advertising costs, etc.). Positive (i.e. favourable) variances occur where the actual amount of money flowing into the business is more than the budgeted figure, or where the actual amount of money flowing out of the business is less than the budgeted figure. Negative (i.e. unfavourable) variances occur where the actual amount of money flowing into the business is less than the budgeted figure, or where the actual amount of money flowing out of the business is more than the budgeted figure. Zero budgeting This is where a budget is set to zero for a given time-period, and the manager of the particular division or department then has to justify any expenditure which he wishes to make. It is often used in an economic recession or a downturn in the industry, when money is not as readily available. 22

Company Accounts Asset This is an item that a business owns - it can either be a fixed asset (owned for more than 12 months) or a current asset (owned for less than 12 months). Assets employed This is the present value of all the assets of the business minus current liabilities. Balance sheet This is a snapshot at a given point in time, showing the assets, liabilities and capital of a business. It essentially shows the net worth of a business Capital employed This is the total of all the long-term finance of the business. Essentially it shows where the business raised its money from (loans, share capital and reserves). Capital employed equals assets employed. Capital expenditure This is expenditure on items of capital and new fixed assets (e.g. land and buildings, vehicles, machinery). Cash flow forecast This is a Management Accounting document which outlines the forecasted future cash inflows (from sales) and the outflows (raw materials, wages, etc.) per month for a business. Cash flow statement This is a Financial statement which shows the cash inflows and the cash outflows for a business over the past 12 months. Cost of sales This is often referred to as 'Cost of goods sold'. It represents the direct costs of manufacturing a given level of output. Creditors These are any monies which the business owes to its suppliers, which will be settled within the next 12 months (e.g. payment for raw materials purchased on credit). Current asset This is an item that a business owns for less than 12 months (e.g. cash, debtors, stock). 23

Current liability This is an item that a business owes to an external body, which will be settled within 12 months (e.g. creditors, overdraft, corporation tax to the Inland Revenue). Debtors These are the people who owe the business money (e.g. customers who have purchased goods on credit). Depreciation This is the fall in the value of fixed assets, either due to their use, due to time, or due to obsolescence. Essentially, depreciation divides up the historic cost of a fixed asset over the number of expected years that it will be used by the business. Dividends This is the total amount of 'profit after tax' that the business will issue to shareholders at the end of the financial year. The remainder of the 'profit after tax' will be retained in the business for re-investment. Fixed assets Items of a monetary value which have a long-term function and can be used repeatedly. These determine the scale of the firm's operations. Examples are land, buildings, equipment and machinery. Fixed assets are not only useful in the running of the firm, but can also provide collateral for securing additional loan capital. Gearing This measures the proportion of capital employed that is funded by long-term liabilities (e.g. loans, mortgages, etc.). It is calculated by dividing long-term liabilities by capital employed and multiplying by 100. Gross profit This is the sales revenue of a business minus the cost of sales (i.e. minus the direct costs incurred in manufacturing the products which have been sold). Gross profit margin This is the gross profit figure expressed as a percentage of the sales revenue figure. It shows the proportion of sales revenue that remains after all direct costs have been accounted for. Historic cost This is the original price which was paid for an asset. 24

Intangible assets These are fixed assets which are not physical (e.g. brand names, goodwill, patents). They are of long-term value to the business and will exist for more than 12 months. Liquidity This is the ability of a business to meet its short-term debts. The current ratio and the acid-test ratio can measure this. Liquidity crisis This refers to a situation where a business does not have enough liquid resources (i.e. cash) to meet its current liabilities and short-term debts. Net assets This is fixed assets + current assets - current liabilities. It is often used instead of the term 'assets employed'. Net current assets This is also referred to as working capital and it is calculated by deducting current liabilities from current assets. It represents the finance that is available for the day-to-day running of the business. Net profit margin This is the net profit figure expressed as a percentage of the sales revenue figure. It shows the proportion of sales revenue that remains after all expenses have been accounted for. Profit and loss account This is a financial statement listing all the revenues and expenses of a business over a period of time (normally 12 months). Reserves These consist of retained profit from previous trading periods and any increase in the value of fixed assets such as land and buildings, which form part of the long-term capital of the business. Revenue expenditure This refers to any expenditure on all items other than fixed assets (e.g. raw materials, wages, utility bills, etc.). These are usually day-to-day expenditure that the business incurs when it tries to create sales revenue. Shareholders' This is the capital invested by the shareholders plus the reserves which have been 25

funds accumulated over the years. It represents the total capital which the shareholders have a claim on within the business. Straight-line depreciation This method of depreciating a fixed asset charges an equal amount to each year of its expected useful life. Windowdressing This is a form of creative accounting and it involves presenting the accounts of a business in such a way as to flatter its financial position. Working capital This is the day-to-day finance that is needed for running a business. It is also referred to as 'net current assets' and it is calculated by deducting current liabilities from current assets. Working capital is used to pay for expenses such as wages, raw materials and utility bills. 26

Ratio Analysis Acid test ratio This measures the ability of a business to meet its short-term debts. It is calculated by dividing current assets minus stock by current liabilities. Asset turnover This measures the ability of a business to generate sales revenue from its assets. It is calculated by dividing sales revenue by net assets. Current ratio This measures the ability of a business to meet its 'current' debts. It is calculated by dividing current assets by current liabilities. Dividends This is the total amount of 'profit after tax' that the business will issue to shareholders at the end of the financial year. The remainder of the 'profit after tax' will be retained in the business for re-investment. Dividend cover This is the number of times that the dividend that has actually been paid to shareholders could have been paid out of the 'profit after tax'. Dividend per share This is the amount of 'profit after tax' that each shareholder will receive per share that they hold at the end of the financial year. Dividend yield This is the dividend per share expressed as a percentage of the current market price of the share. It provides a figure which can be compared with other forms of investment, to see if the yield from the shares is worth the risk of investing the money. Earnings per share (EPS) This is the amount of money per share that each shareholder could receive, if the business decided to give all the 'profit after tax' to the shareholders. It is calculated by dividing the profit after tax by the number of ordinary shares. Gearing This percentage measures the proportion of capital employed that is funded by long-term liabilities (e.g. loans, mortgages, etc.). It is calculated by dividing longterm liabilities by capital employed and multiplying by 100. Gross profit This is the sales revenue of a business minus the cost of sales (i.e. minus the direct costs incurred in manufacturing the products which have been sold). 27

Gross profit margin This is the gross profit figure expressed as a percentage of the sales revenue figure. It shows the proportion of sales revenue that remains after all direct costs have been accounted for. Net profit margin This is the net profit figure expressed as a percentage of the sales revenue figure. It shows the proportion of sales revenue that remains after all expenses have been accounted for. Price: earnings ratio (PE This is a measure of the confidence that the 'City' has for the shares of a particular ratio) company. It is calculated by dividing the current market price of the share by the 'earnings per share' figure. Return on capital employed (ROCE) This is the profit of the business expressed as a percentage of the 'capital employed' figure. It is often referred to as the 'primary efficiency ratio, and it basically relates the profit to the size of the business. Stock turnover This is a measure of the time that a business takes to sell its stock. A supermarket will have a high stock turnover ratio, since it sells many goods on a day-to-day basis. Whereas a retailer such as 'Dixons' will have a much lower stock turnover, since it does not sell its stock as quickly. It is calculated by dividing the cost of sales by the stock figure. 28

Production Control Automation This is the replacement of workers with machinery. Machines have several advantages over workers, such as zero rates of absenteeism and sickness, and a constant productivity rate which can be used for 24 hours a day. Benchmarking This refers to a business finding the best methods and processes that are used by other businesses, and then trying to emulate these in order to become more efficient in its operations. British Standard 5750 (ISO 9000) BS 5750 was the most common quality certification in the UK - it is now known as ISO 9000, which is an international standard which tells customers that a business has reached a required level of quality in its products and processes. British Standards Institution (BSI) This is the body that is responsible for setting quality and performance standards in industry. The BSI 'kitemark' on a product implies to customers that it has been manufactured and produced to a high level of quality. Buffer stock This is the minimum stock level which will be held by a business to meet any unexpected occurrences (e.g. a sudden large order from a customer or, deliveries of raw materials not arriving on time). Cell production This method of manufacturing an item organises workers into 'cells' within the factory, with each cell comprising several workers who each possess different skills. Each cell is independent of the other cells and will usually produce a complete item. Computer aided design (CAD) This is the use of sophisticated computer software to design 3-dimensional images of products quickly and relatively cheaply. Computer aided manufacture (CAM) This is the use of computers for a wide variety of production tasks, including automated production lines and stock control systems. Just-in-time (JIT) This is a method of manufacturing products which aims to minimise the production time, the production costs and the amount of stock held in the factory. Raw materials and supplies arrive at the factory as they are required, and consequently there is very little stock sitting idle at any one time. Each stage of the production process finishes just before 29

the next stage is due to commence and therefore the lead-time is significantly reduced. Kaizen This is a Japanese word which means 'continuous improvement'. It is widely held that any aspect of the business can be improved - not just the production processes. Lead-time This is the amount of time between a business receiving an order from a customer and the delivery of the finished product to the customer. Lean production This term refers to a range of cost, time and waste-saving measures used by Japanese manufacturing firms. These include just in time, shorter lead-times, Kaizen, benchmarking and cell production Quality assurance This term refers to the attempt to achieve customer satisfaction, by ensuring that the business sets certain quality standards and publicises the fact that these standards are met throughout the business. Quality circle This is a group of workers that meets at regular intervals in order to identify any problems with quality within production, consider alternative solutions to these problems, and then recommend to management the solution that they believe will be the most successful. Quality control This is the process of checking the quality and the accuracy of raw materials and the finished products. This is usually carried out either by quality inspectors or by the employees themselves. Reorder level This is the minimum amount of stock that a business will hold before it re-orders some from its suppliers. Stock control This is the system used to ensure that the business always has sufficient stock available to meet customer requirements - it focuses on four key variables: re-order levels, re-order quantities, buffer stocks and lead times. Stock rotation This is the process of ensuring that the older batches of stock are used first. Total Quality Management This is the attempt by a business to stop errors occurring at all levels within the organisation, and to try to encourage all employees to make 'quality' paramount within 30