What's covered
Key facts
Analysing the financial performance of a business
A balance sheet shows assets, liabilities, and capital at a single point in time. It does not show profit over a period.
Cash flow
On a cash-flow forecast a figure in brackets, e.g. (£375), means a negative amount: an outflow or a deficit. The brackets stand in for a minus sign and must be subtracted, not added.
Financial terms and calculations
ARR stands for Average Rate of Return.
Profit and loss accounts (income statements)
Cost of sales is sometimes called cost of goods sold (COGS): the direct cost of producing or buying the items sold.
Sources of finance
An angel investor is an individual who invests in a start-up in return for equity, often a wealthy ex-entrepreneur bringing capital plus experience.
Analysing the financial performance of a business
Banks and other lenders use financial statements to decide whether to lend money: they're judging creditworthiness.
Cash flow
Cash flow and profit are not the same. Profit is revenue minus costs over a period; cash is money actually held. A business can be profitable but cash-poor.
Financial terms and calculations
ARR = (average annual profit ÷ initial investment) × 100. Over 5 years, £20,000 profit on £50,000 = £4,000/yr ÷ £50,000 = 8%.
Profit and loss accounts (income statements)
Gross profit margin shows trading efficiency: how much of each £ of revenue is left after the direct cost of the goods sold.
Sources of finance
A bank loan must be repaid with interest over an agreed term, for example five years, and may be secured against business assets.
Practice questions with answers
A taste of the 82 questions in this topic, answers marked. Sign up to practise the full set with spaced repetition.
Which is shown on a balance sheet?
- ✓Assets, liabilities and capital
- •Cash inflows and outflows by month
- •Gross profit and net profit only
- •Yearly revenue and total cost of sales
Which is a cash outflow for a typical business?
- ✓Paying wages to staff
- •Receiving a bank loan transfer
- •Receiving payment from customers
- •Selling goods to a new client
What does ARR stand for in business finance?
- •Adjusted Return Ratio
- •Annual Revenue Ratio
- •Asset Reinvestment Rate
- ✓Average Rate of Return
What item appears at the very top of an income statement?
- •Cost of sales
- •Gross profit
- •Net profit
- ✓Total revenue
Which is an internal source of finance?
- •Bank loan
- ✓Retained profit
- •Share issue
- •Trade credit
Why is comparing this year's profit margin to last year's useful?
- •It exempts the firm from any audit requirement
- •It guarantees the firm wins more new customers
- •It removes the need to file any tax return
- ✓It reveals whether profitability is rising or falling
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