Chapter 6 – Business Costs & Revenue

1. Chapter 6 – Business Costs & Revenue Syllabus Unit – Business Finance and Accounting

2. You will learn …… • Why businesses need to know the costs of running their activities and the revenue gained by selling their products • The different types of costs involved in running a business • How break-even analysis helps managers make decisions • The purpose of budgets and financial forecasts

3. Business Costs • Why do we need to know business costs? • Comparing Costs & Revenue • Determining Profit/Loss • Comparing locations of a possible new site • Price Determination

4. Business Costs • List 10 costs that would be involved in opening and running a new factory making sport shoes

5. Business Costs • Fixed Costs (FC) • Do not vary with output in the short-term • Paid regardless of output • “Overhead Costs”

6. Business Costs • Variable Costs (VC) • Vary with output • Costs directly associated with output • “Direct Costs

7. Business Costs • Total Costs (TC) • Fixed Costs + Variable Costs

8. Break-Even • The Break-even point (BEP) is the point at which cost or expenses and revenue are equal: there is no net loss or gain • Break-even charts show; • Costs • Revenue • Price x Quantity (P x Q) • Level of sales to breakeven

9. Break-even

10. Break-Even Charts

11. Break-even Charts Namib Tyres Ltd produce motorcycle tyres. The following information about the business has been obtained • Fixed Costs are $30,000 per year • Variable Costs are $5 per unit • Each tyre is sold for $10 • Maximum output is 10,000 tyres per year

12. Break-even Charts • Advantages • Identify break-even point of production • Calculate maximum profit • Expected profit/loss at different levels of output • Impacts on BEP with various business decisions • Helps in decision-making • Margin of Safety

13. Break-even Charts • Disadvantages • Assumes all goods produced are sold • Fixed costs constant only if scale of production doesn’t change • Ignores other aspects of the business which need to be analysed • Straight lines not realistic

14. Break-Even Equation • Breakeven Equation Total Fixed Costs Contribution Per Unit • Contribution • Selling Price – Variable Cost

15. Break-Even Equation • A fast food restaurant sells meals for $6 each. The variable costs of preparing and serving each meal are $2. The monthly fixed costs amount to $3600 • How many meals must be sold each month for the restaurant to break-even? • If the restaurant sold 1500 meals in one month, what was the profit made in that month? • If the cost of the food ingredients rose by $1 per meal, What would be the new break-even level of production?

16. More Business Costs • Direct Costs • Directly identified with each unit of production • Vary with the level of output

17. More Business Costs • Indirect Costs • Not identified with each unit of production • Associated with performing a range of tasks or producing a range of products • Overheads

18. More Business Costs • Marginal Costs • Additional costs for producing one more unit of product • Extra variable costs will be needed for that one extra unit

19. More Business Costs • Average Cost Per Unit Total Costs Output

20. Economies of Scale • Purchasing Economies • Bulk-buying discounts

21. Economies of Scale • Marketing Economies • Transport • Advertising

22. Economies of Scale • Financial Economies • Lower interest rates

23. Economies of Scale • Managerial Economies • Specialists in all departments

24. Economies of Scale • Technical Economies • Specialisation • Latest equipment

25. Diseconomies of Scale • Poor Communication

26. Diseconomies of Scale • Slower Decision-Making

27. Diseconomies of Scale • Low Moral

28. Budgets & Forecasts • Budgets • Plans for the future containing numerical or financial targets • Forecasts • Are predictions of the future

29. Reasons why businesses fail • Do not consider future at all and make no plans • Unprepared for unforeseen events

30. Budgets & Forecasts • Managers try to predict/forecast • Sales / Customer Demand • Exchange rates of the currency • Wage rises

31. Budgets & Forecasts • A managers biggest problem is ……. uncertainty about the future

32. Forecasting Methods • Trend • An underlying movement or direction of data overtime • This can be extended into the future

33. Forecasting Methods • Line of Best Fit • Figures plotted on graph (scatter diagram) • Line extended into the future

34. Forecasting Methods • Panel Consensus • A panel of experts are asked for their opinions • Most likely to be on future sales

35. Forecasting Methods • Market Research Surveys • Useful in forecasting sales that are yet to be launched onto the market • No previous data exists

36. Budgets • Plans for the future containing numerical and financial targets

37. Budgets • Businesses plan months/years ahead • Plan ahead for future reactions • Future targets in numerical/financial terms

38. Budgets • Budgets are set for; • Revenues • Costs • Production Levels • Raw Material Requirements • Labour Hours Needed • Cash Flow • Master budget is derived from these smaller budgets

39. Budget and Forecasts

40. Budgets • Advantages • Departmental Target Setting • Gives focus • Motivates • Variance Analysis • Worker, Supervisor & Manager involvement • Helps to control the business

41. Budgets Reviewing past activities Budgeting useful for: Planning for the Future Comparing actual with budgeted figures Controlling current business activity – Keeping to Targets Setting Goals to be achieved