Chapter 6 – Business Costs & Revenue Syllabus Unit – Business Finance and Accounting
Mar 30, 2015
Chapter 6 – Business Costs & RevenueSyllabus Unit – Business Finance and Accounting
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
Business CostsWhy do we need
to know business costs?◦Comparing Costs &
Revenue◦Determining
Profit/Loss◦Comparing
locations of a possible new site
◦Price Determination
Business CostsList 10 costs that would be
involved in opening and running a new factory making sport shoes
Business CostsFixed Costs (FC)
◦Do not vary with output in the short-term
◦Paid regardless of output
◦“Overhead Costs”
Business CostsVariable Costs
(VC)
◦Vary with output
◦Costs directly associated with output
◦“Direct Costs
Business CostsTotal Costs (TC)
◦Fixed Costs +
Variable Costs
Break-EvenThe 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
Break-even
Break-Even Charts
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
Break-even ChartsAdvantages
◦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
Break-even ChartsDisadvantages
◦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
Break-Even EquationBreakeven Equation
Total Fixed Costs Contribution Per Unit
Contribution◦Selling Price – Variable Cost
Break-Even EquationA 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
a) How many meals must be sold each month for the restaurant to break-even?
b) If the restaurant sold 1500 meals in one month, what was the profit made in that month?
c) If the cost of the food ingredients rose by $1 per meal, What would be the new break-even level of production?
More Business CostsDirect Costs
◦Directly identified with each unit of production
◦Vary with the level of output
More Business CostsIndirect Costs
◦Not identified with each unit of production
◦Associated with performing a range of tasks or producing a range of products
◦Overheads
More Business CostsMarginal Costs
◦Additional costs for producing one more unit of product
◦Extra variable costs will be needed for that one extra unit
More Business CostsAverage Cost Per Unit
Total Costs Output
Economies of ScalePurchasing Economies
◦Bulk-buying discounts
Economies of ScaleMarketing Economies
◦Transport◦Advertising
Economies of ScaleFinancial Economies
◦Lower interest rates
Economies of ScaleManagerial Economies
◦Specialists in all departments
Economies of ScaleTechnical Economies
◦Specialisation◦Latest equipment
Diseconomies of ScalePoor Communication
Diseconomies of ScaleSlower Decision-Making
Diseconomies of ScaleLow Moral
Budgets & ForecastsBudgets
◦Plans for the future containing numerical or financial targets
Forecasts◦Are predictions of the
future
Reasons why businesses fail
Do not consider future at all and make no plans
Unprepared for unforeseen events
Budgets & ForecastsManagers try to
predict/forecast
◦Sales / Customer Demand
◦Exchange rates of the currency
◦Wage rises
Budgets & ForecastsA managers biggest problem is
…….uncertainty about the future
Forecasting MethodsTrend
◦An underlying movement or direction of data overtime
◦This can be extended into the future
Forecasting MethodsLine of Best Fit
◦Figures plotted on graph (scatter diagram)
◦Line extended into the future
Forecasting MethodsPanel Consensus
◦A panel of experts are asked for their opinions
◦Most likely to be on future sales
Forecasting MethodsMarket Research Surveys
◦Useful in forecasting sales that are yet to be launched onto the market
◦No previous data exists
BudgetsPlans for the future containing
numerical and financial targets
BudgetsBusinesses plan months/years
aheadPlan ahead for future reactionsFuture targets in
numerical/financial terms
BudgetsBudgets are set for;
◦Revenues◦Costs◦Production Levels◦Raw Material
Requirements◦Labour Hours Needed◦Cash Flow
Master budget is derived from these smaller budgets
Budget and Forecasts
BudgetsAdvantages
◦Departmental Target Setting◦Gives focus ◦Motivates◦Variance Analysis◦Worker, Supervisor & Manager
involvement◦Helps to control the business
Budgets
Reviewing past activities
Comparing actual with budgeted
figures
Budgeting useful for:
Controlling current business activity –Keeping to Targets
Planning for the Future
Setting Goals to be achieved