Business Finance
Domain 7: Business Finance. Tests sources of finance, the difference between start-up and working capital, cost behaviour, break-even analysis and the distinction between profit and cash.
Sources of finance
Internal: owner's savings, retained profit, sale of unused assets. External: family loans, bank overdraft, term loan, microfinance, hire purchase, leasing, trade credit, venture capital and angel funding, and government or SME support schemes. Choose by matching the term of the finance to the life of the asset: an overdraft funds stock, a term loan funds equipment. Weigh cost (interest), security (collateral), control lost and repayment risk.
Cost behaviour and break-even
Fixed costs do not change with output (rent, insurance, loan instalments); variable costs change per unit (materials, packaging). Contribution per unit = selling price minus variable cost per unit. Break-even units = fixed costs / contribution per unit.
Worked example
Fixed costs are N$12 000 a month including the loan instalment, selling price is N$25 and variable cost N$15. Contribution is N$10, so break-even = 12 000 / 10 = 1 200 units a month, about 40 a day. To earn N$5 000 profit: (12 000 + 5 000) / 10 = 1 700 units. Reasoning: loan interest must sit inside fixed costs, otherwise break-even is understated and the business loses money while appearing to break even.
Traps
- Treating profit as cash: a credit sale raises profit but not the bank balance.
- Dividing fixed costs by selling price instead of by contribution.
- Ignoring interest, owner's drawings and tax in the cash plan.
- Borrowing long-term for short-term needs, or borrowing so much that instalments exceed cash generated.