E6 Study Set

Explain why a business uses an income statement to compare categories.

A business needs to be able to see how the categories are affecting each other and the bottom line. Is the business spending too much on operating expenses? Are sales keeping up with expenses? Is the business earning more profit than it is spending for the cost of goods sold?

Explain why a business uses an income statement for competitive analysis.

A competitive analysis helps a business to see its strengths and weaknesses in relation to those of the competition. Comparing numbers from its income statement with those of its competitors.

Describe operating expenses.

Operating expenses address all other expenses associated with the business, including employee wages/salaries, advertising, insurance, utilities (such as natural gas, electricity, water, etc.), mortgage or rent, administrative costs, and interest paid on outstanding loans.

How is an income statement like a golf scorecard?

The income statement is a business's best source of information regarding how well it is doing and where its weaknesses are.

Describe how an income statement shows a business's total financial picture.

The income statement shows a business's total financial picture—the good, the bad, and the ugly.

Describe cost of goods sold/cost of sales.

Includes all direct costs to obtain and/or produce the goods or services that a business sells. This includes raw materials, manufacturing overhead, packaging, shipping, labor, supplies, unsold items, stolen items, and returned items.

Describe financial ratios.

Ratios show the relationship between different numbers and can be compared by category, over time, and to the competition.

Describe revenue.

Revenue is the total amount of money earned by a business. It includes sales of the business's goods and services, interest earned from bank accounts, returns on investments, and the sale of the business's assets.

Explain why each of the following groups of people analyzes income statements: a. Top executives and managers b. Creditors c. Investors and potential investors

A. Top executives and managers look at ratios to monitor operations and determine whether their company is running efficiently. B. Creditors utilize information generated from the income statement to review a business's financial status. C. Investors, who have partial ownership of a business, use the income statement to monitor profit levels.

What is capital budgeting?

Capital budgeting occurs when a company's financial managers determine which projects the company should invest in. The managers make these decisions through the involved process of estimating each potential project's value to the business.

Describe capital structure.

Capital structure is the "optimal mix" of financing. Usually, a company's capital structure consists of debt and equity.

What is the difference between debt and equity?

Debt refers to taking out a loan from a bank or other lending institution. Equity refers to assets the company already owns.

Describe gross profit.

Determined by subtracting the cost of goods sold from revenue. It is the total profit made before all other remaining expenses have been deducted.

Discuss five ways that the finance function contributes to a business organization.

1. Helping to set goals for the future: Produces budgets and future strategies 2. Planning and controlling the company's spending: Provides central hub to control spending 3. Ensuring sufficient financing: A business relies on its finance function to make sure that adequate funds will be available. 4. Making sure customers pay their bills: The finance function keeps an eye on accounts receivable to make sure the business receives the money it is owed. 5. Investing company money wisely: It is absolutely essential for a company's financial managers to make smart investment decisions.

Describe the three other names for income statements.

An earnings statement- business can look at its bottom line The operating statement- affects decisions on how business will operate The profit-and-loss statement- shows profit and loss

Explain why an income statement is useful to a business.

An income statement is a summary of a business's income and expenses over a period of time. It summarizes where the business's money came from and where it went. It is a financial picture for revenues and expenses.

Explain the differences between capital investment decisions and working capital management.

Capital investment decisions determine which projects the business will invest in, how the investment(s) will be financed, and whether or not to pay dividends to the company's shareholders. Working capital management focuses on the company's current balance of assets and liabilities.

What is finance?

Finance is the function that involves all money and money management matters.

What is the role of return on capital in managing working capital?

It is a measure of how well a business generates cash flow in relation to the capital (both debt and equity) it has already invested in itself, and it is usually expressed as a percentage. When return on capital is positive, the company is growing in value; when it is negative, the company is losing value.

How does finance relate to other business activities?

Money is involved in every aspect of a business. The money needed to produce and market products is controlled by the finance department.

Describe net income.

Net income is the business's final profit, or "bottom line." This is the money the company actually makes after all expenses have been deducted and taxes have been paid.

How is an income statement analyzed?

Once a business has all the information it needs, it's time to transform the final numbers into financial ratios.

Describe two main finance activities.

One main finance activity is the administration of assets or decisions about investments. Financial managers are responsible for determining what types of assets the company should own, as well as the proper mix of those assets. Acquisition of funds, or decisions about financing, is another main responsibility of a company's finance department. This involves obtaining financing.

What dividend-related decisions must financial managers make?

To determine whether or not to pay dividends to its shareholders and, if so, when and how much. If the company chooses to pay dividends, it must decide whether to pay them in the form of cash or in the form of stock.

Explain why a business uses an income statement to compare categories over time.

What if a business wants to know how much it spent on expenses last year compared to this year? Or, what if it wants to know if profit has been improving over the last five years? By comparing sales numbers from two different income statements, the business can calculate sales growth.

What is the role of the cash conversion cycle in managing working capital?

When investors consider investing in a company, they often look at the cash conversion cycle as an indicator of whether or not the company has good working capital management. A downward trend in the cycle is a positive sign, while an upward trend is a negative one.

How is an income statement developed?

a business must first gather information that relates to revenue, cost of goods sold/cost of sales, and operating expenses. This information is then compiled, totaled, and used to calculate the elements of gross profit and net profit.

Explain how finance and accounting work together.

The accounting function records and generates the information needed to plan and make decisions in the finance function.

Explain the differences between finance and accounting.

The main focus of the finance function is on money management decisions, while accounting focuses on recordkeeping activities.