Understand the concept of cash flow

Manage your cash flow cycle

Forecast your cash flow

Understand pricing for your enterprise

Profitability is the basic and primary aim of all enterprises and entrepreneurs.

Without profitability, the business will not last long.

Profit and profit making are the preliminary concepts to best define what profitability is and why it matters.

Profit is simply defined as the surplus after deducting costs from revenues.

To summarize, profit is an absolute measure of how profitable a business is.

Profitability is the relative measure of profit – how much profit is made compared to total revenues.

This means that calculating profitability looks at profit, revenues and costs in percentage terms rather than the raw absolute amounts.

By doing so, this index allows comparing enterprises of different sizes or businesses by looking at their levels of profit side by side.

To summarize, profitability represents the percentage of profit generated per unit of currency spent.

REVENUES

REVENUE = Price of the Commodity x Quantity of the Commodity

A certain quantity of the commodity is sold over a certain time period

TR = Total Revenue
P = Price
Q = Quantity

• Fixed cost (FC) – the expenditure on the fixed factors/inputs of activities, (e.g., production: flour for bread)
• Variable cost (VC) – the expenditure on variable factors (e.g., labour: the amount of the wage depends on the number of workers employed)
• Explicit cost – the money spent by the producer on both fixed and variable components of business’ activities
• Implicit cost – the price of self-supplied factors The value of such a cost must be calculated using market value

Average Revenue (AR) is the total revenue per unit output sold. AR is also equal to the price �� AR = TR / Q = P x Q / Q = P

Marginal Revenue (MR) is the change in total revenue resulting from one unit increase in quantity sold
�� MR = Change in Revenues / Change in Quantity �� MR = ΔTR / ΔQ

Example of MR:
€1500 from the sale of 500 earrings �� Revenue for earring until 500 earrings = €3

€1700 from the sale of 600 earrings
MR = (€1700 - €1500) / (600 - 500) = €2
MR = €2 �� Revenue for earing after 500 earrings = €2

Average Cost (AC) is the cost per unit of output
AC = Total Cost / Total Output

Marginal Cost (MC) is the extra cost incurred to produce another unit of output
�� MC = Change in costs / Change in Quantity �� MC = ΔTC / ΔQ

Example of MC:
€500 to produce 500 earrings �� Cost for earring until 500 earrings = €1

€580 to produce 600 earrings
MC = (€580 - €500) / (600 - 500) = €0.80
MC = 0.80 �� Cost for earring after 500 earrings = €0.80

Whether it is to set up a new enterprise or to implement new business’ activities developing an existing enterprise, profitability is crucial.

It influences whether a enterprise can:

•  obtain funding (for example, from a bank or traditional institutions)
• attract investors or business angels (alternative financing) to fund its operations
• grow its business in general

It represents the best source of access to finance.

The main tool to raise capital for a business idea or secure lending in general is the business plan (BP). It is a document presenting, among other things, the enterprise’s economic and financial views, including profitability. The latter suggests the possibility of returns on investments.

The cash flow cycle is the way in which cash moves through your business as products/services are manufactured/delivered and sold and payment is received.

The cycle starts from the time you pay your suppliers/bills to the time you receive payment for your goods/service

The shorter the cycle, the more cash your business makes! This is also known as Cash Conversion Cycle (CCC) – this means that the less time your business has cash tied up in inventory the shorter your CCC.

How can I shorten my cash cycle?

1. Encourage earlier payments
2. Ensure you have an easy method for customers to pay
3. Keep invoices simple and clear
4. Consider small % discounts for early payment

• Managing your cash flow means that you are managing your working capital which ensures your business runs from day to day.
• Cash flow management means that you are tracking the cash coming in to your business and monitoring it in relation to your outgoings e.g. wages, utility bills etc.
• If you have a good management system, you can see a overall picture of income versus costs and ensure you have enough cash to pay your bills, yet still ensure you make a profit.
• Potential problems:
• If you have cash flow problems you may have:

Revenues
Costs
Profit
Profitability
Business Plan
Entrepreneurship

Cash Flow Cycle
Cash Flow Management
Cash Flow Forecasting

What is pricing?
Pricing Strategy