Business unit 3

• What is the definition of a budget?

  A budget is a financial plan for the future.
• Why is budgeting important for businesses and individuals?

  Without a budget, businesses and individuals often get into financial trouble.
• What do sales revenue budgets set out?

  Sales revenue budgets set out a business’ planned revenue from selling its products.
• What important information is included in sales revenue budgets?

  Expected level of sales and the likely selling price of the product.
• What do expenditure budgets set out?

  Expenditure budgets set out a business’ planned expenditure on essential items for production.
• What is a zero budget?

  A zero budget involves managers starting with a clean sheet to justify all expenditure.
• What are the benefits of using a zero budget?

  It improves control, helps with resource allocation, limits unjustified budget increases, reduces unnecessary costs, and motivates managers.
• What is a variance in budgeting?

  A variance is any unplanned change from the budgeted figure.
• What are the two types of variances?

  Favourable (F) and adverse (A) variances.
• What is a favourable variance?

  A favourable variance exists when actual figures result in higher profits than budgeted.
• What is an adverse variance?

  An adverse variance occurs when actual figures lead to lower profits than planned.
• If a business has a sales revenue budget of £2850, but actual sales are £2420, what is the variance?

  The variance is £430 adverse.
• If the cost of sales budget is £1980 and the actual cost is £1760, what is the variance?

  The variance is £220 favourable.
• What is the gross profit variance if the budgeted gross profit is £870 and the actual gross profit is £660?

  The variance is £210 adverse.
• What are some reasons for changes in variances?

  • Economy in recession
  • Competitor's new product
  • Falling raw material costs
  • Finding new/cheaper suppliers
  • Better-trained/motivated employees
  • Fewer employees producing the same output
• What factors might cause favourable sales variances?

  • Effective bonus scheme for salesmen
  • Successful advertising campaign
  • Favourable weather
  • Demise of a competitor
• What factors might cause adverse sales variances?

  • Successful activities of competitors
  • Loss of an important contract
  • Ineffective advertising
  • Logistical problems
  • Bad weather
  • General economic conditions
  • Changes in consumer tastes
• What factors might cause favourable cost variances?

  • Better-trained/motivated employees
  • Reduced costs of imported components
  • Falling raw material costs
• What factors might cause adverse cost variances?

  • Employee strikes
  • Bad weather affecting crops
  • Devaluation of Sterling
  • Unexpected price rises from suppliers
• What are the advantages of budgeting?

  • Controls income and expenditure
  • Regulates spending and highlights inefficiencies
  • Allows for corrective action
  • Enables delegation without loss of control
  • Improves business coordination and communication
  • Provides clear targets for employees
  • Can motivate staff if budgets are met
• What are the limitations of budgeting?

  • Time-consuming for managers
  • Personnel resentment towards budget targets
  • Loss of significance if actual figures differ greatly
  • Inflexibility may lead to missed opportunities
  • Poorly constructed budgets can lead to poor decisions
• What is depreciation?

  Depreciation is the difference between the original value and the current value of fixed assets.
• What does depreciation represent?

  Depreciation represents the fall in the value of fixed assets due to use, time, or obsolescence.
• What is the straight-line method of depreciation?

  The straight-line method assumes a fixed asset depreciates an equal amount each year of its useful life.
• How do you calculate annual depreciation using the straight-line method?

  Annual depreciation = (Original Cost - Residual Value) / Expected life of the asset (years).
• If a vehicle was bought for £10,000 and its residual value after 4 years was expected to be £2,000, what is the annual rate of depreciation?

  The annual rate of depreciation is £2,000.
• What is the value of the vehicle after 1 year if it was bought for £10,000 and has a residual value of £2,000?

  The value after 1 year is £8,000.
• What is the value of the vehicle after 2 years if it was bought for £10,000 and has a residual value of £2,000?

  The value after 2 years is £6,000.
• What is the value of the vehicle after 3 years if it was bought for £10,000 and has a residual value of £2,000?

  The value after 3 years is £4,000.
• What is the value of the vehicle after 4 years if it was bought for £10,000 and has a residual value of £2,000?

  The value after 4 years is £2,000.
• Why is it important for businesses to depreciate their assets?

  • Reflects the true value of machinery
  • Prevents overvaluation of the business
  • Maintains business reputation
  • Helps in planning for replacement machinery
  • Legal requirement to devalue fixed assets
• What is price elasticity of demand (PED)?


  PED measures the sensitivity of demand to a change in price.
• Why is price elasticity always negative?

  Because an increase in price leads to a fall in sales, and a decrease in price leads to a rise in sales.
• What is the formula for calculating price elasticity of demand?

  PED = Percentage change in quantity demanded / Percentage change in price.
• What does a PED value greater than 1 indicate?

  A PED value greater than 1 indicates price elastic demand.
• What does a PED value between 0 and 1 indicate?

  A PED value between 0 and 1 indicates price inelastic demand.
• What are the characteristics of price elastic demand?

  • Number is greater than 1
  • Change in price causes a more than proportional change in quantity demanded
  • Demand is sensitive to price changes
• What are the characteristics of price inelastic demand?

  • Number is less than 1
  • Change in price causes a less than proportional change in quantity demanded
  • Demand is not very sensitive to price changes
• How does price elasticity affect sales revenue?

  If demand is price elastic, raising prices will decrease sales revenue; lowering prices will increase sales revenue.
• How does price inelasticity affect sales revenue?

  If demand is price inelastic, raising prices will increase sales revenue; lowering prices will decrease sales revenue.