Chapter 24: Quality

Quality is those features of a product or service that allows it to satisfy (or delight) customers.

 

Benefits of having a quality system:

A Quality System is the approach used by an organisation to achieve quality. Most quality systems can be classified as either quality control or quality assurance.

1. Impact on sales volume

• If the product/service meets customer needs --> Demand would increase --> Enable the business to increase the level of its profits.
• People become richer --> Desire for high quality goods increase rapidly --> Because of less constrained by level of income.

2. Creating a USP

• Not achievable for all businesses, especially those trying to keep costs low
• Can use quality as a USP --> To increase demand.
• E.g. Often there is an 8-week waiting list for weekend bookings for afternoon tea at the Ritz Hotel in London. Potential customers see service as unique, a mix of:
• Tangible quality --> High quality of products and services provided.
• Intangible quality --> Image linked to the name of the hotel.
• The uniqueness of the service increases customers' desire to enjoy it, ensuring regular and high demand.

3. Impact on Selling Price

• Quality as a USP encourages consumers to pay a higher price for products/services.
• E.g. Food prices in M&S is higher than other supermarkets.
• Customers are willing to pay a higher price for better quality.
• Increases profit margins
• Note: Better quality materials and production needed to achieve high quality products.
• Quality as a USP is common in niche markets e.g. Harrods or Hotel Chocolat
• Greater perception of quality --> The higher the selling price the firm can charge
• E.g. Afternoon tea at the Ritz costs £36 pp.

4. Pricing Flexibility

• Reputation for quality gives business ability to be more flexible in its pricing.
• E.g. British airways charges higher prices to customers who value quality of service on flights. They also have flexibility to offer discounted prices in order to fill planes where necessary - the high price paid by customers would have already guaranteed the firm a profit.

5. Cost reductions

• It is costly to implement a quality system but can reduce business costs.
• No wastage of faulty goods or possible recall of many products already sold --> Expensive Process
• Costs of reworking products in a faulty manner or waste of materials.

6. The firm's reputation

• No quality system = Costly to business reputation.
• E.g. 2006 - Cadbury's reputation was damaged by negative publicity --> Salmonella scare and faulty labelling of products.
• Customers remember unfavourable publicity
• Good quality system --> Prevent problems --> Help business avoid any damage to reputation 

Issues involved in introducing and managing a quality system:

1. Costs

• Administrative expense to set up
• Continual monitoring of production, materials and processes
• For an overall assessment of the value of a quality system --> Costs compared with financial benefits arising from high quality achieved EXCEED costs incurred to achieve it.

2. Training

• Quality assurance relies on a well-trained workforce who can understand and implement the quality system.
• Training is quite expensive
• Create cultural changes e.g. more consultative style of management and greater willingness to give responsibility to workers.

3. Disruption to production

• Short-run -Training programme disruptive to existing production methods.
• Training --> Staff will be taken off the current production line to undergo training.
• This would short term damage quality and quantity of production.
• After training complete --> Further disruption --> Workforce, managers and suppliers must adapt to new systems of quality.
• During this period, mistakes are more likely to happen + danger of company's reputation for quality may suffer.
• Yet once new system established --> Problems should disappear.

Quality Control

Quality Control: A system that uses inspection as a way of finding any faults in the good or service being provided.

- This is where there is inspection at the end (with the end product)

- Firms have now moved on from quality control onto quality assurance.



Quality Assurance

Quality assurance is a system that aims to achieve or improve quality by organising every process to get the product 'right first time' and prevent mistakes ever happening.

 This involves self-checking, concentrating on the process of production.

Benefits of Quality Assurance:

• Ownership of the product rests with the workers, giving them greater responsibility.
• Herzberg argues that there are positive effects on motivation because of this sense of ownership and recognition of the worker's responsibility.
• Costs are reduced because there is less waste and less need for reworking of faulty products.
• With all staff responsible for quality, there should be a higher and more consistent level of quality, which can lead to marketing advantages for the firm.

The problems are the same: Cost, training and disruption to production.

Total Quality Management (TQM)

It is the most widely recognised quality assurance system.

Total Quality Management is a culture of quality that involves all employees of a firm.

It is based on the philosophy of 'right first time'.

Kaizen

Kaizen is a policy of implementing SMALL, incremental CHANGES in order to achieve better quality and/or greater efficiency.

Focussed on making 'continual improvement'.

Quality Standards

Quality Standard: A set of criteria for quality established by an organisation. The standard also requires an organisation to have systems for implementing and monitoring its standards.

BS 5750: A British standards award granted to organisations that possess quality assurance systems that meet the standards set.

ISO 9001: The international standard of quality assurance that is equivalent to BS 5750.

The benefits of these awards are:
- Marketing advantages from the acknowledgement of higher quality standards
- Assurance to customers that products meet certain standards
- Greater employee motivation from the sense of responsibility and recognition
- Financial benefits in the long term (due to elimination of waste and improved reputation of firm).

Quality Summary:

Chapter 17: Improving Cash Flow

Cash Flow

Cash flow is the amounts of money flowing into and out of a business over a period of time.

Too much cash = Firm will have less machinery and stock than it can afford and so make less profit.
Too little cash= Threaten survival if a bill cannot be paid.
To get the right balance= Plan its cash holdings --> By having a cash-flow forecast --> Firm can identify problems and take appropriate action (e.g. arranging a bank overdraft)

Causes of cash-flow problems

1. Seasonal Demand
Companies typically incur costs in producing in advance of the peak season for sales. However because the problem is predictable, it is easy to persuade suppliers to provide credit or to negotiate a bank overdraft.

2. Overtrading
Firms become too confident and expand rapidly, not organising sufficient long-term funds. Putting a strain on working capital. Businesses often give credit to customers. Rapid expansion = Businesses to buy more materials but lacks money, this is because customers are not paying for the goods as soon as they are sold. This leaves the business short of cash.

3. Over-investment in fixed assets
Firms invest in fixed assets to grow, but leaves them with inadequate cash for day-to-day payments. Could drain the business of finance and lead to cash-flow problems. Equipment and buildings cannot easily be turned back into cash. Extreme situations = Can't pay debts, even though the business has plenty of assets.

4. Credit sales
Marketing dep. would want to give credit to customers --> To encourage them to buy --> lead to lack of cash in the organisation if sales are not leading to immediate receipts of cash.

5. Poor stock management
Hold excessive stock levels, tying up cash that could be used for other purposes.
High level of stock= Danger --> Stock becomes worthless as it is --> out-of-date or unfashionable.
But Low stock levels= Limit sales --> esp. impulse buys
Buying large quantities of stock --> Business benefits from discounts. Can this offset the costs of carrying high stock levels?

6. Poor management of suppliers
A well managed business should be able to negotiate a credit period with suppliers so that payment from customers reaches the business at the same time the business needs to pay suppliers.
Good supply chain management also means negotiations on a reasonably low price so money won't be wasted. It also ensures prompt deliveries of materials so customers will not be lost.

7. Unforeseen changes
Internal changes --> e.g. machinery breakdown
External Factors --> e.g. a change in government legislation
Due to? Management errors? Poor planning? Bad luck?

8. Losses or low profit
Remember that cash flow and profit is different but linked.
Sales revenue less than expenditure --> Usually have less cash than one making a healthy profit.
Also creditors and investors would be less likely to put money into a business that is not expecting to make profit in the future.
Unless a loss-making business can prove it will be profitable in the future, it will be difficult to overcome cash-flow problems.

Methods of improving cash flow

1. Bank overdraft
An agreement whereby the holder of a current account at a bank is allowed to withdraw more money than there is in the account. The agreement specifies the maximum level of the overdraft.

Benefits of an overdraft:

• Administrative convenience - Easy to arrange, once agreed= Confirmation only needed on an annual basis
• Flexibility - Flexible because it can be used to pay for whatever the business requires at the time
• Interest is paid on the amount owed - Only pay interest on the amount of the overdraft that is actually used. Paid on a daily basis.
• No security necessary - Unlike a bank loan, no collateral needed.

Problems of an overdraft:

• Variable interest payments - Based on flexible interest rates. The interest paid will rise and fall with the Bank of England's base rate. Difficult to budget accurately, as the bank may change its rate of interest on a monthly basis.
• Higher interest rate - Higher than a short-term bank loan. Overdraft can prove to be more expensive than a loan.
• Immediate repayment - Agreement to an overdraft means bank can demand immediate repayment. Business with cash flow problems may be forced to pay back the money to the bank at exactly the same time the business is most vulnerable.

2. Short-term Loan
A sum of money provided to a firm or individual for a specific, agreed purpose. Repayment of the loan will take place within two years, and possibly much less.

Benefits of a bank loan:

• Fixed interest repayments - Fixed rate of interest. The interest and repayment schedule is calculated at the time of the loan, so it is easy for a business to know whether it can afford to repay the loan. Easy to budget the loan repayments, can pay the same amount each month over the duration of the loan.
• Lower interest rate - Less than the rate charged on an overdraft. A cheaper solution to a cash-flow problem.

Problems with a bank loan:

• Higher interest repayments - Interest is paid on the whole of the sum borrowed. If the business has a healthy balance in its current account, it will not help reduce the interest repayments on the bank loan. Such payments will be a fixed sum every month. Consequently, bank loans can be more expensive than an overdraft despite the overdrafts high interest rate.
• Security - Must provide ban with security (collateral). Difficulties paying back the loan --> Bank can claim the amount owed by forcing a sale of asset. Major difficulties if asset is a large part of the business' operations.

3. Factoring (Debt factoring)
Factoring is when a factoring company (usually a bank) buys the right to collect the money from the credit sales of an organisation.

- Factoring agent usually pays the firm about 75% of its sales immediately and approximately 15-20% on receipt of the debt.
- Firm therefore loses some revenue (about 5-10% depending on length of time and current interest rate), which is the factoring company's charge for its service.

Benefits of factoring:

• Improved cash flow in the short term - Save expenses like overdraft interest charges and in extreme cases the immediate receipt of cash may keep the business alive by allowing it to pay off debts on time. Businesses who offer long credit periods to their customers in order to boost sales revenue, the immediate receipt of cash may be essential as it would be impossible for the business to wait a year for payment.
• Lower administration costs - Collecting and chasing debts is time-consuming and costly. The factoring agent specialises in this and could possibly collect more than one debt from the same firm.
• Reduced risk of bad debts - Factoring agent takes the risk and not the original company. Factoring agent can refuse to factor a debt which is too risky. Some firms contact the factoring agent before giving credit to a customer. Factoring companies have lists of customers who may be a high risk.
•  Increased efficiency - Encourages companies to be more careful with their provision of credit. If the business has a reputation for having no customers with bad debts attached to them, the factoring company will reduce the cost of factoring to that business. This will give firms an incentive to be more efficient in their provision of credit.

Problems of factoring:

• Loss of revenue - Business using factoring will lose 5-10% of its revenues. Reducing profit. But is possible to increase price charged to customers where credit terms are being offered.
• High Cost - Business pays more for the factoring company's services than it would to pay a bank for a loan (as there are admin expenses involved in chasing up debts). But there are admin savings from the business not having to chase up debts itself....
• Customer relations problems - Customers may prefer to deal directly with the business that sold them the product. An aggressive factoring company could upset certain customers, who will blame their bad experience on the original seller of the product.

4. Sales of Assets:
When a business transfers ownership of an item that it owns to another business or individual, usually in return for cash.

- Sales of assets --> Most likely to be used to overcome cash flow problems --> when a business is changing direction or moving out of a particular market.
- Sales of assets could be used to: ~  Pay a debt or ~ Build up a bank balance.

2 main benefits of sales of assets:

1. Income - It can raise a considerable sum of money particularly in the case of a large asset such as a building.

2. Profitability - A particular asset may not be contributing towards the business's overall success. In this case, the sale of the asset may ease cash-flow problems and enhance its overall profitability (as it is just adding to costs unnecessarily)

Problems of sales of assets:

1. Receiving a low value for the asset - Assets such as buildings or machinery --> Difficult to sell quickly, the business is looking for a quick sale --> Must accept a much lower price than true value.
May not be a good strategy --> damaging effect on long-term profitability.

2. Reduced ability to make a profit - Fixed assets enable a firm to produce the goods and services that create its profit. Exceptions= When assets are no longer required or when the cash-flow situation threatens the survival of the organisation.


5. Sale and leaseback of assets:
When assets that are owned by a firm are sold to raise cash and then rented back so that the company can still use them for an agreed period of time.

 





Other ways of improving cash flow
 
1. Improving working capital control
Working Capital: The day-to-day finance used in a business, consisting of assets (e.g. cash, stock and debtors) minus liabilities (e.g. creditors and overdrafts)
- Must manage working capital to stay solvent (solvent means you are able to pay off your debts)
- Involves careful control of firm's main current assets (cash, stock and debtors) to ensure enough is there to pay creditors and make other immediate payments.
 
2. Cash Management
If a firm is short of cash it has 2 main options:
- Agree to an overdraft with the bank
 
- Set aside a contingency fund so firm can meet unexpected payments or cope with lost income. In industries subject to more rapid change, a higher contingency fund should be kept.
 
3. Debt Management
4. Stock Management
5. Other Methods

(See Below)

Chapter 16: Using Budgets

What is a budget?

An agreed plan establishing, in numerical or financial terms, the policy to be pursued and the anticipated outcomes of that policy.

Advantages and Disadvantages of using a Budget

Features of Good Budgeting

• Be consistent with the aims of the business - meaning managers cannot fund projects that will boost their own careers or interests, rather than meet the needs of the company.
• Be based on the opinions of as many people as possible - Different people can provide different ideas and expertise. Helps budget holder come up with a realistic set of targets.
• Set challenging but realistic targets - SMART (Specific, measurable, agreed/achievable, realistic, timed)
• Be monitored at regular intervals, allowing for changes in the business and its environment - Remedial action can be taken or reasons for beating a target can be looked at.
• Be flexible - Allows for changing circumstances. Adjusting a inadequate budget (due to unforeseen circumstances) to a more realistic level.

Budgetary Control

Budgetary control is the establishment of the budget and the continuous comparison of actual and budgeted results in order to ascertain variances from the plan and to provide a basis for revision of the objective or strategy.


Variance Analysis

Variance analysis is the process by which the outcomes of budgets are examined and then compared with the budgeted figures. The reasons for an differences (variances) are then found.

• Favourable Variance: When costs are lower than expected or revenue is higher than expected. More profit than expected. Shown by 'F'.
• Adverse (Unfavourable) Variance: When costs are higher then expected or revenue is lower than expected. Less profit than expected. Shown by 'A'.

Variance is calculated by this formula:

Variance = Budget figure - Actual figure


Important Points to remember:

• A negative variance for an expenditure budget is an adverse variance (as you have spend more than you budgeted), while a negative variance for a revenue budget is favourable (as you have gained more income than you expected)
• Similarly, a positive variance for an expenditure budget is a favourable variance, while a positive variance for a revenue budget is an adverse variance.
• Other names for income budgets: Revenue budget and sales budget
• Other names for the expenditure budget is a cost budget.

For an adverse variance, providing the factor that caused it is under the firm's control, alternative methods can be investigated.
Favourable variances can be used to identify efficient methods that can be adopted more widely in the company.


Causes of variances in costs

Practice questions on this chapter here - it is a fun multiple choice quiz:

http://www.tutor2u.net/business/quiz/usingbudgets/quiz.html

Chapter 15: Assessing business start-ups

 

 

Why Start-ups can be risky and why many fail?

 

1/6 of new products succeed in the market place

Failure rate = 80%

 

Reasons for business failure=

• Poor cash flow management
• Lack of effective market research
• Lack of effective planning
• Lack of skills needed to run a business and lack of business training
• Problems in coordinating all the different aspects of the business
• Failure to turn what looks like a good idea into a profitable business
• Lack of finance to fund the business
• The actions of bigger competitors
• Difficulties in developing a solid customer base
• Difficulties in acquiring affordable premises
• Unexpected changes in demand for the product/service
• Unexpected changes in costs
• Delays and unavailability of supplies

Financial Difficulties: Raising Finance

The main issues are:

• It can be difficult to raise sufficient finance to get started. A new business has no 'track record', so lenders see it as much more of a risk than an established business.
• This 'risk' leads to higher interest rates being charged in order to balance the risk to the lender.
• Banks want collateral or security. This means owners putting up personal guarantees for any loans, offering their own assets (such as their homes or business premises). In effect, the owner is taking the risk rather than the lender.

These financial issues can:

- Slow growth of the business

- Threaten the survival of the business

- Affect the productivity of the business

- Affect the ability of the business to invest (e.g. in new machinery or premises)

 

Financial Difficulties: Cash Flow

• Profitable firms --> Impossible to keep trading --> Unable to meet current debts
• Cash tied up in stock that cannot be used immediately to pay bills
• Creditors slow to pay for its debts
• Business start-ups make a cash-flow forecast as part of the business plan --> Shows expected variation in working capital needed over time --> Indicate when overdraft facilities required to cover shortfalls.

Competition and the difficulties of building a customer base

 

The success of a business start-up will be determined by its ability to attract and retain customers. To do this, it will have to offer something more than any of its competitors and to gain customer loyalty.

 

Factors to consider when trying to encourage customer loyalty:

• Providing customers with service that is efficient and meets their expectations
• Providing a good after-sales service and dealing effectively and positively with customer complaints.
• Understanding customers' buying habits and ensuring that stock and staff availability are appropriate
• Ensuring that contact between customers and staff is always friendly and efficient.

 



Chapter 14: Setting Budgets

Budget: An agreed plan establishing, in numerical or financial terms, the policy to be pursued and the anticipated outcomes of that policy.

Management Accounting: The production and use of financial and accounting information for internal purposes of planning, review and control. It is based on predictions of what will happen and analysis of the actual outcomes in comparison to the original plans.

Income Budgets

An income budget shows the agreed, planned income of a business (or division of a business) over a period of time. Also called revenue budget or sales budget.

This could includes income from sales, rent received or sponsorship (if financial payments are being made by another firm that is using the business' activities for publicity purposes.

Expenditure Budgets

An expenditure budget shows the agreed, planned expenditure of a business (or division of a business) over a period of time.

Costs that may be found in an expenditure budget: Raw materials/components, labour costs, marketing expenditure, administration costs, rent and capital costs.

Start-ups may make a spate expenditure budget to budget for the items they need to start the business. For example: premises, furniture and office equipment, vehicles, insurance, legal costs, salaries and payroll taxes (such as employers' NICs), cleaning and other services.

Profit Budgets

A profit budget shows the agreed, planned profit of a business (or division of a business) over a period of time.

- Result of taking the income budget and subtracting it from the expenditure budget.

Profit = Income - Expenditure

Setting Budgets

- Budgets are usually stated in terms of financial targets, related to money allocated to support the organisation of a particular function.

The eight stages of budget setting:

Step 1= Set objectives - What are each budget trying to achieve?

Step 2= Carry out market research - To discover the probable level of sales volume and the market price for the product/s.

Step 3= Carry out research into costs - Based on sales volume expected

Step 4= Complete the income budget - Will show HOW MUCH needs to be PRODUCED

Step 5= Construct the expenditure budget - To find costs that will be incurred in achieving the sales target

Step 6= Create an overall profit budget - By combining Stage 4 and 5.

Step 7= Draw up divisional or departmental budgets - Done by managers responsible for each area of the business

Step 8= Summarise the detailed budgets in the master budget


Methods of setting Budgets

1. According to company objectives =

• More ambitious --> á budget needed allocated
• E.g. 2007, Blackpool Pleasure Beach. Budgeted additional £8 million for new attraction (The Infusion Ride). Aim= Improve visitor numbers to over 6 million again.

2. According to competitors' spending=

• Stay competitive --> Match spending of rivals.
• 2007, Tesco made a campaign of price comparisons between leading supermarkets. Other supermarkets respond by changing their income & expenditure budgets throughout sector.
• Start-ups - budget according to competitors' spending --> More competitive. Start-ups do this because they may be relatively unaware of typical levels of spending and income in their market.

3. As a % of Sales Revenue=

• Less scientific but fair
• Used by organisations (e.g. supermarkets + banks) when allocating budgets to branches
• Used to allocate budget to product managers

4. Zero budgeting=

• Allocated on the strength of the case presented by the project manager.
• Managers must justify all of the money allocated to them
• This ensures allocations are not excessive
• Based on expected outcomes

 

 

 

 

 

 

 

 

 

 

 

5. Budgeting according last year's budget allocation=

• Logic is that if the budget was suitable last year, it will be suitable this year.
• Common practice in markets that experience little change
• Uses last year's budget plus an allowance for inflation
• Used widely in public services such as the health service and education.

 

Reasons for setting budgets:

 

Problems of setting Budgets

1. Managers may not know enough about the division or department
- Hard to plan a reasonable budget
- Problem particularly acute to new firms or ventures

2. There may be problems in gathering information
- Start-ups may find it hard to get info from other firms
- Consequently, initial budgets made from guesswork, leading to lack of accuracy

3. There may be unforeseen changes
- Difficult to predict future
- Unforeseen changes will undermine the budgeting process

4. The level of inflation (price rises) is not easy to predict
- Businesses usually use the average inflation rates
- Some prices can change by greater levels
- E.g. Property prices have gone up by more than most other prices

5. Budgets may be imposed
- Budget holder should be involved in setting the budget level
- Often set by senior managers who misunderstand the needs of a certain area
- Resulting budget= Unfair, causing resentment + reducing morale
- If a budget is set by only the manager responsible --> Ignore potential scope for efficiency gains, fails to take account of developments outside the area of business.
- Ideally both senior manager and budget holder should be involved in budget setting

6. Setting a budget can be time-consuming
- Not worth it if only marginal improvements are made.