IB Business Management HL Unit 3 Finance and Accounts Questions

Build your IB Business Management HL Finance and Accounts foundation by interpreting financial evidence and evaluating finance decisions.

Exam points

Explain the role and key concepts of Unit 3 Finance and accounts in business decision-making.
Analyse how Unit 3 Finance and accounts affects business performance, stakeholders and management choices.
Evaluate strategies related to Unit 3 Finance and accounts using business evidence, context and relevant trade-offs.

Covered syllabus points

3.1 Introduction to finance 3.2 Sources of finance 3.3 Costs and revenues 3.4 Final accounts 3.5 Profitability and liquidity ratio analysis 3.6 Efficiency ratio analysis 3.7 Cash flow 3.8 Investment appraisal 3.9 Budgets

[Maximum number: 6]

Copper Health (CH)

Copper Health (CH) was the market leader in the production of anti-venom* vaccines to treat poisonous snake bites. CH's mission - influenced heavily by corporate social responsibility (CSR) - is to put customers first and profits second in the treatment of snake bites.
Despite 100000 deaths worldwide each year from snake bites and 400000 serious injuries, CH recently announced that it will no longer produce anti-venom vaccines. Several large Mexican, Brazilian and Indian pharmaceutical companies have entered the market selling anti-venom vaccines at a much lower price than CH.
A spokesperson for CH said: "We will remain a private limited company where corporate social responsibility (CSR) remains an important driving force for our mission. Our medical research is only financed from retained profit. When the lower-priced competition arrived, our sales and profits of anti-venom vaccines decreased significantly. Treating snakebites no longer makes financial sense. Instead, the technology used to produce anti-venom vaccines will be used to research and develop (R&D) other life-saving vaccines".
A non-governmental organization (NGO) has demanded action. "CH is the largest manufacturer of anti-venom vaccines in the world. Although CH's competitors are increasing their production of anti-venom vaccines they will not be able to produce enough to satisfy demand for the next two years. There will be a major shortage. This will result in many life-threatening injuries and deaths."
The non-governmental organization (NGO) has urged CH to seek new sources of finance to continue the production of the anti-venom vaccine.
* anti-venom: a medication made from antibodies that is used to treat venomous bites and stings

(a)

Define the term retained profit.

[ 2 ]

(b)

Explain two possible external sources of finance CH could use to continue production of anti-venom vaccines.

[ 4 ]

The question is sufficiently broad to allow candidates to explain a range of possible sources of finance, but any candidate who looks at internal organic sources, such as increasing sales/profits, must be not given credit.

Possible external sources include:
- As CH is a private limited company, the decision could be taken to raise funds through an initial public offering. CH could be "floated or listed" on the appropriate local share market to raise funds targeting ethical investors.
- Angel investors who have strong ethical/CSR intent could provide funds.
- The NGO has demanded action. Given the number of deaths and injuries from snakebites, the NGO could be approached to provide new finance or governments in those countries predominantly affected. There could be the possibility of a private public partnership.
- Bank loan. If candidates uses this source of finance, it is expected that the candidate either comments on the fact that is likely to come from banks with ethical objectives or from banks which accept the risk associated with CH's mission statement or that the bank is likely to give a loan for a cause such as saving lives.

It is expected that the candidates incorporate the ethical investors/ ethical support issues given the current mission statement of 'people before profit 'as application.

Candidates do not have to use the exact words as above but to show understanding that whoever provides the finance should believe in/ support CH's mission/able to justify given the finance that might be risky due to CH's mission and the possible impact on the population.

Accept any other relevant possible source. (grant, subsidies)
Donation is not really an applicable source of finance for what has to be done. CH is not a charity
Mark as 2 + 2.
- For an identification or a description of one possible source of external finance with or without application [1].
- For explanation of one source with no application [1].
- For explanation of one source and application [2].

Application must refer to the possible sources of finance for production of anti

venom vaccines.

[Maximum number: 2]

Sock Paradise (SP)
After conducting primary market research, Pam opened Sock Paradise (SP), which sells colourful socks. SP operates a retail stall in a large department store and sells online through its own website.
Table 2 shows selected financial data for SP for 2020.

Table 2: Selected financial data for SP for 2020

At the end of 2020, the department store told Pam that it would increase rent by $14000 per year starting on 1 January 2021. Pam forecast total sales for 2021 as 18000 pairs of socks; other costs and prices were forecast to remain unchanged.

Explain how the impact of the increase in rent and the forecast increase in sales in 2021 could affect SP's profitability.

SP's profitability will probably increase. The increase in rent will add $14000 to fixed costs. However, if the forecast sales are accurate and prices and costs do not change, then Pam can expect an additional $3000 \times \$ 5$ in sales revenue ($15 000).
N.B. the actual increase in profit is not required.

Award [1] if the candidates has shown some understanding that profitability is likely to increase Award an additional mark if in their explanation, they demonstrate some application by using figures from the case study.
N.B. Award [1] if the candidate explains increasing profitability without referring to both rent and sales forecast increases.
N.B. If candidates interpret "profitability" to mean ratios then do not penalize. The explanation would be that profitability decreases from 11.1\% to 9.88\%. For full marks some reference to the figures is necessary.

[Maximum number: 2]

Recruiting a new CEO
A company can spend a large amount of money to recruit a well-known and successful Chief Executive Officer (CEO) from outside the organization. However, recently published research suggests that recruiting externally is not only costly, but it is also risky, disruptive and demotivating.
Two long-term studies of 36 large public limited American companies found the following:
- The companies that promoted CEOs internally performed better than those that recruited externally.
- "Outsider" CEOs (recruited externally) have a significantly higher failure rate than "insider" CEOs (recruited internally). 40 % of "outsider" CEOs stayed for two years or less.
- The average financial reward package for "outsider" CEOs, including salary, bonuses and profit-related incentives, was 65 % higher than for those appointed internally.
- "Outsider" CEOs feel empowered to impose rapid change and to assert their authority on the company, even before they really understand the organizational culture. The arrival of an "outsider" CEO is often quickly followed by the departure of senior managers.
- "Outsider" CEOs are very good at rapid cost-cutting and eliminating unprofitable products/ activities, a skill that is very valuable when a competitive advantage needs to be gained or restored in a competitive environment.
Apple, Dell ${ }^{\mathrm{TM}}$ , Microsoft ${ }^{\circledR}$ , Intel ${ }^{\circledR}$ , McDonalds ${ }^{\circledR}$ and Nike ${ }^{\circledR}$ are successful American companies that appointed CEOs internally between 1998 and 2007.
A comparison of average performance indicators between 1998 and 2007 is shown below:

Table for Question 3 — IB Business Management HL

Some critics of the two American studies argue that companies promoting CEOs internally usually have a strong corporate culture and are already efficient and profitable. These critics also argue that the performance indicators in the table do not measure the exact contribution of individual CEOs.
(C) The Times 04 2013]

Explain the importance of earnings per share to a shareholder.

[Maximum number: 8]

Call it Magic (CIM)

Call it Magic (CIM) is an online jewellery store that sells silver earrings. It has completed its first year of trading, during which it sold 1000 pairs of earrings. CIM's selling prices are low compared to those of other jewellery stores. The average unit cost per pair of earrings is $5, and overhead costs are already at a minimum level.

Table 1: Selected financial information for CIM for the year ended 31 December 2022

(a)

Using relevant information provided above and in Table 1:

[ 6 ]

(i)

calculate CIM's cost of goods sold, X, in 2022 (show all your working);

[ 2 ]

(ii)

calculating Y and Z, construct a profit and loss account for CIM , for 2022;

[ 3 ]

Y = Net profit before interest and tax = gross profit - expenses = $\$7000$ - $\$500$ = $\$6500$ .
Z = Sales revenue = cost of goods sold + gross profit = $\$5000$ + $\$7000$ = $\$12000$ .

Profit and loss account for CIM for the year ended 31 December 2022:

Item	$
Sales revenue	12000 (Z)
Cost of goods sold	5000
Gross profit	7000
Expenses	500
Net profit before interest and tax	6500 (Y)
Interest	0
Net profit before tax	6500
Tax	650
Net profit after interest and tax	5850
Dividends	500
Retained profit	5350

Apply own figure rule (OFR).
Award [0] if candidate presents an unrecognizable profit and loss account, or has three or more errors.
Award [1] if the candidate conveys some idea of a profit and loss account (up to two mistakes).
Award [2] if the candidate constructs a fully recognizable profit and loss account but has one mistake (either in calculation or presentation).
Award [3] if the candidate constructs an accurate profit and loss account in the IB prescribed format. No extra irrelevant figures are included.
N.B. Do not penalize for lack of $ signs in profit and loss account if signs have been included in the calculations of Z and Y.
Do not penalize lack of heading/title.

(iii)

calculate CIM's net profit margin (no working required).

[ 1 ]

$\text{Net profit margin}=\left(\frac{\text{net profit before interest and tax}}{\text{sales revenue}}\right)\times 100$ $\mathrm{NPM}=\left(\frac{\$6500}{\$12000}\right)\times 100=54.1667\%$

Accept 54.2\%
Award [1] for the correct answer. Apply own figure rule (OFR). No working required. Do not penalize lack of \% sign, however, do penalize for excessive rounding i.e. 54, one decimal place is acceptable.

(b)

Explain one strategy CIM could use to improve its net profit margin.

[ 2 ]

All question bank results loaded

Covered syllabus points

Question 1

Question (a)

Question (b)

Question 2

Question 3

Question 4

Question (a)

Question (i)

Question (ii)

Question (iii)

Question (b)