Calculating GDP

In this module, you will learn

• how to calculate the GDP

• how to use moneychimp.com to further understand money flow in the
GDP - submodule includes 4-question GDP Money Flow Quiz
• how to calculate GDP in a practice example - submodule includes 1-
question GDP Calculation Quiz
• how to understand the role of Personal Savings and how to use U.S.
government information to verify the formula in the real world

Tutorial: How to calculate the GDP

The basic formula for calculating the GDP is:

Y = C + I + E + G

where

Y = GDP

C = Consumer Spending

I = Investment made by industry

E = Excess of Exports over Imports

G = Government Spending

This formula is almost self-evident (if you take time to think about it)!

GDP is a measure of all the goods and services produced domestically.

Therefore, to calculate the GDP, one only needs to add together the various
components of the economy that are a measure of all the goods and services
produced.
Many of the goods and services produced are purchased by consumers. So,
what consumers spend on them (C) is a measure of that component.

The next component is the somewhat mysterious quantity "I," or investment

made by industry. However, this quantity is mysterious only because
investment does not have its ordinary meaning. When calculating the GDP,
investment does NOT mean what we normally think of in the case of
individuals. It does not mean buying stocks and bonds or putting money in a
savings account (S in the diagram). When calculating the GDP, investment
means the purchases made by industry in new productive facilities, or, the
process of "buying new capital and putting it to use" (Gambs, John,
Economics and Man, 1968, p. 168). This includes, for example, buying a
new truck, building a new factory, or purchasing new software. This is
indicated in the diagram by an arrow pointing from one factory (enterprise)
to another. In essence, it shows the factory "reproducing itself" by buying
new goods and services that will produce still more new goods and services.
NOTE: There is a money-flow relationship between personal savings, S, and
investment, I, but this does not figure directly in calculating the GDP. See
Exercise 3 below.

The next component is E, or the difference between the value of all exports
and the value of all imports. If Exports exceeds imports, it adds to the GDP.
If not, it subtracts from the GDP. Thus, even if a nation's people work very
hard to produce products for exports, but still import more than they export,
the nation's GDP will be negatively impacted. This is one of the reasons
trade deficits are frequently a political target. Because the balance of trade
can be either positive or negative, we can rewrite the equation, showing the
components of E, using X for Exports and M for Imports:

Y = C + I + (X - M)+ G

You may see the formula for the GDP written this way, and it may be easier
for you to remember in this format.

The final component is G. The government buys (with your tax money)
goods and services (G). These purchases are a measure of those goods and
services produced. Be aware that many people make the mistake of thinking
that the money paid in taxes and spent by the government is "lost" and
therefore subtracts from the GDP. Tax money may indeed be spent
inefficiently but this fact has no bearing on the calculation of the GDP.
Exercise 1: Understanding Money Flow in the GDP Components

Study the diagram below (source: www.moneychimp.com). The solid

arrows indicate the components of the GDP, and the direction of the money
flows. The arrow indicating the Trade Deficit would be in the opposite
direction in the case of a Trade Surplus.

Source: www.moneychimp.com (labels added by MindTools)

Now go to the interactive version of this diagram at

http://www.moneychimp.com/articles/econ/gdp_diagram.htm. At the
MoneyChimp site, click on the various icons in the diagram (including the
arrows!) for more information about the U.S. GDP. Use the diagram to
answer the following questions. NOTE: The information given in the
diagram for the first two questions represents historical averages and may
not reflect the most current information. You may find the Glossary or other
areas of MoneyChimp useful as well.

1. What portion of the GDP is accounted for by Consumer Spending?

2. What percent of the GDP is "lost" or subtracted from the total due to the
trade deficit?
3. How does the money "lost" due to the trade deficit find its way back to the
U.S.?

4. How is "Investment" defined on the diagram?

Did you find the answers? Check yourself with the Money Flow Quiz!

Exercise 2: Practice Calculating the GDP

Atoll K is small island nation. Its population total is 400, and it has 100
wage earners who earn an average of $50 per year. Each wage earner spends
$40 per year buying local goods and services and $2.50 buying imports. The
island exports a total of $800 worth of goods. The Government tax rate is
10% and all government money is spent on building infrastrcuture and
supporting schools. There is only one industry (uranium mining) on the
island and it employs every wage earner. The industry spends $600 each
year on new mining equipment. What is the GDP? Check your answer with
the GDP Calculation Quiz!

Exercise 3: Understanding the Role of Personal Savings and Using U.S.

Government Figures to Verify the Formula

Now, let's look at the role played by personal savings. The diagram indicates
that personal savings (what we normally call "investment") is actually a
source of revenue for industry. This is because the money you put in the
bank is loaned to businesses so that they can put it to work. Money NOT
circulated in this way -- the money you stuff in a mattress -- would actually
be subtracted from the GDP. For the most part, however, people do not put
money in mattresses and the bank system uses the personal savings of
individuals to give industry its reservoir of money to work from. This is why
economists say that the amount of Savings is always going to be
approximately equal to the amount available for Investment. Savings and
Investment can become out of balance when there is more demand for
investment money than what is available from domestic savings. In that
case, more money is borrowed from foreign sources.

NOTE: Because additional Savings has the effect of supplying more money
to industry, some economists have argued that if we want to correct the
negative effect of the trade deficit (since it is subtracted from the GDP), we
should encourage Savings, which will indirectly boost Investment.
To see the actual GDP figures for the U.S., go to
http://www.gpoaccess.gov/eop/tables04.html. You may find this a useful site
for information. At this site, you can download Excel Tables showing you
the GDP from 1959 to the present. If you are adept at moving data and
eliminating unnecessary information, you can generate a chart like the one
below simply by editing the government-supplied chart. Notice that the GDP
calculation in the chart uses the same headings we gave above in the formula
for the GDP. An example calculation, made by plugging the chart entries for
the year 2000 into the formula is show below.

Y = C + I + E + G
9817.0 = 6739.4 + 1735.5 - 379.5 +
1721.6

Created on ... February 24, 2004 Revised 7:54 2/10/2009

India GDP Growth Rate

The Gross Domestic Product (GDP) in India expanded at an

annual rate of 8.80 percent in the last reported quarter.
From 2004 until 2010, India's average quarterly GDP Growth
was 8.37 percent reaching an historical high of 10.10
percent in September of 2006 and a record low of 5.50
percent in December of 2004. India's diverse economy
encompasses traditional village farming, modern
agriculture, handicrafts, a wide range of modern industries,
and a multitude of services. Services are the major source
of economic growth, accounting for more than half of
India's output with less than one third of its labor force. The
economy has posted an average growth rate of more than
7% in the decade since 1997, reducing poverty by about 10
percentage points. This page includes: India GDP Growth
Rate chart, historical data and news.

Interest Growth Inflation Jobless Current Exchange

Country
Rate Rate Rate Rate Account Rate
India 5.25% 8.80% 9.82% 8.00% -13 45.0150
Year Mar Jun Sep Dec
2010 8.60 8.80
2009 5.80 6.00 8.60 6.50
2008 8.50 7.80 7.50 6.10

India’s Second Quarter GDP Rises To 8.8%

Published: 9/5/2010 1:59:44 PM By: TradingEconomics.com,
MarketWatch

India's economy expanded 8.8% in the

second quarter from a year earlier,
compared to an 8.6% on-year expansion
in the first, lifted by robust activity in
manufacturing.
Agricultural output along with strong
development in the Industrial and Mining
sector has helped to boost the Indian
economy. Agricultural output rose 2.8 per
cent y-o-y thanks to improved harvests.
Industrial production increased by 12%
and in the mining sector by 9%.
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ANALYTICS
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However, in spite of strong supply data,
private consumption slumped to 0.3% y-
o-y in Q2 from 2.6% in Q1, fixed
investment has dropped to 3.7% from
17.7%, government consumption growth
was negative and both export and import
growth contracted.

The Reserve Bank Of India has stated that

it had seen an annual growth of 8.5%
steadily. The main priority of the Reserve
Bank is to curb the ongoing inflation,
which peaked at 11% last month. Interest
rates have been increased by the banks to
contain the inflation, but it could slow
down the growth of the Indian economy
in the coming months. But even thought
there has been a rise in the interest rates
there hasn’t been much change in the
distribution of loans, the Indian customer
is hardly affected with the hiked interest
rates.
InvestorWords.com

GNP

Definition
Gross National Product. GNP is the total value of all final goods and
services produced within a nation in a particular year, plus income earned by
its citizens (including income of those located abroad), minus income of
non-residents located in that country. Basically, GNP measures the value of
goods and services that the country's citizens produced regardless of their
location. GNP is one measure of the economic condition of a country, under
the assumption that a higher GNP leads to a higher quality of living, all
other things being equal.

Read more:
http://www.investorwords.com/2186/GNP.html#ixzz1pDKUtkj0

legal structures of a business

The legal structure a business chooses is fundamental to the way it operates. This legal
framework determines who shares in the profits and losses, how tax is paid, where legal
liabilities rests. It also determines the nature of a business' relationships with business
associates, investors, creditors and employees.

There are three options for a business' legal structure:

(1) Sole Trader

An individual who runs an unincorporated business on his or her own. Sometimes
otherwise known as a "sole proprietor" or (in the case of professional services) a"sole
practitioner".

The sole trader structure is the most straight-forward option. The individual is taxed
under the Inland Revenue's Self-Assessment system, with income tax calculated after
deduction for legitimate business expenses and personal allowances. A sole trader is
personally liable for the debts of the business, but also owns all the profits.

(2) Partnership
A partnership is an association of two or more people formed for the purpose of carrying
on a business. Partnerships are governed by the Partnership Act (1890). Unlike an
incorporated company (see below), a partnership does not have a "legal personality" of its
own. Therefore the Partners are liable for any debts of the business.
Partner liability can take several forms. General Partners (the usual situation) are fully
liable for business debts. Limited Partners are limited to the amount of investment they
have made in the Partnership. Nominal Partners also sometimes exist. These are people
who allow their names top be used for the benefit of the partnership, usually for
remuneration, but they do not get a share of the partnership profits.

The operation of a partnership is usually governed by a "Partnership Agreement". The

specific terms of this agreement are determined by the partners themselves, covering
issues such as:

- Profit-sharing - normally, partners share equally in the profits;

- Entitlement to receive salaries and other benefits in kind (e.g. cars, health insurance)
- Interest on capital (the amount invested in the partnership)
- Arrangements for the introduction of new partners
- Arrangements for retiring partners
- What happens when the partnership is dissolved

(3) Incorporated Company

Incorporating business activities into a company confers life on the business as a
"separate legal person". Profits and losses are the company's and it has its own debts and
obligations. The company continues despite the resignation, death or bankruptcy of
management or shareholders. A company also offers the best vehicle for expansion and
the provision of outside investors.

There are four main types of company:

(1) Private company limited by shares - members' liability is limited to the amount
unpaid on shares they hold

(2) Private company limited by guarantee - members' liability is limited to the amount
they have agreed to contribute to the company's assets if it is wound up.

(3) Private unlimited company - there is no limit to the members' liability

(4) Public limited company (PLC) - the company's shares may be offered for sale to the
general public and members' liability is limited to the amount unpaid on shares held by
them.

Specific arrangements are required for public limited companies. The company must
have a name ending with the initials "plc" and have an authorised share capital of at least
£50,000 of which at least £12,5000 must be paid up. The company's "Memorandum of
Association" must comply with the format in Table F of the Companies Regulations
(1985). The company may offer shares and securities to the public. In return for this right
to issue shares publicly, a public limited company is subject to much stricter regulation,
particularly in relation to the publication of financial information.

The vast majority of companies incorporated in the UK and in other major industrialised
countries are private companies limited by shares - "private limited liability companies".

The Office of the Registrar of Companies" (based in Cardiff) maintains a record of all
UK private and public companies, their shareholders, directors and financial information.
All this information has to be provided by Companies by law and is available to any
member of the public for a small charge. You can search the Companies House databases
at http://ws2.companieshouse.gov.uk/index.shtml

advantages of a limited company

Whilst many businesses prefer to trade as a sole trader or a partnership, nearly all
significant businesses operate as an incorporated company. The main advantages of
incorporation via a limited company are summarised below:

Separate Legal Identity

A limited company has a legal existence separate from management and its members (the
shareholders)

Members' liability is limited ("limited liability")

The protection given by limited liability is perhaps the most important advantage of
incorporation. The members' only liability is for the amount unpaid on their shares. Since
most private companies issue shares as "fully paid", if things go wrong, a members' only
loss is the value of the shares and any loans made to the company. Personal assets are not
put at risk. The protection of limited liability does not, however, apply to fraud. Company
directors have a legal duty not to incur liabilities in their companies which they have
reason to believe the company may not be able to pay. If creditors lose money through
director fraud, the directors' personal liability is without limit.

Protection of Company Name

The choice of company names is restricted and, providing a chosen name complies with
the rules, no-one else can use it. The only protection for sole traders and partnerships is
trademark legislation.

Continuity
Once formed, a company has everlasting life. Directors, management and employees act
as agent of the company. If they leave, retire, die - the company remains in existence. A
company can only be terminated by winding up, liquidation or other order of the courts or
Registrar of Companies.

New Shareholders and Investors can be easily introduced

The issue, transfer or sale of shares is a relatively straightforward process - although

existing shareholders are protected via their "preemption" rights and by company
legislation that seeks to protect the interests of minority investors.

The process of lending to a company is also easier than with other business forms. The
lending bank may be able to secure its loan against certain assets of the business (a
"floating charge") or against the business as a whole ("fixed charge".

Better Pension Schemes

Approved company pension schemes usually provide better benefits than those paid
under contracts to self-employed sole trading businesses.

Taxation

Sole traders and partnerships pay income tax. Companies pay Corporation tax on their
taxable profits. There is a wider range of allowances and tax-deductible costs that can be
offset against a company's profits. In addition, the current level of Corporation Tax is
lower than income tax rates.

introduction to raising finance

When a company is growing rapidly, for example when contemplating investment in
capital equipment or an acquisition, its current financial resources may be inadequate.
Few growing companies are able to finance their expansion plans from cash flow alone.
They will therefore need to consider raising finance from other external sources. In
addition, managers who are looking to buy-in to a business ("management buy-in" or
"MBI") or buy-out (management buy-out" or "MBO") a business from its owners, may
not have the resources to acquire the company. They will need to raise finance to achieve
their objectives.

There are a number of potential sources of finance to meet the needs of a growing
business or to finance an MBI or MBO:

- Existing shareholders and directors funds

- Family and friends
- Business angels
- Clearing banks (overdrafts, short or medium term loans)
- Factoring and invoice discounting
- Hire purchase and leasing
- Merchant banks (medium to longer term loans)
- Venture capital

A key consideration in choosing the source of new business finance is to strike a balance
between equity and debt to ensure the funding structure suits the business.

The main differences between borrowed money (debt) and equity are that bankers request
interest payments and capital repayments, and the borrowed money is usually secured on
business assets or the personal assets of shareholders and/or directors. A bank also has
the power to place a business into administration or bankruptcy if it defaults on debt
interest or repayments or its prospects decline.

In contrast, equity investors take the risk of failure like other shareholders, whilst they
will benefit through participation in increasing levels of profits and on the eventual sale
of their stake. However in most circumstances venture capitalists will also require more
complex investments (such as preference shares or loan stock) in additional to their
equity stake.

The overall objective in raising finance for a company is to avoid exposing the business
to excessive high borrowings, but without unnecessarily diluting the share capital. This
will ensure that the financial risk of the company is kept at an optimal level.

Business Plan

Once a need to raise finance has been identified it is then necessary to prepare a business
plan. If management intend to turn around a business or start a new phase of growth, a
business plan is an important tool to articulate their ideas while convincing investors and
other people to support it. The business plan should be updated regularly to assist in
forward planning.

There are many potential contents of a business plan. The European Venture Capital
Association suggest the following:

- Profiles of company founders directors and other key managers;

- Statistics relating to sales and markets;
- Names of potential customers and anticipated demand;
- Names of, information about and assessment of competitors;
- Financial information required to support specific projects (for example, major capital
investment or new product development);
- Research and development information;
- Production process and sources of supply;
- Information on requirements for factory and plant;
- Magazine and newspaper articles about the business and industry;
- Regulations and laws that could affect the business product and process protection
(patents, copyrights, trademarks).

The challenge for management in preparing a business plan is to communicate their ideas
clearly and succinctly. The very process of researching and writing the business plan
should help clarify ideas and identify gaps in management information about their
business, competitors and the market.

Types of Finance - Introduction

A brief description of the key features of the main sources of business finance is provided
below.

Venture Capital

Venture capital is a general term to describe a range of ordinary and preference shares
where the investing institution acquires a share in the business. Venture capital is
intended for higher risks such as start up situations and development capital for more
mature investments. Replacement capital brings in an institution in place of one of the
original shareholders of a business who wishes to realise their personal equity before the
other shareholders. There are over 100 different venture capital funds in the UK and
some have geographical or industry preferences. There are also certain large industrial
companies which have funds available to invest in growing businesses and this 'corporate
venturing' is an additional source of equity finance.

Grants and Soft Loans

Government, local authorities, local development agencies and the European Union are
the major sources of grants and soft loans. Grants are normally made to facilitate the
purchase of assets and either the generation of jobs or the training of employees. Soft
loans are normally subsidised by a third party so that the terms of interest and security
levels are less than the market rate. There are over 350 initiatives from the Department of
Trade and Industry alone so it is a matter of identifying which sources will be appropriate
in each case.

Invoice Discounting and Invoice Factoring

Finance can be raised against debts due from customers via invoice discounting or
invoice factoring, thus improving cash flow. Debtors are used as the prime security for
the lender and the borrower may obtain up to about 80 per cent of approved debts. In
addition, a number of these sources of finance will now lend against stock and other
assets and may be more suitable then bank lending. Invoice discounting is normally
confidential (the customer is not aware that their payments are essentially insured)
whereas factoring extends the simple discounting principle by also dealing with the
administration of the sales ledger and debtor collection.

Hire Purchase and Leasing

Hire purchase agreements and leasing provide finance for the acquisition of specific
assets such as cars, equipment and machinery involving a deposit and repayments over,
typically, three to ten years. Technically, ownership of the asset remains with the lessor
whereas title to the goods is eventually transferred to the hirer in a hire purchase
agreement.

Loans

Medium term loans (up to seven years) and long term loans (including commercial
mortgages) are provided for specific purposes such as acquiring an asset, business or
shares. The loan is normally secured on the asset or assets and the interest rate may be
variable or fixed. The Small Firms Loan Guarantee Scheme can provide up to £250,000
of borrowing supported by a government guarantee where all other sources of finance
have been exhausted.

Mezzanine Debt

This is a loan finance where there is little or no security left after the senior debt has been
secured. To reflect the higher risk of mezzanine funds, the lender will charge a rate of
interest of perhaps four to eight per cent over bank base rate, may take an option to
acquire some equity and may require repayment over a shorter term.

Bank Overdraft

An overdraft is an agreed sum by which a customer can overdraw their current account. It
is normally secured on current assets, repayable on demand and used for short term
working capital fluctuations. The interest cost is normally variable and linked to bank
base rate.

Completing the finance-raising

Raising finance is often a complex process. Business management need to assess several
alternatives and then negotiate terms which are acceptable to the finance provider. The
main negotiating points are often as follows:

- Whether equity investors take a seat on the board

- Votes ascribed to equity investors
- Level of warranties and indemnities provided by the directors
- Financier's fees and costs
- Who bears costs of due diligence.

During the finance-raising process, accountants are often called to review the financial
aspects of the plan. Their report may be formal or informal, an overview or an extensive
review of the company's management information system, forecasting methods and their
accuracy, review of latest management accounts including working capital, pension
funding and employee contracts etc. This due diligence process is used to highlight any
fundamental problems that may exist.

Zero Based Budgeting (ZBB)

Zero based budget

• Start each budget period afresh-not based on historical data

• Budgets are zero unless managers make the case for resources-the relevant manager
must justify the whole of the budget allocation

• It means that each activity is questioned as if it were new before any resources are
allocated to it.

• Each plan of action has to be justified in terms of total cost involved and total benefit to
accrue, with no reference to past activities.

• Zero based budgets are designed to prevent budgets creeping up each year with inflation

Advantages of ZBB

• Forces budget setters to examine every item.

• Allocation of resources linked to results and needs.

• Develops a questioning attitude.

• Wastage and budget slack should be eliminated.

• Prevents creeping budgets based on previous year’s figures with an added on

percentage.

• Encourages managers to look for alternatives.

Disadvantages of ZBB
• It a complex time consuming process

• Short term benefits may be emphasised to the detriment of long term planning

• Affected by internal politics - can result in annual conflicts over budget allocation

Purpose and Role of Budgets

Six Key Purposes of Budgets

• A method of planning the use of resources

• A vehicle for forecasting

• A means of controlling the activities of various groups within the firm

• A means of motivating individuals to achieve performance levels agreed and set.

• A means of communicating the wishes and aspirations of senior management

• A means of resolving conflicts of interest between groups with the organization

Role of Budgets

• To aid the planning of the organisation in a systematic and logical manner that adheres
to the long term strategy
• To determine direction
• To forecast outcomes
• To allocate resources
• To promote forward thinking
• To turn strategic objectives into practical reality
• To establish priorities.
• To set targets in numerical terms
• To provide direction and co-ordination
• To communicate objectives, opportunities and plans various managers.
• To assign responsibilities.
• To allocate resources.
• To delegate without loss of control.
• To provide motivation for managers to achieve goals
• To motivate staff.
• To improve efficiency.
• To establish targets and standards which employees are motivated to achieve
• To evaluate performance against the budget
• To provide a framework for evaluating the performance of managers in meeting
individual and department targets
• To control activities by measuring progress against the original plan, making
adjustments where necessary
• To control income and expenditure
• To facilitates management by exception
• To take remedial action when there is deviation from the plan

Annual Report and Accounts -

Introduction
Annual report
• An annual report is a document produced annually by companies designed to portray a
true and fair view of the company’s annual performance, with audited financial
statements prepared in accordance with company law and other regulatory requirements,
and also containing other non-financial information.
• The Companies Act 1985/9 requires companies to publish their annual report and
accounts.
• It should include:
– A balance sheet
– A profit and loss account
– A cash flow statement
– A Directors Report

Stakeholders in the annual report

• Shareholders (the owners of the business).
• Potential shareholders.
• Managers and employees.
• Creditors and potential creditors.
• Suppliers – especially if the supply goods on credit.
• Employees and their trade unions.
• The government – for tax purposes.

Functions of the annual report

• The stewardship and accountability function
– Reporting to shareholders.
• The decision making function
– To provide information about performance and changes in the financial position of an
enterprise that is useful to a wide range of users in making economic decisions.
– Providing users, especially shareholders with financial information so that they can
make decisions such as buying or selling shares.
• The public relations function
– The annual report is an opportunity to publicise the corporate image
A true and fair view
• Directors are responsible for the preparation of the accounts which must give a true and
fair view.
• A true and fair view is one where accounts reflect what has happened and do not
mislead the readers.
• The accounts must be prepared in accordance with relevant accounting standards.

Information to be included
• The rules governing the content of the annual report are derived from:
• Statute law - the Companies Act
• Accounting standards
• Stock Exchange rules
• Codes of best practice in corporate governance.

Companies Act 1985/9

• Directors have stewardship of limited companies.
• Directors are required to publish accounts which show a true and fair view of the
company’s financial position.
• Accounts must be sent to:
– All shareholders
– All debenture holders
– The Registrar of Companies at Companies House.
– This must be done within 10 months of the year-end for a private company and within 7
months of the year end in the case of a public company

introduction to the profit and loss account

Richard Bowett introduces the important concept of the profit and loss account:

Introduction - the Meaning of Profit

The starting point in understanding the profit and loss account is to be clear about the
meaning of "profit".

Profit is the incentive for business; without profit people wouldn't’t bother. Profit is the
reward for taking risk; generally speaking high risk = high reward (or loss if it goes
wrong) and low risk = low reward. People won’t take risks without reward. All business
is risky (some more than others) so no reward means no business. No business means no
jobs, no salaries and no goods and services.

This is an important but simple point. It is often forgotten when people complain about
excessive profits and rewards, or when there are appeals for more taxes to pay for eg
more policemen on the streets.
Profit also has an important role in allocating resources (land, labour, capital and
enterprise). Put simply, falling profits (as in a business coming to an end eg black-and-
white TVs) signal that resources should be taken out of that business and put into another
one; rising profits signal that resources should be moved into this business. Without these
signals we are left to guess as to what is the best use of society’s scarce resources.

People sometimes say that government should decide (or at least decide more often) how
much of this or that to make, but the evidence is that governments usually do a bad job of
this e.g. the Dome.

The Task of Accounting - Measuring Profit

The main task of accounts, therefore, is to monitor and measure profits.

Profit = Revenue less Costs

So monitoring profit also means monitoring and measuring revenue and costs. There are
two parts to this:-

1) Recording financial data. This is the ‘book-keeping’ part of accounting.

2) Measuring the result. This is the ‘financial’ part of accounting. If we say ‘profits are
high’ this begs the question ‘high compared to what?’ (You can look at this idea in more
detail when covering Ratio Analysis)

Profits are ‘spent’ in three ways.

1) Retained for future investment and growth.

2) Returned to owners eg a ‘dividend’.
3) Paid as tax.

Parts of the Profit and Loss Account

The Profit & Loss Account aims to monitor profit. It has three parts.

1) The Trading Account.

This records the money in (revenue) and out (costs) of the business as a result of the
business’ ‘trading’ ie buying and selling. This might be buying raw materials and selling
finished goods; it might be buying goods wholesale and selling them retail. The figure at
the end of this section is the Gross Profit.

2) The Profit and Loss Account proper

This starts with the Gross Profit and adds to it any further costs and revenues, including
overheads. These further costs and revenues are from any other activities not directly
related to trading. An example is income received from investments.

3) The Appropriation Account. This shows how the profit is ‘appropriated’ or divided
between the three uses mentioned above.

Uses of the Profit and Loss Account.

1) The main use is to monitor and measure profit, as discussed above. This assumes that
the information recording is accurate. Significant problems can arise if the information is
inaccurate, either through incompetence or deliberate fraud.

2) Once the profit(loss) has been accurately calculated, this can then be used for
comparison ie judging how well the business is doing compared to itself in the past,
compared to the managers’ plans and compared to other businesses.

3) There are ways to ‘fix’ accounts. Internal accounts are rarely ‘fixed’, because there is
little point in the managers fooling themselves (unless fraud is going on) but public
accounts are routinely ‘fixed’ to create a good impression out to the outside world. If you
understand accounts, you can usually (not always) spot these ‘fixes’ and take them out to
get a true picture.

Example Profit and Loss Account:

An example profit and loss account is provided below:

£'000 £'000
Revenue 12,500 10,000
Cost of Sales 7,500 6,000

Gross Profit 5,000 4,000

Gross profit margin (gross profit / revenue) 40% 40%

Operating Costs
Sales and distribution 1,260 1,010
Finance and administration 570 555
Other overheads 970 895
Depreciation 235 210
Total Operating Costs 3,035 2,670

Operating Profit (gross profit less operating costs) 1,965 1,330

Operating profit margin (operating profit / revenue) 15.7% 13.3%
Interest (450) (475)

Profit before Tax 1,515 855

Taxation (455) (255)

Profit after Tax 1,060 600

Dividends 650 400

Retained Profits 410 200

what is financial management?

Introduction

Financial Management can be defined as:

The management of the finances of a business / organisation in order to achieve

financial objectives

Taking a commercial business as the most common organisational structure, the key
objectives of financial management would be to:

• Create wealth for the business

• Generate cash, and

• Provide an adequate return on investment bearing in mind the risks that the business is
taking and the resources invested

There are three key elements to the process of financial management:

(1) Financial Planning

Management need to ensure that enough funding is available at the right time to meet the
needs of the business. In the short term, funding may be needed to invest in equipment
and stocks, pay employees and fund sales made on credit.

In the medium and long term, funding may be required for significant additions to the
productive capacity of the business or to make acquisitions.

(2) Financial Control

Financial control is a critically important activity to help the business ensure that the
business is meeting its objectives. Financial control addresses questions such as:

• Are assets being used efficiently?

• Are the businesses assets secure?

• Do management act in the best interest of shareholders and in accordance with business
rules?

(3) Financial Decision-making

The key aspects of financial decision-making relate to investment, financing and

dividends:

• Investments must be financed in some way – however there are always financing
alternatives that can be considered. For example it is possible to raise finance from
selling new shares, borrowing from banks or taking credit from suppliers

• A key financing decision is whether profits earned by the business should be retained
rather than distributed to shareholders via dividends. If dividends are too high, the
business may be starved of funding to reinvest in growing revenues and profits further.

working capital cycle

Introduction

The working capital cycle can be defined as:

The period of time which elapses between the point at which cash begins to be
expended on the production of a product and the collection of cash from a customer

The diagram below illustrates the working capital cycle for a manufacturing firm
The upper portion of the diagram above shows in a simplified form the chain of events in
a manufacturing firm. Each of the boxes in the upper part of the diagram can be seen as a
tank through which funds flow. These tanks, which are concerned with day-to-day
activities, have funds constantly flowing into and out of them.

• The chain starts with the firm buying raw materials on credit.

• In due course this stock will be used in production, work will be carried out on the
stock, and it will become part of the firm’s work in progress (WIP)

• Work will continue on the WIP until it eventually emerges as the finished product

• As production progresses, labour costs and overheads will need to be met

• Of course at some stage trade creditors will need to be paid

• When the finished goods are sold on credit, debtors are increased

• They will eventually pay, so that cash will be injected into the firm

Each of the areas – stocks (raw materials, work in progress and finished goods), trade
debtors, cash (positive or negative) and trade creditors – can be viewed as tanks into and
from which funds flow.
Working capital is clearly not the only aspect of a business that affects the amount of
cash:

• The business will have to make payments to government for taxation

• Fixed assets will be purchased and sold

• Lessors of fixed assets will be paid their rent

• Shareholders (existing or new) may provide new funds in the form of cash

• Some shares may be redeemed for cash

• Dividends may be paid

• Long-term loan creditors (existing or new) may provide loan finance, loans will need to
be repaid from time to time, and

• Interest obligations will have to be met by the business.

Unlike movements in the working capital items, most of these ‘non-working capital’ cash
transactions are not everyday events. Some of them are annual events (e.g. tax payments,
lease payments, dividends, interest and, possibly, fixed asset purchases and sales). Others
(e.g. new equity and loan finance and redemption of old equity and loan finance) would
typically be rarer events.

comparison of financial and management

accounting
There are two broad types of accounting information:

• Financial Accounts: geared toward external users of accounting information

• Management Accounts: aimed more at internal users of accounting information

Although there is a difference in the type of information presented in financial and

management accounts, the underlying objective is the same - to satisfy the information
needs of the user.
Financial Accounts Management Accounts
Financial accounts describe the Management accounts are used to help
performance of a business over a specific management record, plan and control the
period and the state of affairs at the end of activities of a business and to assist in the
that period.� The specific period is often decision-making process.� They can be
referred to as the "Trading Period" and is prepared for any period (for example, many
usually one year long.� The period-end retailers prepare daily management
date as the "Balance Sheet Date" information on sales, margins and stock
levels).
Companies that are incorporated under the There is no legal requirement to prepare
Companies Act 1989 are required by law management accounts, although few (if any)
to prepare and publish financial well-run businesses can survive without them.
accounts.� The level of detail required in
these accounts reflects the size of the
business with smaller companies being
required to prepare only brief accounts.
The format of published financial accounts There is no pre-determined format for
is determined by several different management accounts.� They can be as
regulatory elements: detailed or brief as management wish.

� Company Law

� Accounting Standards

� Stock Exchange
Financial accounts concentrate on the
business as a whole rather than analysing
the component parts of the business.� For
example, sales are aggregated to provide a
figure for total sales rather than publish a
detailed analysis of sales by product,
market etc.
Management accounts can focus on specific
areas of a business' activities.� For example,
they can provide insights into performance of:
� Products
� Separate business locations (e.g. shops)

� Departments / divisions
Financial Accounts Management Accounts
Most financial accounting information is Management accounts usually include a wide
of a monetary nature variety of non-financial information.� For
example, management accounts often include
analysis of:

- Employees (number, costs, productivity etc.)

- Sales volumes (units sold etc.)

−Customer transactions (e.g. number of calls

received into a call centre)
By definition, financial accounts present a Management accounts largely focus on
historic perspective on the financial analysing historical performance.� However,
performance of the business they also usually include some forward-
looking elements - e.g. a sales budget; cash-
flow forecast.

motivation in practice - job rotation

What is Job Rotation?

Job rotation involves the movement of employees through a range of jobs in order to
increase interest and motivation.

Job rotation can improve “multi-skilling” but also involves the need for greater training.

In a sense, job rotation is similar to job enlargement. This approach widens the activities
of a worker by switching him or her around a range of work.

For example, an administrative employee might spend part of the week looking after the
reception area of a business, dealing with customers and enquiries. Some time might then
be spent manning the company telephone switchboard and then inputting data onto a
database.

Job rotation may offer the advantage of making it easier to cover for absent colleagues,
but it may also reduce' productivity as workers are initially unfamiliar with a new task.

Why is Job Rotation Important?

Job rotation is seen as a possible solution to two significant challenges faced by business:

(1) Skills shortages and skills gaps, and

(2) Employee motivation

Skills shortages occur when there is a lack of skilled individuals in the workforce.

Skills gaps occur when there is a lack of skills in a company’s existing workforce which
may still be found in the labour force as a whole.

According to the Treasury and DfES, both skills shortages and gaps are major problems
acting as major barriers to economic growth and the reduction in long-term
unemployment in the UK

marketing concept and orientation

It is a fundamental idea of marketing that organisations survive and prosper through
meeting the needs and wants of customers. This important perspective is commonly
known as the marketing concept.

The marketing concept is about matching a company's capabilities with customer

wants. This matching process takes place in what is called the marketing environment.

Businesses do not undertake marketing activities alone. They face threats from
competitors, and changes in the political, economic, social and technological
environment. All these factors have to be taken into account as a business tries to match
its capabilities with the needs and wants of its target customers.

An organisation that adopts the marketing concept accepts the needs of potential
customers as the basis for its operations. Success is dependent on satisfying customer
needs.

What are customer needs and wants?

A need is a basic requirement that an individual wishes to satisfy.

People have basic needs for food, shelter, affection, esteem and self-development. Many
of these needs are created from human biology and the nature of social relationships.
Customer needs are, therefore, very broad.

Whilst customer needs are broad, customer wants are usually quite narrow.

A want is a desire for a specific product or service to satisfy the underlying need.

Consider this example:

Consumers need to eat when they are hungry.

What they want to eat and in what kind of environment will vary enormously. For some,
eating at McDonalds satisfies the need to meet hunger. For others a microwaved ready-
meal meets the need. Some consumers are never satisfied unless their food comes served
with a bottle of fine Chardonnay.

Consumer wants are shaped by social and cultural forces, the media and marketing
activities of businesses.

This leads onto another important concept - that of customer demand:

Consumer demand is a want for a specific product supported by an ability and

willingness to pay for it.

For example, many consumers around the globe want a Mercedes. But relatively few are
able and willing to buy one.

Businesses therefore have not only to make products that consumers want, but they also
have to make them affordable to a sufficient number to create profitable demand.

Businesses do not create customer needs or the social status in which customer needs are
influenced. It is not McDonalds that makes people hungry. However, businesses do try to
influence demand by designing products and services that are

• Attractive
• Work well
• Are affordable
• Are available

Businesses also try to communicate the relevant features of their products through
advertising and other marketing promotion.

Which leads us finally to an important summary point.

promotion - sales promotion

Introduction

A good definition of sales promotion would be as follows:

“An activity designed to boost the sales of a product or service. It may include an
advertising campaign, increased PR activity, a free-sample campaign, offering free gifts
or trading stamps, arranging demonstrations or exhibitions, setting up competitions with
attractive prizes, temporary price reductions, door-to-door calling, telemarketing,
personal letters on other methods”.

More than any other element of the promotional mix, sales promotion is about “action”. It
is about stimulating customers to buy a product. It is not designed to be informative – a
role which advertising is much better suited to.

Sales promotion is commonly referred to as “Below the Line” promotion.

Sales promotion can be directed at:

• The ultimate consumer (a “pull strategy” encouraging purchase)

• The distribution channel (a “push strategy” encouraging the channels to stock the
product). This is usually known as “selling into the trade”

Methods of sales promotion

There are many consumer sales promotional techniques available, summarised in the
table below:

Price promotions

Price promotions are also commonly known as” price discounting”

These offer either (1) a discount to the normal selling price of a product, or (2) more of
the product at the normal price.

Increased sales gained from price promotions are at the expense of a loss in profit – so
these promotions must be used with care.

A producer must also guard against the possible negative effect of discounting on a
brand’s reputation

Coupons
Coupons are another, very versatile, way of offering a discount. Consider the following
examples of the use of coupons:

- On a pack to encourage repeat purchase

- In coupon books sent out in newspapers allowing customers to redeem the coupon at a
retailer
- A cut-out coupon as part of an advert
- On the back of till receipts

The key objective with a coupon promotion is to maximise the redemption rate – this is
the proportion of customers actually using the coupon.

One problem with coupons is that they may simply encourage customers to buy what
they would have bought anyway. Another problem occurs when retailers do not hold
sufficient stocks of the promoted product – causing customer disappointment.

Use of coupon promotions is, therefore, often best for new products or perhaps to
encourage sales of existing products that are slowing down.

Gift with purchase

The “gift with purchase” is a very common promotional technique. It is also known as a
“premium promotion” in that the customer gets something in addition to the main
purchase. This type of promotion is widely used for:

- Subscription-based products (e.g. magazines)

- Consumer luxuries (e.g. perfumes)

Competitions and prizes

Another popular promotion tool with many variants. Most competition and prize
promotions are subject to legal restrictions.

Money refunds

Here, a customer receives a money refund after submitting a proof of purchase to the
manufacturer.
These schemes are often viewed with some suspicion by customers – particularly if the
method of obtaining a refund looks unusual or onerous.

Frequent user / loyalty incentives

Repeat purchases may be stimulated by frequent user incentives. Perhaps the best
examples of this are the many frequent flyer or user schemes used by airlines, train
companies, car hire companies etc.
Point-of-sale displays

Research into customer buying behaviour in retail stores suggests that a significant
proportion of purchases results from promotions that customers see in the store.
Attractive, informative and well-positioned point-of-sale displays are, therefore, very
important part of the sales promotional activity in retail outlets.

promotion - direct marketing

Introduction

Direct marketing is concerned with establishing an individual relationship between the

business offering a product or service and the final customer.

Direct marketing has been defined by the Institute of Direct Marketing as:

The planned recording, analysis and tracking of customer behaviour to develop a

relational marketing strategies

The process of direct marketing covers a wide range of promotional activities you may be
familiar with. These include:

• Direct-response adverts on television and radio

• Mail order catalogues
• E-commerce (you bought this marketing companion following tutor2u’s direct
marketing campaign!)
• Magazine inserts
• Direct mail (sometimes also referred to as “junk mail”)
• Telemarketing

Direct mail

Of the above direct marketing techniques, the one in most widespread use is direct mail.

Direct mail is widely thought of as the most effective medium to achieve a customer sales
response.

Why?

• The advertiser can target a promotional message down to an individual level, and where
possible personalise the message. There are a large number of mailing databases
available that allow businesses to send direct mailing to potential customers based on
household income, interests, occupation and other variables
• Businesses can first test the responsiveness of direct mailing (by sending out a test
mailing to a small, representative sample) before committing to the more significant cost
of a larger campaign

• Direct mailing campaigns are less visible to competitors – it is therefore possible to be

more creative, for longer

However, direct mail has several weaknesses:

• A piece of direct mail is less “interactive” than a television or radio advert, although
creative packaging can still stimulate customer response

• Lead times to produce direct mailing campaigns can be quite long

• There is increasing customer concern with “junk mail” – the receipt of unsolicited mail
which often suggests that the right to individual privacy has been breached.

The Direct marketing database

Direct mailing is based on the “mailing list” – a critical part in the direct marketing
process. The mailing list is a database which collects together details of past, current and
potential customers. A properly managed mailing database enables a business to:

• Focus on the best prospective customers

• Cross-sell related products

• Launch new products to existing customers

How is the mailing database compiled?

The starting point is the existing information the business keeps on its customers. All
forms of communication between a customer and the business need to be recorded so that
a detailed, up-to-date profile can be maintained.

It is also possible to “buy” mailing lists from elsewhere. There are numerous mailing list
owners and brokers who sell lists of names. The Internet, directories, associations and
other sources are good sources.

promotion- push and pull strategies

"Push or Pull"?
Marketing theory distinguishes between two main kinds of promotional strategy - "push"
and "pull".

Push

A “push” promotional strategy makes use of a company's sales force and trade promotion
activities to create consumer demand for a product.

The producer promotes the product to wholesalers, the wholesalers promote it to retailers,
and the retailers promote it to consumers.

A good example of "push" selling is mobile phones, where the major handset
manufacturers such as Nokia promote their products via retailers such as Carphone
Warehouse. Personal selling and trade promotions are often the most effective
promotional tools for companies such as Nokia - for example offering subsidies on the
handsets to encourage retailers to sell higher volumes.

A "push" strategy tries to sell directly to the consumer, bypassing other distribution
channels (e.g. selling insurance or holidays directly). With this type of strategy, consumer
promotions and advertising are the most likely promotional tools.

Pull

A “pull” selling strategy is one that requires high spending on advertising and consumer
promotion to build up consumer demand for a product.

If the strategy is successful, consumers will ask their retailers for the product, the retailers
will ask the wholesalers, and the wholesalers will ask the producers.

A good example of a pull is the heavy advertising and promotion of children's’ toys –
mainly on television. Consider the recent BBC promotional campaign for its new pre-
school programme – the Fimbles. Aimed at two to four-year-olds, 130 episodes of
Fimbles have been made and are featured everyday on digital children's channel
CBeebies and BBC2.

As part of the promotional campaign, the BBC has agreed a deal with toy maker Fisher-
Price to market products based on the show, which it hopes will emulate the popularity of
the Tweenies. Under the terms of the deal, Fisher-Price will develop, manufacture and
distribute a range of Fimbles products including soft, plastic and electronic learning toys
for the UK and Ireland.

In 2001, BBC Worldwide (the commercial division of the BBC) achieved sales of £90m
from its children's brands and properties last year. The demand created from broadcasting
of the Fimbles and a major advertising campaign is likely to “pull” demand from children
and encourage retailers to stock Fimbles toys in the stores for Christmas 2002.
promotion - introduction to the
promotional mix
It is not enough for a business to have good products sold at attractive prices. To generate
sales and profits, the benefits of products have to be communicated to customers. In
marketing, this is commonly known as "promotion".

Promotion is all about companies communicating with customers.

A business' total marketing communications programme is called the "promotional mix"

and consists of a blend of advertising, personal selling, sales promotion and public
relations tools. In this revision note, we describe the four key elements of the promotional
mix in more detail.

It is helpful to define the four main elements of the promotional mix before considering
their strengths and limitations.

(1) Advertising

Any paid form of non-personal communication of ideas or products in the "prime media":
i.e. television, newspapers, magazines, billboard posters, radio, cinema etc. Advertising is
intended to persuade and to inform. The two basic aspects of advertising are the message
(what you want your communication to say) and the medium (how you get your message
across)

(2) Personal Selling

Oral communication with potential buyers of a product with the intention of making a
sale. The personal selling may focus initially on developing a relationship with the
potential buyer, but will always ultimately end with an attempt to "close the sale".

(3) Sales Promotion

Providing incentives to customers or to the distribution channel to stimulate demand for a

product.

(4) Publicity

The communication of a product, brand or business by placing information about it in the

media without paying for the time or media space directly. otherwise known as "public
relations" or PR.
Advantages and Disadvantages of Each Element of the Promotional Mix

Mix Element Advantages Disadvantages

Advertising Good for building awareness
Effective at reaching a wide
audience
Repetition of main brand and
product positioning helps build
customer trust
Personal Highly interactive - lots of
Selling communication between the buyer
and seller
Impersonal - cannot answer all a
customer's questions
Not good at getting customers to
make a final purchasing decision
Costly - employing a sales force
has many hidden costs in addition
to wages

Excellent for communicating Not suitable if there are thousands

complex / detailed product of important buyers
information and features

Relationships can be built up -

important if closing the sale make
take a long time
Sales Can stimulate quick increases in
Promotion sales by targeting promotional
incentives on particular products
If used over the long-term,
customers may get used to the
effect

Good short term tactical tool Too much promotion may damage
the brand image
Public Often seen as more "credible" - since Risk of losing control - cannot
Relations the message seems to be coming always control what other people
from a third party (e.g. magazine, write or say about your product
newspaper)

Cheap way of reaching many

customers - if the publicity is
achieved through the right media

introduction - what is ICT?

You see the letters ICT everywhere - particularly in education. But what does it mean?
Read our brief introduction to this important and fast-changing subject.

ICT is an acronym that stands for Information Communications Tecnology

However, apart from explaining an acronym, there is not a universally accepted

defininition of ICT? Why? Because the concepts, methods and applications involved in
ICT are constantly evolving on an almost daily basis. Its difficult to keep up with the
changes - they happen so fast.

Lets focus on the three words behind ICT:

- INFORMATION
- COMMUNICATIONS
- TECHNOLOGY

A good way to think about ICT is to consider all the uses of digital technology that
already exist to help individuals, businesses and organisations use information.

ICT covers any product that will store, retrieve, manipulate, transmit or receive
information electronically in a digital form. For example, personal computers, digital
television, email, robots.

So ICT is concerned with the storage, retrieval, manipulation, transmission or receipt

of digital data. Importantly, it is also concerned with the way these different uses can
work with each other.

In business, ICT is often categorised into two broad types of product: -

(1) The traditional computer-based technologies (things you can typically do on a

personal computer or using computers at home or at work); and

(2) The more recent, and fast-growing range of digital communication technologies
(which allow people and organisations to communicate and share information digitally)

Let's take a brief look at these two categories to demonstrate the kinds of products and
ideas that are covered by ICT:

Traditional Computer Based Technologies

These types of ICT include:

Application Use
Standard Office Applications - Main Examples
Word processing E.g. Microsoft Word: Write letters, reports etc
Spreadsheets E.g. Microsoft Excel; Analyse financial information; calculations; create forecasting
models etc
Database software E.g. Oracle, Microsoft SQL Server, Access; Managing data in many forms, from
basic lists (e.g. customer contacts through to complex material (e.g. catalogue)
Presentation E.g. Microsoft PowerPoint; make presentations, either directly using a computer
software screen or data projector. Publish in digital format via email or over the Internet
Desktop publishing E.g. Adobe Indesign, Quark Express, Microsoft Publisher; produce newsletters,
magazines and other complex documents.

Graphics software E.g Adobe Photoshop and Illustrator; Macromedia Freehand and Fireworks; create
and edit images such as logos, drawings or pictures for use in DTP, web sites or other
publications

Specialist Applications - Examples (there are many!)

Accounting package E.g. Sage, Oracle; Manage an organisation's accounts including revenues/sales,
purchases, bank accounts etc. A wide range of systems is available ranging from basic
packages suitable for small businesses through to sophisticated ones aimed at
multinational companies.
Computer Aided Computer Aided Design (CAD) is the use of computers to assist the design process.
Design Specialised CAD programs exist for many types of design: architectural, engineering,
electronics, roadways

Customer Relations Software that allows businesses to better understand their customers by collecting and
Management analysing data on them such as their product preferences, buying habits etc. Often
(CRM) linked to software applications that run call centres and loyalty cards for example.

Traditional Computer Based Technologies

The C part of ICT refers to the communication of data by electronic means, usually over
some distance. This is often achieved via networks of sending and receiving equipment,
wires and satellite links.

The technologies involved in communication tend to be complex. You certainly don't

need to understand them for your ICT course. However, there are aspects of digital
communications that you needs to be aware of. These relate primarily to the types of
network and the ways of connecting to the Internet. Let's look at these two briefly
(further revision notes provide much more detail to support your study).

Internal networks

Usually referred to as a local area network (LAN), this involves linking a number of
hardware items (input and output devices plus computer processing) together within an
office or building.
The aim of a LAN is to be able to share hardware facilities such as printers or scanners,
software applications and data. This type of network is invaluable in the office
environment where colleagues need to have access to common data or programmes.

External networks

Often you need to communicate with someone outside your internal network, in this case
you will need to be part of a Wide Area Network (WAN). The Internet is the ultimate
WAN - it is a vast network of networks.

ICT in a Broader Context

Your ICT course will almost certainly cover the above examples of ICT in action,
perhaps focusing on the use of key applications such as spreadsheets, databases,
presentation, graphics and web design software.

It will also consider the following important topics that deal with the way ICT is used and
managed in an organisation:

- The nature of information (the "I" in ICT); this covers topics such as the meaning and
value of information; how information is controlled; the limitations of ICT; legal
considerations

- Management of information - this covers how data is captured, verified and stored for
effective use; the manipulation, processing and distribution of information; keeping
information secure; designing networks to share information

- Information systems strategy - this considers how ICT can be used within a business
or organisation as part of achieving goals and objectives

As you can see, ICT is a broad and fast-changing subject. We hope our free study
materials (revision notes, quizzes, presentations etc) will help you master IT!

Applications of IT in Business

Applications of ICT - Introduction

ICT is now part of everyday life for many, if not most, businesses. These revision notes
set out the key ICT applications that you need to know about for A-level Business
Studies. Many of these applications will be familiar to you from your own experience,
whereas others will not be.
The key uses of ICT have been separated into the following convenient headings, each of
which has its own revision note on Tutor2U.

There is some overlap between these notes – business practices do not always lend
themselves to easy classification.

• Customer Service
• Workplace efficiency
• Planning & controlling operations
• Marketing
• Finance and accounting
• E-commerce
• Collaboration & Outsourcing
• Banking and payments
• Data Protection Act 1998

As with most aspects of Business Studies A-level, it is crucial that your examination
responses demonstrate the following skills, as required by the question that has been set:

Knowledge/Content – show that you understand what the ICT application is and broadly
how it works.

Application – why does it matter in this particular case?

Analysis – what business results might be achieved – for example, as we shall see, EDI
might enable a Just in Time production process to run more efficiently, ensuring that
orders are met on time and thereby improving customer retention.

Evaluation – remember, all ICT systems are there to support the staff, suppliers and/or
customers of a business – rarely will an ICT system entirely take the place of people. ICT
systems can break down and sometimes they can seem too rigid and inflexible.

Applications of ICT - Data Protection Act 1998

Any organisation that keeps and processes personal data has to be registered under the
Data Protection Act 1998, and to keep its regulations, which mainly require that the data
about individuals must be:

• Kept Secure

• Accurate
 • Kept up to date

• Adequate, relevant and non-excessive for the purpose

• Only used for the purposes for which it was supplied

• Retained only for as long as needed by the purposes for which it was obtained.

There are certain rights that individuals have as a result of these provisions, for example
being able to deny the use of data given for direct marketing purposes.

This is one reason why application forms give the applicant the option to specify that
they wish that their data would not be used for marketing purposes.

Many surveys about eBusiness have shown that one of the main barriers for consumers
has been worry about issues like fraud, identity theft, spamming, ‘phishing’ and so on.

As a Business Studies student, remember that businesses must comply with the law and
need to treat their customers, employees, suppliers etc with respect - this is good business
practice, as well.

Good data management and security are therefore absolutely essential.

Applications of ICT in Marketing

Market research

Customer databases (see notes on applications of ICT – Customer Service) also a useful
mine of information for marketing and operational purposes – NB this would be a form
of secondary market research, as the data has not been gathered for the purpose of
market research. In fact, sophisticated analysis of these databases is often known as data
mining.

ICT can be useful in helping with primary market research, such as on-line surveys and
questionnaires. Firms that run Ecommerce websites can request customers to participate
and often offer some kind of incentive for doing so, such as a code that can be entered for
a discount at their next visit.

Targeted marketing promotion

Customer data can provide marketing with a very powerful means of closely targeting

• Direct mail
• Email and
• Telemarketing
Campaigns can be refined to choose only people meeting the right criteria for a given
product or service, hopefully improving the response rates to the campaign. One reason
that consumers find ‘junk mail’ so irritating is that much of it is poorly targeted; whereas
many do buy as a result of receiving information about products they are actually
interested in.

Also see the revision notes about CRM under ‘applications of ICT in customer service’.

On-line advertising

Many businesses advertise through ‘banners’ and similar advertisements on other

websites. This offers potential customers a quick and easy way to respond to an
advertising message. Of course there is so much on-line advertising that careful targeting
is essential, otherwise effort is wasted. The good news is that large popular websites such
as Google (and Tutor2U!!) have very sophisticated systems to help ensure that
advertisements on their websites are presented according to what the particular ‘surfer’
seems to be looking for on that website. Payment for web advertising tends to include an
element linked to the number of ‘click-throughs’ – in other words the number of surfers
who actually click on the advertiser’s link.

Corporate websites

Most medium to large business, and many small businesses, maintain a website. This
would usually include basic contact information as well as key marketing messages about
the business and its products. The website offers a good place to keep public relations
information such as press releases and other announcements.

Of course, many websites are also an electronic store – see also the revision notes about
applications of ICT in electronic commerce.

Geo-demographics

This is a software package that overlays demographic data over a map. For example, a
retailer might choose its location partly on the basis of the demographic make-up of the
local population. This could help them to place their store in the most convenient place
for a suitable size of target market.

Demographics is all about measuring and classifying populations according to criteria

such as; age, sex, income, level of education, household composition, car ownership and
so on

Applications of ICT - Workplace Efficiency

Many of the key uses of ICT in the office will be familiar to A-level students from their
own experience – in particular, the Microsoft Office ® suite of software including; word
processor, database, spreadsheet, presentation, email etc.

Offices and many other workplaces typically have networked PCs with centralised
databases and high-speed Internet connections – just as seen in modern schools, except
that most users would each have their own desktop or laptop computer.

Email

Increasingly, the majority of office workers have company email accounts available on
their desktop PC. This provides a cheap and fast means of communication within the
company and with customers and suppliers.

Possible areas for discussion include; wasting time on non-company business, and,
susceptibility to virus attacks.

Refer also to your notes about communications and remember, not everyone checks his or
her email regularly.

Word processing and Desktop Publishing (DTP )

Word processing has taken over from typing in most workplaces, and means that many –
if not most - office workers now create their own letters and documents, rather than pass
written notes or a voice recording to typists.

More sophisticated DTP software with graphics capability means that brochures,
newsletters, pricelists and other official documents can easily be produced ‘in-house’,
rather than having to pass the work to an outside agency.

‘Teleworking’

Some of the above solutions, combined with relatively cheap desktop and notebook PCs
and widely available broadband and connections, mean that many workers can do at least
part of their job remotely. In some cases, this means workers working from home or
when away on business (or ‘holiday’!).

Teleworking can help provide practical ways of offering more flexible working
conditions. This means that many people can work who would find it hard to manage
regular office hours. In turn, this can widen the available pool of experienced and
qualified staff – such as people with childcare commitments, other carers and the
disabled.
Teleworking is also the key to outsourcing call centre and other office work to overseas
centres such as India, where there is an abundance of low cost, well-qualified staff and a
good infrastructure.

Document archives

Rather than store correspondence and other documents in paper form, they can be
scanned and stored electronically for instant retrieval from anywhere on a company’s
network. This can dramatically reduce the cost of storing and managing paper files,
although one only has to visit a typical office to see that we are a long way from being
‘paperless’.

Personnel management – employee databases

Human Resources (or Personnel) Departments use employee databases to help with areas
such as:

• Payroll,
• Benefits,
• Holidays,
• Pensions and
• General administrative purposes

Evaluation – FLEXIBILITY

For businesses and for workers, ICT in the office undoubtedly offers scope for more
flexibility in the location and time at which work is done. For many people, this makes
the difference between working, and not working, and so it has a positive effect on the
economy, allowing more people to contribute.

However ICT enables the easy transfer of work to other countries, and so it has been a
cause of UK job losses too. Nevertheless, in the UK, there has been rising employment as
workers have been concentrating on service and other jobs with greater added value.

Combined with mobile telephones, this technology means that many people, especially
senior managers, are never really able to enjoy any holiday or leisure time. Many families
lose out due to a poor ‘work-life balance’, and managers can suffer ill health through
excessive stress.

Applications of ICT in Customer Service

The real key to the application of ICT to Customer Service is in the use of
customerdatabases.

Customer databases are electronic repositories of all manner of customer information

including:

• Contact information - name, address, telephone, email address etc.

• Security information to help confirm identity
• Buying history; products bought, times, days of week etc
• Payment information
• Policy renewal dates

… and so on

Whenever a customer logs on, makes a telephone call or presents a loyalty card for
swiping, the customer service representative - or even the form’s website - has a wealth
of information available to offer products and services that the customer is likely to be
interested in.

Every time the customer makes a purchase or has an interaction with the business, more
information can be added. When data is gathered at the ‘checkout’, this is done through
EPOS (Electronic Point of Sale) – usually based on barcode scanners.

As these databases are electronic and centralised, it is no longer necessary to hold

customer data in a local branch. This is the key to a move to on-line banking and to call
centres, including offshore call centres, and the data can be accessed anywhere.

Modern customer databases are relationship centred, that is to say that the key is the
customer himself or herself. If a member of the customer service staff makes a query
about the customer, they would expect to be able to see all the related accounts and/or
orders.

In the early days of customer databases, information was usually held according to
individual products or account numbers. Data was primarily used for accounting purposes
and had limited use for customer service, marketing, sales etc.
Electronic customer service
Customer databases allow many organisations to offer customer service through new
channels, such as telephone and on-line, via the Internet. Although some customers
bemoan the loss of personal contact, many organisations find that massive cost savings
can be made and in many cases, service hours can be extended – sometimes 24 hours a
day.

Some new organisations have been able to build their entire operations through electronic
customer service – good examples include: Direct Line, Amazon, eBay, Dell, and Esure.

Customer Relationship Management (CRM)

CRM systems attempt to bring all of the above – and more - together in one system
customer-centric system.

For example, a business like Amazon uses CRM to do things like:

• Email customers with recommended purchases

• Recognise the customer as soon as he/she logs in
• Present customer-targeted web pages, promoting items likely to be of interest
• Be ready to accept orders without having to re-enter all the payment details
• Offer promotions and incentives
• Manage loyalty programmes
• Manage prices – not all customers have the same pricing
• Contact customers for feedback and surveys

Although CRM systems have tended to be the preserve of major companies, systems are
becoming available that are affordable by smaller businesses.

Applications of ICT in Finance &

Accounting
Accounting records
Most firms have accounting software packages to help produce statutory accounts and
reports for bankers and management, as well as to help with the day-to-day control of its
finances. One very popular package amongst small to medium UK businesses is Sage
www.sage.co.uk, which also has modules to manage, for example, payroll and debt
factoring facilities.

The main components of an accounting system would include modules such as:

• Invoicing
• Bought ledger (trade creditors)
• Sales ledger (trade debtors)
• Bank reconciliation
• Cash flow forecasts
• Producing draft accounts and trial balances

Spreadsheets
Widely used by finance departments to help manage cash flow, for bank reconciliations
and in credit control.

Any department holding a budget for expenses and/or revenues would typically use a
spreadsheet to help create the budget in the first place, and then to monitor incomes and
expenditure and any variances.

Credit control

Remember the work in Unit 1, looking at managing cash flow? Well, much of this work
can be made much more efficient with computerised credit control. As businesses
typically buy from and sell to other businesses on credit terms, it is essential to have up to
date and accurate information about which creditors need to be paid, and when money is
due from debtors.

Banking & payments

Businesses are able to take advantage of electronic banking which allows them to check
their bank account records in real time – saving time and helping ensure that payments
due have been made and received, and also to operate the bank account within any agreed
overdraft limit.

Large and overseas payments can be made quickly and securely with on-line banking, as
long as the business has its own security checks to protect against theft by staff or by
anyone else who managed to obtain account details and passwords.

EFTPOS Electronic Funds Transfer at Point Of Sale is familiar to most of us in the form
of card readers that swipe credit and debit cards for payments. This has the advantage of
avoiding the expense and risk of handling cash and in generally a much more efficient
payment method. Again, even quite small businesses are now using this technology, and
portable EFTPOS devices have made it feasible to use in places such as taxis and
restaurants.

Applications of ICT - Planning & Controlling Operations

Stock control

Students will be familiar with the principles of stock management from the AS level
studies. Increasingly, businesses use real time data from EPOS, on-line stores and
electronic sales ledgers to drive their re-order processes.

EDI (Electronic Data Interchange) facilitates exchange of orders between different

businesses and allows Just In Time stock ordering. Other businesses place orders
electronically once production schedules have been set for the next period.

With computerised stock control, businesses should be able to check stock levels almost
on a real-time basis. Stock checks are still required to reconcile stock levels that may be
incorrect due to faults in scanning or because of pilferage or other wastage.

CAD/CAM - Computer Aided Design/Computer Aided Manufacture

Computer Aided Design and Computer Aided Manufacture are two systems that tend to
work together.

Computer Aided Design helps design products on computers, rather than having to create
endless drawings. The system can create realistic 3D images of the finished product.

CAD also allows virtual testing of the product before it is actually made, dramatically
reducing lead times and minimising waste in new product development.

As CAD acts together with CAM, its outputs are designed to optimise designs for
efficient manufacture with CAM systems.

CAM uses computers to control tooling such as CNC and other robotised machinery.
Benefits would be expected to include; improved quality, reduced wastage, faster
production and less reliance on labour, in other words, it is more capital intensive. In
many cases, CAM facilitates the manufacture of designs that would have been impossible
without this technology.

Project management
The key Project Management tool that appears in A-level Business Studies is Critical
Path Analysis (CPA), also known as Network Analysis – see separate Tutor2U revision
note for details of CPA.

Project Planning software, such as Microsoft Project, allows project managers to enter
tasks, lead times, dependencies and staff skills and availability, even allowing for
holiday, and the system will produce an optimised work schedule. Any student who has
attempted to produce even a simple CPA will appreciate how helpful such a software
package would be!

The system produces regular reports for project managers to check progress and take any
corrective action. Networked versions enable different people to query the system and
keep it up to date.

strategy - benchmarking
Definition

Benchmarking is the process of identifying "best practice" in relation to both products

(including) and the processes by which those products are created and delivered. The
search for "best practice" can taker place both inside a particular industry, and also in
other industries (for example - are there lessons to be learned from other industries?).

The objective of benchmarking is to understand and evaluate the current position of a

business or organisation in relation to "best practice" and to identify areas and means of
performance improvement.
The Benchmarking Process

Benchmarking involves looking outward (outside a particular business, organisation,

industry, region or country) to examine how others achieve their performance levels and
to understand the processes they use. In this way benchmarking helps explain the
processes behind excellent performance. When the lessons learnt from a benchmarking
exercise are applied appropriately, they facilitate improved performance in critical
functions within an organisation or in key areas of the business environment.

Application of benchmarking involves four key steps:

(1) Understand in detail existing business processes

(2) Analyse the business processes of others

(3) Compare own business performance with that of others analysed

(4) Implement the steps necessary to close the performance gap

Benchmarking should not be considered a one-off exercise. To be effective, it must

become an ongoing, integral part of an ongoing improvement process with the goal of
keeping abreast of ever-improving best practice.

Types of Benchmarking

There are a number of different types of benchmarking, as summarised below:

Type Description Most Appropriate for

the Following Purposes
Strategic Where businesses need to improve overall - Re-aligning business
Benchmarking performance by examining the long-term strategies that have
strategies and general approaches that have become inappropriate
enabled high-performers to succeed. It
involves considering high level aspects such
as core competencies, developing new
products and services and improving
capabilities for dealing with changes in the
external environment. Changes resulting
from this type of benchmarking may be
difficult to implement and take a long time
to materialise
Performance or Businesses consider their position in relation _ Assessing relative level
Competitive to performance characteristics of key of performance in key
Benchmarking products and services. Benchmarking areas or activities in
partners are drawn from the same sector. comparison with others in
This type of analysis is often undertaken the same sector and
through trade associations or third parties to finding ways of closing
protect confidentiality. gaps in performance

Process Focuses on improving specific critical - Achieving improvements

Benchmarking processes and operations. Benchmarking in key processes to obtain
partners are sought from best practice quick benefits
organisations that perform similar work or
deliver similar services. Process
benchmarking invariably involves producing
process maps to facilitate comparison and
analysis. This type of benchmarking often
results in short term benefits.
Functional Businesses look to benchmark with partners - Improving activities or
Benchmarking drawn from different business sectors or services for which
areas of activity to find ways of improving counterparts do not exist.
similar functions or work processes. This
sort of benchmarking can lead to innovation
and dramatic improvements.
Internal involves benchmarking businesses or - Several business units
Benchmarking operations from within the same within the same
organisation (e.g. business units in different organisation exemplify
countries). The main advantages of internal good practice and
benchmarking are that access to sensitive management want to
data and information is easier; standardised spread this expertise
data is often readily available; and, usually quickly, throughout the
less time and resources are needed. There organisation
may be fewer barriers to implementation as
practices may be relatively easy to transfer
across the same organisation. However, real
innovation may be lacking and best in class
performance is more likely to be found
through external benchmarking.
External involves analysing outside organisations that - Where examples of good
Benchmarking are known to be best in class. External practices can be found in
benchmarking provides opportunities of other organisations and
learning from those who are at the "leading there is a lack of good
edge". This type of benchmarking can take practices within internal
up significant time and resource to ensure business units
the comparability of data and information,
the credibility of the findings and the
development of sound recommendations.
International Best practitioners are identified and analysed - Where the aim is to
Benchmarking elsewhere in the world, perhaps because achieve world class status
there are too few benchmarking partners or simply because there
within the same country to produce valid are insufficient"national"
results. Globalisation and advances in businesses against which
information technology are increasing to benchmark.
opportunities for international projects.
However, these can take more time and
resources to set up and implement and the
results may need careful analysis due to
national differences

strategy - SWOT analysis

Definition:

SWOT is an abbreviation for Strengths, Weaknesses, Opportunities and Threats

SWOT analysis is an important tool for auditing the overall strategic position of a
business and its environment.

Once key strategic issues have been identified, they feed into business objectives,
particularly marketing objectives. SWOT analysis can be used in conjunction with other
tools for audit and analysis, such as PEST analysis and Porter's Five-Forces analysis. It is
also a very popular tool with business and marketing students because it is quick and easy
to learn.
The Key Distinction - Internal and External Issues

Strengths and weaknesses are Internal factors. For example, a strength could be your
specialist marketing expertise. A weakness could be the lack of a new product.

Opportunities and threats are external factors. For example, an opportunity could be a
developing distribution channel such as the Internet, or changing consumer lifestyles that
potentially increase demand for a company's products. A threat could be a new
competitor in an important existing market or a technological change that makes existing
products potentially obsolete.

it is worth pointing out that SWOT analysis can be very subjective - two people rarely
come-up with the same version of a SWOT analysis even when given the same
information about the same business and its environment. Accordingly, SWOT analysis
is best used as a guide and not a prescription. Adding and weighting criteria to each
factor increases the validity of the analysis.

Areas to Consider

Some of the key areas to consider when identifying and evaluating Strengths,
Weaknesses, Opportunities and Threats are listed in the example SWOT analysis below:

strategy - the strategic audit

In our introduction to business strategy, we emphasised the role of the "business
environment" in shaping strategic thinking and decision-making.

The external environment in which a business operates can create opportunities which a
business can exploit, as well as threats which could damage a business. However, to be
in a position to exploit opportunities or respond to threats, a business needs to have the
right resources and capabilities in place.

An important part of business strategy is concerned with ensuring that these resources
and competencies are understood and evaluated - a process that is often known as a
"Strategic Audit".

The process of conducting a strategic audit can be summarised into the following stages:

(1) Resource Audit:

The resource audit identifies the resources available to a business. Some of these can be
owned (e.g. plant and machinery, trademarks, retail outlets) whereas other resources can
be obtained through partnerships, joint ventures or simply supplier arrangements with
other businesses. You can read more about resources here.

(2) Value Chain Analysis:

Value Chain Analysis describes the activities that take place in a business and relates
them to an analysis of the competitive strength of the business. Influential work by
Michael Porter suggested that the activities of a business could be grouped under two
headings: (1) Primary Activities - those that are directly concerned with creating and
delivering a product (e.g. component assembly); and (2) Support Activities, which whilst
they are not directly involved in production, may increase effectiveness or efficiency (e.g.
human resource management). It is rare for a business to undertake all primary and
support activities. Value Chain Analysis is one way of identifying which activities are
best undertaken by a business and which are best provided by others ("outsourced"). You
can read more about Value Chain Analysis here.

(3) Core Competence Analysis:

Core competencies are those capabilities that are critical to a business achieving
competitive advantage. The starting point for analysing core competencies is recognising
that competition between businesses is as much a race for competence mastery as it is for
market position and market power. Senior management cannot focus on all activities of a
business and the competencies required to undertake them. So the goal is for management
to focus attention on competencies that really affect competitive advantage. You can read
more about the concept of Core Competencies here.
(4) Performance Analysis

The resource audit, value chain analysis and core competence analysis help to define the
strategic capabilities of a business. After completing such analysis, questions that can be
asked that evaluate the overall performance of the business. These questions include:

- How have the resources deployed in the business changed over time; this is "historical
analysis"
- How do the resources and capabilities of the business compare with others in the
industry - "industry norm analysis"
- How do the resources and capabilities of the business compare with "best-in-class" -
wherever that is to be found- "benchmarking"
- How has the financial performance of the business changed over time and how does it
compare with key competitors and the industry as a whole? - "ratio analysis"

(5) Portfolio Analysis:

Portfolio Analysis analyses the overall balance of the strategic business units of a
business. Most large businesses have operations in more than one market segment, and
often in different geographical markets. Larger, diversified groups often have several
divisions (each containing many business units) operating in quite distinct industries.

An important objective of a strategic audit is to ensure that the business portfolio is

strong and that business units requiring investment and management attention are
highlighted. This is important - a business should always consider which markets are
most attractive and which business units have the potential to achieve advantage in the
most attractive markets.

Traditionally, two analytical models have been widely used to undertake portfolio
analysis:

- The Boston Consulting Group Portfolio Matrix (the "Boston Box");

- The McKinsey/General Electric Growth Share Matrix

(6) SWOT Analysis:

SWOT is an abbreviation for Strengths, Weaknesses, Opportunities and Threats. SWOT

analysis is an important tool for auditing the overall strategic position of a business and
its environment. Read more about it here.

strategy - the strategic audit

In our introduction to business strategy, we emphasised the role of the "business
environment" in shaping strategic thinking and decision-making.

The external environment in which a business operates can create opportunities which a
business can exploit, as well as threats which could damage a business. However, to be
in a position to exploit opportunities or respond to threats, a business needs to have the
right resources and capabilities in place.

An important part of business strategy is concerned with ensuring that these resources
and competencies are understood and evaluated - a process that is often known as a
"Strategic Audit".

The process of conducting a strategic audit can be summarised into the following stages:

(1) Resource Audit:

The resource audit identifies the resources available to a business. Some of these can be
owned (e.g. plant and machinery, trademarks, retail outlets) whereas other resources can
be obtained through partnerships, joint ventures or simply supplier arrangements with
other businesses. You can read more about resources here.

(2) Value Chain Analysis:

Value Chain Analysis describes the activities that take place in a business and relates
them to an analysis of the competitive strength of the business. Influential work by
Michael Porter suggested that the activities of a business could be grouped under two
headings: (1) Primary Activities - those that are directly concerned with creating and
delivering a product (e.g. component assembly); and (2) Support Activities, which whilst
they are not directly involved in production, may increase effectiveness or efficiency (e.g.
human resource management). It is rare for a business to undertake all primary and
support activities. Value Chain Analysis is one way of identifying which activities are
best undertaken by a business and which are best provided by others ("outsourced"). You
can read more about Value Chain Analysis here.

(3) Core Competence Analysis:

Core competencies are those capabilities that are critical to a business achieving
competitive advantage. The starting point for analysing core competencies is recognising
that competition between businesses is as much a race for competence mastery as it is for
market position and market power. Senior management cannot focus on all activities of a
business and the competencies required to undertake them. So the goal is for management
to focus attention on competencies that really affect competitive advantage. You can read
more about the concept of Core Competencies here.
(4) Performance Analysis

The resource audit, value chain analysis and core competence analysis help to define the
strategic capabilities of a business. After completing such analysis, questions that can be
asked that evaluate the overall performance of the business. These questions include:

- How have the resources deployed in the business changed over time; this is "historical
analysis"
- How do the resources and capabilities of the business compare with others in the
industry - "industry norm analysis"
- How do the resources and capabilities of the business compare with "best-in-class" -
wherever that is to be found- "benchmarking"
- How has the financial performance of the business changed over time and how does it
compare with key competitors and the industry as a whole? - "ratio analysis"

(5) Portfolio Analysis:

Portfolio Analysis analyses the overall balance of the strategic business units of a
business. Most large businesses have operations in more than one market segment, and
often in different geographical markets. Larger, diversified groups often have several
divisions (each containing many business units) operating in quite distinct industries.

An important objective of a strategic audit is to ensure that the business portfolio is

strong and that business units requiring investment and management attention are
highlighted. This is important - a business should always consider which markets are
most attractive and which business units have the potential to achieve advantage in the
most attractive markets.

Traditionally, two analytical models have been widely used to undertake portfolio
analysis:

- The Boston Consulting Group Portfolio Matrix (the "Boston Box");

- The McKinsey/General Electric Growth Share Matrix

(6) SWOT Analysis:

SWOT is an abbreviation for Strengths, Weaknesses, Opportunities and Threats. SWOT

analysis is an important tool for auditing the overall strategic position of a business and
its environment. Read more about it here.

introduction to the balanced scorecard

The background
 • No single measures can give a broad picture of the organisation’s health.
• So instead of a single measure why not a use a composite scorecard involving a
number of different measures.
• Kaplan and Norton devised a framework based on four perspectives – financial,
customer, internal and learning and growth.
• The organisation should select critical measures for each of these perspectives.

Origins of the balanced scorecard

R.S. Kaplan and D.P. Norton -”The Balanced Scorecard- measures that drive
performance”. Harvard Business Review, January 1992

• -”The Balanced Scorecard”, Harvard University Press, 1996.

• “Kaplan and Norton suggested that organisations should focus their efforts on a
limited number of specific, critical performance measures which reflect
stakeholders key success factors” (Strategic Management, J. Thompson with F.
Martin)

What is the balanced scorecard?

• A system of corporate appraisal which looks at financial and non-financial

elements from a variety of perspectives.
• An approach to the provision of information to management to assist strategic
policy formation and achievement.
• It provides the user with a set of information which addresses all relevant areas of
performance in an objective and unbiased fashion.
• A set of measures that gives top managers a fast but comprehensive view of the
business.

The balanced scorecard…

• Allows managers to look at the business from four important perspectives.

• Provides a balanced picture of overall performance highlighting activities that
need to be improved.
• Combines both qualitative and quantitative measures.
• Relates assessment of performance to the choice of strategy.
• Includes measures of efficiency and effectiveness.
• Assists business in clarifying their vision and strategies and provides a means to
translate these into action.

In what way is the scorecard a balance?

The scorecard produces a balance between:

• Four key business perspectives: financial, customer, internal processes and

innovation.
 • How the organisation sees itself and how others see it.
• The short run and the long run
• The situation at a moment in time and change over time

Main benefits of using the balanced scorecard

• Helps companies focus on what has to be done in order to create a breakthrough

performance
• Acts as an integrating device for a variety of corporate programmes
• Makes strategy operational by translating it into performance measures and
targets
• Helps break down corporate level measures so that local managers and employees
can see what they need to do well if they want to improve organisational
effectiveness
• Provides a comprehensive view that overturns the traditional idea of the
organisation as a collection of isolated, independent functions and departments