Types of Businesses and Financial Structures in Travel and Tourism

The International Travel College of New Zealand 1
Finance & Funding in the
Travel and Tourism Sector
Unit #2 – Learning Outcome 1
Costs, volume and profit for
management decision making
in travel and tourism

Types of Businesses
Businesses are known generically as
‘business entities’ , each entity has a different
kind of structure and its financial accounting
and reporting has slightly different
requirements

Sole Proprietor (Trader)
• A single owner (Proprietor) – also known in New Zealand as sole
trader
• No separate legal entity – accounts are kept for the business but the
owner is legally responsible as both the business owner and
personally for any contracts, debts etc
• ‘Unlimited liability’ with respect to the activities, obligations and
debts of the business
• No accounting, auditing or reporting requirements other than the
need to keep accounts for the Inland Revenue Department
• Limited access to investment or business funds – lenders reluctant
to provide finance for sole traders to setup business
• Costs to set up a business as a sole trader are much lower than for
other entity structures.
• All rewards flow directly to the owner.
• Simple and timely decision making.

Partnership
• A business entity structure representing the relationship between two or
more individuals and focused on generating a financial profit.
• May be established by a formal partnership agreement or an informal
agreement between the parties.
• No legal distinction between the business and the partners.
• Unlimited liability with respect to the debts of the business.
• In NZ partnerships are governed by the Partnership Act 1908, where it’s
usual to have a formal written agreement between the parties.
• Rights and responsibilities of each partner governed by the agreement
rather than employment law.
• A partnership can be either ‘special’, where some partners (not involved in
the business) have limited liability, or ‘general’ , where all partners have
unlimited liability.
• The partnership assets are owned by the partners rather than individually.
• The partnership profits belong to the partners equally unless otherwise
agreed.
• Some restrictions around how many people can constitute a partnership.
Generally 20 is the max, exceptions being accounting practices.

Limited Company or Corporation
• A business entity owned by people who have invested in the business.
• Ownership interest broken down into shares
• A company is a separate legal entity and can enter into contracts to buy sell,
borrow, lend etc.
• The life of a company is indefinite and not related to the life of the
individuals who own it.
• Ownership may change, shares can be bought and sold but the company is
still the company.
• The owners of a limited liability company are limited as to what they are
financially responsible for if the business goes into debt.
• A limited liability corporation protects a person's assets in the event of the
company becoming insolvent.
• A Company allows shareholders to limit their maximum possible liability for
the debts of that company to the amount of the paid capital in the company.

Limited (Ltd) Company - NZ
• In New Zealand, a limited company or corporation can be established under the
Companies Act 1993, which makes no distinction between a public and a private
limited company.
• Directors can be held personally liable for the debts of their company if they’re found
not to have carried out their duties properly.
• Registration of a company is a simple procedure - costs less than $200 – by making
an application to the New Zealand Companies Office giving details of the directors,
the registered address and the company’s constitution.
• Not necessary to have an individual constitution, as the Companies Act serves as a
ready-made constitution for companies without their own.
• Company profits belong to the shareholders and are either distributed or retained for
the benefit of the shareholders.
• Shareholders may be managers in the business, but large businesses employ
managers to run the business on behalf of the shareholders.
• Companies are often run by Directors who operate as a ‘Board’.
• Directors are elected by the shareholders.
• By law there must be at least one Director for a privately owned company and three
Directors for a public company.
• Directors do not need to be shareholders.
• A company can raise capital/finance by issuing new shares or by offering the
company as security (or collateral) for a mortgage or loan.
• Arranging security for a loan can be both cheaper and easier for a company than an
individual.

Public Companies
• Public companies offer their shares for sale to the general public,
and private (or proprietary) companies cannot.
• Companies who offer their shares for sale to the general public are
‘listed’ on the stock exchange where shares in such companies are
traded each day.
• Shareholders can buy and sell shares in these public companies at
the going market price.
• Public companies are much more rigorously regulated than private
companies.
• In NZ currently (August 2013) there were 239 Public companies
listed on the NZ stock exchange with such famous brands as
Auckland Airport, Burger Fuel, Pumpkin Patch, Postie Plus, Sky City
and The Warehouse.

Financial Investment/Capital
• The amount of ‘capital’ invested in a company at startup
is always shown on the balance’ sheet (now known as
the statement of financial position) which forms part of
the financial accounts for any business.
• A statement of financial position sets out the things that
are owned by the company, and deducts from this figure
the amounts owed to outsiders.
• The difference represents the wealth of the business.
• Shareholders investment is also known as ‘shareholders
equity’.

Directors Duties
• 1. Management
• The Board of Directors has primary responsibility for the financial performance and statutory compliance of the
company. Where Directors have a role in the management of a company, the scope of their role should be
explicit.
• 2. Major Transactions
• These should not be entered into without a special resolution or be conditional upon such a resolution.
• 3. Good Faith/Best Interests
• A Director must act in good faith and in what they believe is the best interests of the company.
• 4. Proper Purpose
• A Director must exercise a power for a proper purpose.
• 5. Compliance with the Companies Act and Constitution
• A Director must not act or agree to the company acting in a manner that contravenes the Act or the company’s
constitution.
• 6. Reckless and Insolvent Trading
• A Director must not agree to the business being carried on in a way likely to cause substantial risk of serious loss
to creditors or to cause or allow the business to be carried on in a way likely to create substantial risk of serious
loss to company’s creditors. The Director must not agree to the company incurring an obligation unless he or she
believes, on reasonable grounds, the company can meet that obligation when required. Directors should ensure
that up to date financial records are kept and that they read and understand those records and reports.
• 7. The Duty of Care, Diligence and Skill
• A Director when exercising powers and performing duties must exercise care, diligence and skill that a reasonable
director will exercise. A Director should understand the business, understand the financial statements and
exercise informed independent judgment in every case.
• 8. Directors Interested in Transactions
• A Director must disclose any direct interests in other businesses or disclose information regarding close relatives
who may get material benefits from related financial

Financial Reports
A financial statement (or financial report) is a formal record of
the financial activities of a business, person, or other entity.
The objective of financial statements is to provide information
about the financial position, performance and changes in
financial position of an enterprise that is useful to a wide
range of users in making economic decisions.

Why do we need financial reports?
• People need economic information to help them to make
decisions and judgments about business.
• Business owners/shareholders are also obliged to
maintain accounts and produce financial statements to
meet their governance requirements, to help secure
additional finance, refinance or prepare the business for
sale.
• Some types of businesses, such as ‘public’ companies
that are owned by shareholders and those in receipt of
government funding are required to have their accounts
externally verified and audited each year to confirm to
the funding agencies or shareholders that the company
has been run appropriately and that all funds are
accounted for.

Accounting
• Accounting is concerned with the collection, analysis and
communication of economic information. Such
information can be used as a tool of decision making,
planning and control
• The accounting system involves:
o Identifying and capturing relevant economic information
o Recording the information collected in a systematic manner
o Analysing and interpreting the information collected
o Reporting the information in a manner that suits the needs of
users
• This Unit focuses on the analysis and interpretation of
the accounts rather than on the preparation of the
accounts themselves.

Financial Accounts
• Concerned with providing users (such as lenders, owners,
government bodies) with information they will find useful.
• Reports produced are general purpose reports showing a broad
overview of the position, performance and cash flows of the
business for a period.
• Reports are presented in a standardized form.
• Financial accounts are produced annually, although larger
businesses may produce semi-annual reports and even quarterly
reports.
• Reflects the performance and position of the business to date and
are therefore ‘backward’ looking
• Concentrates on information that can be quantified in monetary
terms.

Management Accounts
• Concerned with providing managers with the information they
require for the day-to-day running of the business.
• Reports produced are for specific purposes, designed for a
particular manager or use, and contain a lot of detail to help with
decision making.
• These reports are for internal use only and have no restrictions in
the way are presented or produced.
• Management accounts are produced as frequently as required by
managers, which may be weekly or monthly, allowing them to keep
a close check on business performance.
• Reports include past performance as well as future performance
projections or forecasts.
• Reports include information quantified in monetary terms in addition
to non-financial information such as measures of physical quantities
of inventory/stock.

Costs and Volume
The type and behaviour of costs and how this
relates to the volume of activity in a business.
Understanding this issue helps business
managers/owners to make decisions and
assess risks.

The Behaviour of Costs
Costs may be classified as:
 Fixed Costs: those that stay fixed (the same)
when changes occur to the volume of activity.
 Variable Costs: those that vary according to the
volume of activity.

Fixed Costs
• Fixed costs stay the same irrespective of the level of
business activity but could still rise as a result of inflation.
• They may also vary with ‘time’ eg rent for two months is
twice as much as rent for one month.
• Fixed costs are usually fixed for a range of output levels
but if we increase output (eg increase sales) beyond
that range we would need to increase some of our fixed
costs to meet that new output level.
• In the case of rent for a business, that is usually the most
fixed cost of all, but if a business is very successful the
business may expand to larger premises, and thus the
fixed cost increases.

Variable Costs
• These are costs that vary with the level of activity.
eg if a tourism business sells more Harbour Cruises
they will need to put on additional vessels, increase
staff in order to operate those vessels, buy
additional fuel for those vessels etc.
• In some cases, higher levels of business activity
may lead to better purchase pricing and thus
improved economies of scale.

Economies of Scale
• A reduction in cost per unit resulting from increased
production, realized through operational efficiencies.
• Economies of scale can be accomplished because as
production increases, the cost of producing each
additional unit falls.
• Economies of scale applies equally in a service industry
where buying services in ‘bulk’ is cheaper than buying
them individually.
• Higher levels of demand can also lead to higher costs: in
order to meet demand, for example, operating additional
harbour cruises, Fullers may need to pay staff overtime,
making those cruises less profitable than others.
• So…more output can lead to lower costs. But it can
also lead to higher costs.

Semi Fixed/Variable Costs
• Some costs have both a fixed and a variable
element to them.
• Good examples include power which might
rarely vary until high levels of activity are
experienced (busier than usual, open longer
hours) when usage rises and thus power bill is
higher.
• Telecommunications is another one that is semi-
fixed, with fixed monthly costs for the provision
of lines, phone systems etc, but the actual usage
varying depending on the output of the business.

Break-Even Point
• Break-Even point is at a level of activity where revenue
will exactly equal total cost, so there is neither profit nor
loss.
• With higher sales, the company makes a profit, and with
lower sales, it suffers a loss.
• Economists illustrate the break-even point with cost
curve graphs, which plot a product's marginal cost,
average total cost, price and quantity.
• But you can more easily calculate the break-even point
using simple arithmetic.
• At break-even point, the level of sales revenue equals
expenses.

Margin of Safety
• The difference between the output of a business and the
break-even volume is known as the ‘margin of safety
• Most companies that continue to remain in business
earn a profit and sell more than is required for their break
even point. The actual sales minus the break even sales
are the margin of safety.
• An established business which has successfully traded
beyond its break even point, will be interested in its
margin of safety, that is to say, how much total revenue
could fall before the business starts making a loss, i.e.
expenditures are greater than revenue.
• A business with a large margin of safety, is clearly in a
much stronger business position.

‘Contribution’
‘Sales revenue per unit less variable costs per
unit’
• If you sell a product for $100 and the variable
costs in producing one unit are $60 your
‘contribution’ is $40.
• This $40 can contribute to meeting the fixed
costs of the business.
• Any excess goes towards profit.
• In this example, if our fixed costs are $25 per
unit we have $15 left per unit to contribute
towards profit.

Operational Gearing
• The relationship between contribution and
fixed costs is known as ‘operational
gearing’.
• A business with relatively high fixed costs
compared with its variable costs is said to
have high operating gearing.

Full Costing
• In full costing all costs, whether fixed or variable
are involved in calculating the costs of producing
goods or services.
• The costing system includes everything,
including rent, wages and costs of production.
• If a business is to achieve a profit, the owners
must set a selling price that covers all costs.
• The simples process of full costing is:
 Add up all the costs of production incurred in the accounting
period. (rent, wages, materials, power etc)
 Divide those total costs by the total number of units of output for
the period.

Segmenting the Overheads
• Dividing the overheads into different areas or business
units for costing purposes is a common accounting
practice, and informs managers about the relative
productivity and profitability of each area.
• For example, a tourism business may be operating out of
Auckland City and Rotorua. It makes perfect business
sense to divide the overheads by business unit, so sales
and costs associated to Rotorua are readily identified.
• These segmented overheads might include wages of the
staff, rent based on the space occupied, other direct
costs such as advertising or communications costs if
they can be separated out.

Direct & Indirect Costs
• Direct costs – costs that can be identified to specific
products or lines. Commonly this might be materials and
labour. So all materials and labour used in production of
one particular product or service can be attributed to the
service.
• Indirect costs (also known as overheads) are all the
other costs that cannot be directly measured in respect
of a particular unit of output. Commonly this might be
rent, power etc. These costs may also be known as
‘common costs’ as they are common to all production of
the product or service.

Job Costing
• To work out the full cost of a particular unit
or output all the direct costs of the job are
attributed to it along with a share of the
indirect costs.
• This is known as job costing, common in
product production such as factories, and
generally not popular in service industries.

Activity Based Costing (ABC)
•Also known as Activity Based Management (ABM)
•This costing system has been popular in service industries such as tourism and
hospitality, but it is expensive to operate and difficult to manage in small businesses.
•Activity-based costing (ABC) identifies activities in an organization and assigns the cost
of each activity with resources to all products and services according to the actual
consumption by each.
•This model assigns more indirect costs (overhead) into direct costs compared to
conventional costing.
•With ABC, a company can estimate the cost elements of entire products, activities and
services. This may help inform a company's decision to either:
o Identify and eliminate those products and services that are unprofitable and lower the prices
of those that are overpriced (product and service portfolio aim)
o Or identify and eliminate production or service processes that are ineffective and allocate
processing concepts that lead to the very same product at a better yield
•ABC is generally used as a tool for understanding product and customer cost and
profitability based on the production or performing processes.
•As such, ABC has predominantly been used to support strategic decisions such as
pricing, outsourcing, identification and measurement of process improvement initiatives.

Mark-up Costing (Cost-Plus pricing)
• Take the cost price and add the same percentage mark-
up to all items (e.g. 50%).
• Talk to suppliers, competitors or relevant business and
industry associations to find an industry standard.
• Useful when you have multiple products at different price
points and other costing methods are too complex.
• Adjust the mark-up depending on your strategy.
• This method is simple but:
o it takes no account of demand
o there is no way of determining if potential customers will
purchase the product at the calculated price.

Penetration Pricing
• Penetration pricing is the pricing technique of
setting a relatively low initial entry price, often
lower than the eventual market price, to attract
new customers.
• The strategy works on the expectation that
customers will switch to the new brand because
of the lower price.
• Penetration pricing is most commonly
associated with a marketing objective of
increasing market share or sales volume, rather
than to make profit in the short term.

Penetration pricing is appropriate
when:
• Product demand is highly price elastic.
• Substantial economies of scale are available.
• The product is suitable for a mass market (i.e. enough
demand).
• The product will face vigorous competition soon after
introduction.
• There is not enough demand amongst consumers to
make price skimming work.
• In industries where standardization is important. The
product that achieves high market penetration often
becomes the industry standard (e.g. Microsoft Windows)
and other products, whatever their merits, become
marginalized.

Marginal Cost Pricing
• Marginal cost is the change in the total cost that arises when the
quantity produced changes by one unit.
• That is, it is the cost of producing one more unit of a product.
• In general terms, marginal cost at each level of production includes
any additional costs required to produce the next unit. For example,
if producing additional vehicles requires building a new factory, the
marginal cost of the extra vehicles includes the cost of the new
factory.
• In practice, this analysis is segregated into short and long-run
cases, so that over the longest run, all costs become marginal.
• At each level of production and time period being considered,
marginal costs include all costs that vary with the level of production,
whereas other costs that do not vary with production are considered
fixed.

Price Skimming
• Price skimming is a pricing strategy in which a marketer sets a
relatively high price for a product or service at first, then lowers the
price over time.
• It allows a company to recover its sunk costs quickly before
competition steps in and lowers the market price.
• The objective of a price skimming strategy is to capture the
consumer surplus.
• If this is done successfully, then theoretically no customer will pay
less for the product than the maximum they are willing to pay.
• In practice, it is almost impossible for a firm to capture all of this
surplus.
• The skimming strategy gets its name from skimming successive
layers of "cream," or customer segments, as prices are lowered over
time.

Other Pricing Strategies:
Market-led Pricing
• A company accepts the price which competitors are charging for a
product and then prices its product at the same level or slightly
lower in order to gain some advantage over its competitors
Cost-plus Pricing
• Popular in travel and tourism – particularly in small to medium sized
businesses as it is relatively easy to introduce and manage. Add up
the costs then add on a markup as a profit margin.
Absorption pricing
• Method of pricing in which all costs are recovered. The price of the
product includes the variable cost of each item plus a proportionate
amount of the fixed costs.

Economies of Scale
• ‘Doing things more efficiently with increasing size of operation’
• Economies of scale are the cost advantages that enterprises obtain due to size, with
cost per unit of output generally decreasing with increasing scale as fixed costs are
spread out over more units of output.
• Often operational efficiency is also greater with increasing scale, leading to lower
variable cost as well.
• Economies of scale apply to a variety of organizational and business situations and at
various levels, such as a business or manufacturing unit, plant or an entire enterprise.
For example, a large manufacturing facility would be expected to have a lower cost
per unit of output than a smaller facility, all other factors being equal, while a company
with many facilities should have a cost advantage over a competitor with fewer.
• Economies of scale often have limits, such as passing the optimum design point
where costs per additional unit begin to increase.
• Common limits include exceeding the nearby raw material supply, such as wood in
the lumber, pulp and paper industry.
• A common limit for low cost per unit weight commodities is saturating the regional
market, thus having to ship product uneconomical distances.
• Other limits include using energy less efficiently or having a higher defect rate.

Diseconomies of Scale
• An economic concept referring to a situation in which economies of scale no longer
function for a business.
• Rather than experiencing continued decreasing costs per increase in output, firms
see an increase in marginal cost when output is increased.
• The concept is the opposite of economies of scale
• These terms are highly relevant to the travel and tourism industries.
• Many tour operators gain significant economies of scale by purchasing travel
components in ‘bulk’, such as airline seats, hotel accommodation.
• Diseconomies of scale operates,. for example, when selling more of a product (flight
seats to Sydney) results in the need to charter or operate a larger aircraft which
carries significant additional costs and actually may increase the cost per seat rather
than reduce it
• Another example: tour operators introduce new specialized products, such as
intrepid journeys, safaris, treks, to isolated places and buying the components of the
package may produce a profit when customers are travelling in small groups, but the
moment the group becomes larger the transport type has to be changed to something
much more substantial, causing costs to escalate and profit to reduce. So the more of
these tours are sold, the less profit is made.

Profit
• Profit is a very important concept for any business – particularly a start-up
• Profit is the financial return or reward that entrepreneurs aim to achieve to reflect the
risk that they take.
• Given that most entrepreneurs invest in order to make a return, the profit earned by a
business can be used to measure the success of that investment.
• Profit is also an important signal to other providers of finance to a business. Banks,
suppliers and other lenders are more likely to provide finance to a business that can
demonstrate that it makes a profit (or is very likely to do so in the near future) and that
it can pay debts as they fall due.
• Profit is also an important source of finance for a business. Profits earned which are
kept in the business (i.e. not distributed to the owners via dividends or other
payments) are known as retained profits.
• Retained profits are an important source of finance for any business, but especially
start-up or small businesses.
• The moment a product is sold for more than it cost to produce, then a profit is earned
which can be reinvested.
• Profit can be measured and calculated.
• Profit is the difference between the purchase and the component costs of delivered
goods and/or services and any operating or other expenses.

Factors Influencing Profit - Manufacturing
• Production efficiency – the number of units produced per hour
• Losses – such as losses in production, health & safety losses, loss
of materials, loss of market reputation
• Costs – such as investment costs, operating costs, maintenance
costs
• These factors influence on each other and must be optimised
together to achieve maximum profit for a production company.
• The product manufactured in the production company could be any
tangible item, such as a newspaper, diet coke, pair of shoes or
Toyota car.
• For a business to be successful a profit must be achieved during the
production lifetime.
• Interestingly, reducing costs does not always result in increased
profit as the cost reduction measures may affect sales adversely or
even have no effect at all.

Factors Influencing Profit - Retail
• COGS is the industry standard abbreviation for "cost of goods sold."
A company's COGS is determined by adding up all the money spent
to buy and ship the needed materials to produce the retail product.
• This may be the money spent on wholesale products that are put on
the shelf and sold as is, or it could mean the amount of money spent
on various products that are combined to create a new product to
sell.
• A company's COGS directly affects the gross profit since the money
used to produce the retail items is ultimately deducted from the
money taken in from sales.
• Therefore, it is important for a business to shop around for the best
deal on wholesale products in order to reduce the COGS and make
more profit.
• In businesses that do a high volume of sales, even a small savings
on some items or cheaper shipping methods can add up to a
considerably higher gross profit in the long run.

Markup Influences Profit
• Markup is the amount above the cost of goods/services that the business
sells its products or services for.
• It is not uncommon for some retailers to charge three times the cost of
goods to its customers.
• This considerable markup may sound like a lot, but the markup must not
only cover the goods themselves, but all of the costs associated with the
business.
• Markup directly affects gross profit because the higher the markup, the
more gross profit there is.
• However, setting a price too high will actually reduce gross profit if
consumers decide the product/service isn't good value and refuses to buy.
• When this happens the cost of goods remains the same, but the money
taken in from sales is reduced.
• Similarly, a selling price that is too low may result in more sales, but the
amount of gross profit may be too low to operate the business adequately.

Stock/Inventory Levels
• Maintaining sensible stock levels can indirectly affect
gross profit in many businesses.
• If a company stocks too much of a product, selling just a
small percentage of the total purchased in a given time
period, the cost of goods may outweigh the total sales.
• On the other hand, ordering too few of an item could
mean that you reduced the cost of holding stocks but
missed out on sales that could have been made. This
too will reduce the gross profit, even though less money
was spent up front.
• The ideal situation is to develop a re-ordering schedule
that will have just the right amount of items arriving just
in time for sale.

Factors influencing Tourism Sector Profits
• Tour operating business performance is
largely determined by the skill of the
company in buying its product
components (eg aircraft seats,
accommodation and transfers) at a
competitive price and reselling at a price
that is lower than that for which a
consumer could assemble the same
product.

Negotiating low prices
• Large tour operators will contract with suppliers to
provide services (flights, accommodation and transport)
well in advance of an operating season. This will secure
them an advantageous price per service unit achieving
valuable economies of scale.
• The suppliers (also called principals) also benefit through
having advance sales guarantees enabling them to fix
their costs in advance. The advantageous price can be
used to sell cheaper packages to customers who cannot
obtain these contracted rates directly.

Managing Seasonality
• Tourism is a seasonal business in almost all areas of the world, and presents some
unique challenges both in operational terms and in the financial management of a
tourism business.
• Peaks and troughs of cash flow are difficult to manage and tricky to forecast.
• The off-season periods can adversely affect profit levels with resources and facilities
under-utilised or even not utilized at all.
• An operators’ fixed costs remain ‘fixed’ even in the off-season. Ie rent and rates on
premises.
• In high season operators may struggle to finance additional staffing/equipment or
services in order to meet the peaks of demand, and therefore lose potential business.
(this is known as an opportunity cost).
• Even if operators could fund additional services in high season they may not be able to
find the staff and resources to increase their operation and meet demand.
• Some tourism operators/accommodation providers operate differential pricing to
encourage people to travel during the ‘off’ season. (ie cheaper prices in low season, high
prices in peak season). This is designed to spread demand and helps to recover fixed
costs during the off-peak season and minimizes effects on staff.
• Addressing issues of seasonality in NZ requires flexible and creative marketing
strategies including:
o Greater segmentation of the market and targeting those segments with a
predisposition to travel in the low season
o The ongoing development of seasonal product and packages
o The development of innovative promotional campaigns
o Flexible pricing strategies that recognize the relationship between supply and
demand

Managing Periodicity
• Periodicity refers a similar concept as seasonality but
within a shorter time frame, usually a week.
• Hotels which cater to the business traveller usually
experience peak demand from Monday to Thursday and
often experience empty hotels over the weekend.
• Dramatic price reductions for these nights are designed
to lift occupancy rates and assist in meeting fixed costs.

Profit Enhancing Strategies
Maximising use of resources
• Tour operators with integrated tourism companies (horizontal integration) may
achieve lower operational costs by increasing the capacity or usage of resources
such as aircraft. Eg increasing the number of flights over a given period or reducing
seat sizes can increase the number of passengers carried and thus achieve higher
sales leading to improved profit levels.
Reducing profit margins
• Some tourism operators will reduce their profit margins in order to remain competitive
or to gain a market advantage, relying on sales volumes to make up for lack of profit
on individual sales. This is a risky strategy but is often one which is used to halt falling
sales.
Cutting cost structures
• The cost of producing a product or service is a key component in establishing profit
levels. If it costs more to produce a service than you can sell it for then the business
will fail. Businesses can easily become very cost-heavy, with layers of administration
and support services that may provide useful functions but erode profit levels. Many
businesses seek to cut costs in order to improve their profit levels. This is not always
successful however as reduced support services may lead to lower satisfaction levels
and thus reduced sales.

Economic Factors Impact on Profit
• Economic factors affecting businesses are regulation, access to credit, demand for goods and/or services and
technological advancement.
• Local and national regulations influence how well a business can take advantage of economic opportunities and
adapt to the changing economic landscape. Regulation standards affect the ability of smaller businesses to create
jobs and revenue.
• Businesses grow when they experience low interest rates because a low rate ensures that it will cost less to get
the needed financial resources to start or expand a business, or stave off bankruptcy.
• Businesses are influenced by the interest rates, wage rates and rates of inflation, all of which measure the
general cost of doing business.
• If these rates rise, so does the cost of maintaining a business, which in turn necessitates higher prices for
products and services.
• The interest rate affects retail sales, as lower rates indicate that people have more disposable income to spend.
• When the demand for a product or service declines, so does growth. This can result in pricing pressures and lost
customers.
• The profitability of a business depends upon consumer spending reflected in the demand for products and
services.
• High interest rates, bankruptcies and unemployment undermine consumer spending as both businesses and
individuals juggle the increasing cost of business with decreasing demand for their goods and services.
• Technology has improved customer service and demand, and this is especially true of modern communication
technology, because online databases enable vast quantities of information to be shared easily and quickly
between businesses and their customers.
• Digital technology positively impacts the distribution of goods and services via the Internet, improving the speed
and efficiency with which goods and services are accessed by consumers and then delivered via online
businesses.
• Consumers are able to purchase goods and services online, then review their satisfaction levels online, sharing
their experience with millions of users via review sites such as TripAdvisor or social media sites such as
Facebook.

Political Factors Impact on Profit
• A government that is pro-tourism can dramatically impact the economic success of
the industry as it can use its influence and funding to leverage the sector both at
home and overseas.
• NZ is a classic case with the Prime Minister as Tourism Minister.
• This ensures a high profile for tourism leading to greater demand for the tourism
product.
• This can also influence the regulations and legislation surrounding tourism
operations, with the sector being better able to lobby and make representations more
easily.
• Similarly, a government that is anti-tourism may make it more difficult for tourism to
take place, placing immigration barriers at borders or introducing legislation that is not
‘user-friendly’ to tourism.
• Governments can also impose taxes and charges at airports and other entry points,
or impose levies or duties on purchases by overseas visitors.
• Governments may introduce schemes to save visitors money, such as GST
exemption schemes designed to encourage tourists to shop locally.
• Governments may also use their powers to fund or support tourism initiatives or
infrastructure projects that can progress and develop, or block, tourism development.
• The shifting tides of governments can change the financial plans of any tourism
business as policy or planning changes take effect.

Debt Management Impact on Profits
• Bad debts appear as an expense on the company's income statement, thus reducing net income.
• In general, companies make an estimate of bad debt expenses that might be incurred in the
current time period based on past records as part of the process of estimating earnings.
• Most companies make a bad debt allowance since it is unlikely that all of their debtors will pay
them in full.
• This ‘expense’ affects a business’s profit.
• Accounting functions within a business include the collection of monies owed, known as
‘accounts receivable.’
• The objective for managing accounts receivable is to collect accounts receivable as quickly as
possible
• The longer an account remains unpaid, the greater the cost to the business as they do not have
use of those funds while they are owed to them.
• Businesses seek to avoid bad debts by offering inducements to settle invoices ‘up front’ or
through partial settlement.
• Cash discounts are also offered as inducement to pay promptly.
• Changes in the credit period, the number of days after the beginning of the credit period until full
payment of the account is due, also affect a firm’s profitability
• Credit monitoring is the ongoing review of a firm’s accounts receivable to determine whether
customers are paying according to the stated credit terms.
• Slow payments are costly to a business because they lengthen the average collection period and
thus increase the firm’s investment in accounts receivable

Smart Financial Management Impact on Profits
• Working capital management focuses on managing each of the firm’s current assets
and current liabilities in a manner that positively contributes to the firm’s value.
• Financial managers seek to turn over inventory as quickly as possible, collect
accounts receivable as quickly as possible, manage mail, processing, and clearing
time, and pay accounts payable as slowly as possible.
• A commonly used technique for effectively managing inventory to keep its level low is
the economic order quantity (EOQ) model and the just-in-time (JIT) system.
• Efficient use of inventory management systems can make a significant difference to
the financial performance of a business. Carrying high stock levels ties up resources
that could be being used elsewhere.
• For businesses operating on an invoice basis ie selling a product or service and then
invoicing a customer, providing credit is an important part of the financial operation of
the business.
• Credit selection techniques determine which customers’ creditworthiness is
consistent with the firm’s credit standards.
• Changes in credit standards can be evaluated by assessing the effects of a proposed
change on profits from sales, the cost of accounts receivable investment, and bad-
debt costs.
• Changes in credit terms—the cash discount, the cash discount period, and the credit
period—can be quantified similarly to changes in credit standards.

Types of Businesses and Financial Structures in Travel and Tourism

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