2.1 - Raising Finance Flashcards
Types of internal finance
- Owner’s capital
- Retained profit
- Sale of assets
Owner’s capital
Money invested into a business by its owner. This can come from personal savings or other personal financial sources
Advantages and disadvantages of owner’s capital
- Reduces reliance on external finance
- However carries risk of personal financial loss
Retained profit
A business’s net profit that is kept within the company instead of being distributed to shareholders as dividends. It is reinvested in the business for purposes such as expansion, research and development, debt repayment, or improving operational efficiency
Advantages and disadvantages of retained profit
- Doesn’t have to be paid back with interest
- However once it is used its gone also not available for recent startups
- Danger of hoarding cash
Sale of assets
A business selling off its non-essential or underutilised assets,such as machinery, buildings, land, or vehicles to generate cash
External sources of finance
- Family and friends
- Banks
- Peer to peer funding
- Business angels
Business angels
Wealthy individuals who invest their own money into start-ups or early-stage businesses in exchange for equity (ownership shares). They provide not only funding but often mentorship, industry expertise, and valuable business connections
External methods of finance
- Bank loan
- Share capital
- Venture capital
- Overdraft
- Leasing
- Trade credit
- Crowd funding
Bank loan
Fixed amount of money borrowed from a bank that must be repaid over a set period, usually with interest
Advantages and disadvantages of a bank loan
- Can provide a large sum of money for business investment
- Interest payments increase overall costs
Share capital
Money raised by a business through the sale of shares to investors
Advantages and disadvantages of share capital
- No repayment required, unlike loans
- Ownership is diluted as new shareholders gain control
- Shareholders expect dividends, reducing retained profit
Venture capital
Funding provided by venture capital firms or investors to startups and high-growth businesses in exchange for equity (ownership shares). It is typically used by businesses with strong potential but high risk
Advantages and disadvantages of venture capital
- Investors bring expertise, networking opportunities, and strategic guidance
- Loss of ownership and control as investors gain equity
- Pressure to deliver strong returns may influence decision-making
Overdraft
Short-term borrowing facility that allows a business to withdraw more money than it has in its bank account, up to an agreed limit
Advantages and disadvantages of an overdraft
- Quick and easy access to funds
- Helps businesses handle short-term cash flow problems
- High-interest rates compared to loans
Leasing
Method of acquiring assets (such as equipment, vehicles, or machinery) without purchasing them outright. Instead, a business pays a regular fee to use the asset for an agreed period
Advantages and disadvantages of leasing
- No large upfront cost, improving cash flow
- Businesses can upgrade to newer equipment without purchasing
- Can be more expensive in the long run compared to buying outright
Trade credit
Arrangement where a business buys goods or services from a supplier and agrees to pay for them at a later date
Advantages and disadvantages of trade credit
- Helps businesses manage cash flow and avoid needing immediate cash for purchases
- Late payments may incur interest charges or penalties
- Over-reliance on trade credit can lead to debt buildup
Crowdfunding
Method of raising finance by collecting small amounts of money from a large number of people, typically via online platforms. It is often used by startups, entrepreneurs, and creative projects to secure funding without relying on traditional investors or banks
Advantages and disadvantages of crowdfunding
- Provides exposure to a large audience, acting as a marketing tool that helps businesses gain visibility and attract future customers or investors
- Businesses do not have to repay backers or offer equity
- Requires significant time and effort, including creating promotional materials, engaging with backers, and managing the platform
- No guarantee that the campaign will meet its funding goal
Short term methods of finance
- Overdraft
- Trade credit
Long term methods of finance
- Share capital
- Bank loans
- Retained profits
- Mortgages
- Venture capital
Working capital
Represents the funds available for day-to-day operations and is a key indicator of a business’s financial health and its ability to cover short-term expenses
Limited liability
Legal structure in which the financial responsibility of the owners or shareholders of a business is limited to the amount of money they have invested in the business. In the event of the company facing financial difficulties or legal claims, the personal assets of the owners or shareholders are protected and cannot be used to settle business debts or liabilities
Unlimited liability
Situation in which the owners or partners of a business are personally responsible for the debts and obligations of the business. If the business is unable to pay its debts, the personal assets of the owners, such as their homes, savings, and other personal property can be used to cover business liabilities
Business plan
Formal document that outlines the goals of a business, the strategy for achieving those goals, and the financial forecast for the business’s success. It serves as a roadmap for the business’s operations, growth, and future success, and it is often used to secure funding or attract investors
Elements in a business plan
- Cash flow forecast
- Company description
- Sales forecast
- Competitors
- Market research
Advantages of a business plan
- Clarifies business goals and strategy
- Can help secure funding from investors or financial institutions
- By conducting market research and financial forecasting, a business plan identifies potential risks and challenges
Disadvantages of a business plan
- Time-consuming
- May be overly optimistic
- Costs for professional help
Cash inflows
Money that comes into a business from various sources. It represents the incoming funds that a business receives, which can be used for operations, investment, or growth
Cash outflows
Money that flows out of a business to pay for its expenses, liabilities, or investments. These are the payments a company makes to cover operational costs, service debts, and fund capital expenditures
Net cash flow
Difference between the total cash inflows (money coming into the business) and total cash outflows (money going out of the business) over a specific period. It indicates whether a company has more cash coming in than going out (positive net cash flow) or vice versa (negative net cash flow)
Cash flow forecast
Financial tool that predicts a business’s future cash inflows and outflows over a specific period
Advantages of a cash flow forecast
- Improves financial planning
- Helps with budgeting
- Prevents cash shortages
Disadvantages of a cash flow forecast
- Accuracy is dependent on assumptions
- Time-consuming to prepare
- Difficult to predict uncertain events
