2.1 Raising Finance Flashcards
What are the internal sources of finance
Retained profit
Sale of assets
Owners capital
Benefits and drawbacks of retained profit
+ a free source of finance that doesn’t incur interest so low cost
- shareholders may wish to receive it back in the form of a dividend
- only applicable to an established business whose been trading over a year as it is any profit left over from previous years
- may not be enough
- takes a long time to save depending on business
Benefits and drawbacks of sale of assets
+ frees up value in unwanted assets to be invested in other areas of the business
+ no interest so low cost
- the business loses the benefit of the asset (opportunity cost) e.g. no longer owning a delivery vehicle
- takes a long time to save depending on business
- might not be enough
Benefits and drawbacks of owners capital
+ a free source of finance that doesn’t incur interest
- owners could lose their personal investment
What are the external sources of finance
Overdrafts Trade credit Grants Leasing Bank loans Venture capital Share capital Crowd funding
+ and - of overdrafts
+ flexible way to find working capital- acts as a buffer for day to day expenses
+ flexible on repayment
+ good for emergencies and cash flow
- bank may ask for repayment at any time
- interest rates are high
+ and - of trade credit
+ suitable for buying raw materials from suppliers as it gives the business opportunity to generate revenues before having to pay
+ helps with cash flow as you keep cash in your organisation for longer
- delays in payment can damage relationships with suppliers
- dependent on relationship with supplier
- not good for new businesses
- can be removed at any time
+ and - of grants
+ government schemes might be available for some small businesses
+ helps to manufacture products
+ not in debt
+ don’t have to repay
+ no interest
- generally given for social, environmental or economic benefits
- long application process
- few and far between
+ and - of leasing
+ assets can be acquired without large capital spending to acquire them
+ you still own assets
- can’t use it while it’s rented
- in the long term a leased asset is more expensive than purchasing outright
+ and - of bank loans
+ can be negotiated to meet business requirements
+ can get a large sum of money
- have to pay interest
- have to go through credit checks
- business has to pay interest and may have to offer collateral to secure it
+ and - of venture capital
+ can bring expertise into the business
+ have contacts in the industry
+ can raise large sums of money
- owner may not want input from elsewhere into the running of the business
- diluting ownership and may be too involved
+ and - of share capital
+ it can access very large amounts of capital
+ no interest
+ doesn’t get paid back
- only available to ltd (people you know) and plc (public)
- have to pay dividends
- diluting ownership
- easy to be taken over
+ and - of crowd funding
+ cheap and easy to set up
+ can get rewards
+ flexible
+ interest free so low costs
+ doesn’t have to be paid back
+ large number of investors
- not suitable for raising large amounts of money
- may not get enough funding
- can take a long time
- not immediate
- have to satisfy requirements of investors
Factors to consider in finance sourcing?
Legal structure- some sources such as share capital are only available to companies
Cost- some sources have very high interest repayments
Risk- sources that require collateral can be high risk
Flexibility- some sources are highly adaptable to meet the business’s precise needs
What is limited liability
When the owner is only responsible for what they invest. Owner is separate entity to business. Personal possessions can’t be taken
What’s unlimited liability
Owners fully responsible for debts of business
Implications of unlimited liability
Owners of unlimited businesses are exposed to the financial obligations of the business
If they’re unable to pay business debts to banks and suppliers they could lose personal assets. The same obligations apply to any unlawful employees.
Unlimited liability companies sometimes find it easier to raise finance from lenders as the lenders can seem to regain any borrowings directly from the owners of the business
Implications of limited liability
Businesses with limited liability are owned by shareholders.
As a limited liability company is a separate legal entity the personal assets of shareholders are protected. Limited liability companies may also find it easier to raise large amounts of capital through the sources available to them
What’s a shareholder
An individual or institution that owns a percentage of a company
How do shareholders gain from shares
- Through profits returned in the form of dividends
2. In the rise of the price of the shared held when they come to sell them
What finance is appropriate for limited liability businesses
Share capital Retained profit Venture capital Business angels Bank loans
What finance is appropriate for unlimited liability businesses?
Personal savings Retained profit Mortgages Unsecured bank loans Peer to peer funding Crowd funding Grants Bank overdrafts
What should a good business plan include
Executive summary Business idea and opportunity Aims and objectives Market research Financial forecasts Sources of finance Premises and equipment Personnel Buying and production
What’s an executive summary in a business plan
A one page overview of the business outlining its purpose and the opportunity
What’s the business idea and opportunity in a business plan
An outline of the business idea and concept so that all stakeholders can understand the owners intentions
What are the aims and objectives in a business plan
Aims and objectives should be SMART. The owner will measure their success against these targets
What’s market research in a business plan
Market research into the target market, the market and other competitors
What’s financial forecasts in a business plan
These will include forecasts in costs, revenue, profit and cash flow ( cash flow forecast, budgets and break even analysis)
What are sources of finance in a business plan
A plan on how the business will be financed and how any borrowings will be repaid
What are premises and equipment in a business plan
The location of the business and its rationale. How this will be financed and any other equipment the business will need
What is personnel in a business plan
An organisation chart outlining the personnel in the business, their areas of responsibility, skills and qualifications
What is buying and production in the business plan
Details of how the products will be produces including details of suppliers
Who uses a business plan
Owners as a guide and working document
Lenders - e.g. banks will want to investigate the likely success and risk of lending to a new business
Investors- to assess the risk and reward of investing in the business
Parents and employees- anyone wanting to work with/ for the business
What is a cash flow forecast
The prediction of all expected receipts and expenses of a business over a future time period which shows the expected cash balance at the end of month
How to Calculate cash flow forecast
(Inflows- outflows = net cash flow) + opening balance = closing balance
When analysing cash flow forecasts what should managers consider
Are the monthly inflows greater than monthly outflows?
What are the forecast periods of high expenditure
Are inflows increasing over time
Is there a seasonal trend
Is there enough cash reserves to cover unexpected costs
What are the causes of cash flow problems
Over trading
Allowing too much trade credit to customers
Poor credit control
Inaccurate cash flow management
Unforeseen costs
How to speed up inflows
Incentivise early repayment by giving customers a discount for paying early
Reduce trade credit given to customers
Sell off stock at a discounted price to free up cash
Inject fresh capital into the business
How to slow down outflows
Delay payments to suppliers-> keeps cash in business for longer but may develop poor relationship
Increase trade credit agreements with suppliers-> dependent on relationship, not likely if you’re a new business
Cut costs, such as finding cheaper alternatives or postponing spending in areas such as training or advertising
What’s the best way to ensure the business has a positive cash flow
Invest time and effort into researching and planning effective cash flow forecasts
What is internal finance?
Money generated within the business or its current owners
Cash raised for a business’ own activities
What’s external finance
Money raised from outside the business such as through family and friends, banks and peer to peer funding
What are the sources of external Finance
Family and friends Peer to peer funding Banks Business angels Crowdfunding Other businesses
What are the methods of external finance
Loans Share capital Venture capital Bank overdraft Leasing Grants Trade credit
Benefits and drawbacks of sourcing finance from family and friends
+ likely to give you it
+ lenient of payback
+ flexible
- may not provide enough finance
Benefits and drawbacks of sourcing finance from peer to peer funding
+ more negotiable on payback
- may not provide enough finance
Benefits and drawbacks of sourcing finance from business angels
+ have knowledge and expertise
+ have contacts in the industry
+ can raise large sums of money
- may be too involved
- diluting ownership
+ and - of internal finance
\+ Capital available immediately Cheap Not subject to credit checks No need to involve third parties
-
Can be limited
Inflexible
Opportunity costs can be high
+ and - of limited liability
+ less risk for owners -> more willing to invest
- may mean it’s harder to access external finance
+ and - of unlimited liability
+ easier to raise external finance
- High risk for owners
What is risk
The possibility of a negative outcome ‘conscious choice’
Eg business failure, financial loss, lack of security
How to minimise risk
Planning
Market research
Raising sufficient start up capital
Being competitive
What’s a business plan
A plan for the development of a business, giving details such as the products to be made, resources needed and forecasts such as costs, revenues and cash flows
A business plan is a physical document
Influences On a business plan
Entrepreneur
Business experience
Benefits of producing a business plan
- Force owners to take an objective, critical and unemotional look at the whole business idea. Can see if it’s do-able. Won’t waste time of something that can’t happen and can think of a better idea
- Helps show lenders and investors that the owner is cautious, responsible, serious and credible
- Flags up potential problems
- Provide a road map that shows a clear direction for the development of the business
- Provide an action plan that identifies key tasks that must be undertaken because it won’t show any risks or problems that the business may face. This means you may not get start up funds because banks and investors want to know you’ve panned for potential risks therefore you may not be able to start your business
Disadvantages of a business plan
Time consuming -> opportunity costs-> could be doing other important start up tasks
Expose flaws in business -> doesn’t secure you finance
+ and - of loans
+ can borrow large amounts
+ fixed instalments make it easier to plan cash flow
- interest to pay, business in debt
What’s venture capital
Where a business borrows a sum of money usually for a share in ownership
What’s an overdraft
An extension of a current account
Can go into minus figure
What’s leasing
When business rents out assets. Usually non current assets eg land
What’s trade credit
Where business has extended period to pay for supplies, usually 30, 60, 90 days
What’s a grant
A free sum of money given by government
What are the benefits of cash flow forecasting / why should a business do it
Support an application for lending and can secure Lower interest rate
Support the budgeting process -> allowing business to plan how much each department has to spend
Identify any potential cash flow crisis -> can plan for other sources of finance and cutting costs
What must a business consider in order to manage cash flow effectively
Payables- amount of time (days) taken for the business to pay creditors
Receivables - amount of time taken for debtors to pay the business
What’s cash
Physical money a business has which is available to spend
What’s a receipt
Cash coming into the business (inflows, receivables)
What are expenses
Cash going out of the business (outflows, payables)
What financial document is used to the future?
Which for the present?
Which for the past?
Cash flow forecast
Balance sheet ( statement of financial position)
Profit and loss ( statement of comprehensive income)
How to calculate total receipts
All inflows added together
How to calculate net cash flow
Inflows- outflow
How to calculate opening balance
Previous month’s closing balance
How to calculate closing balance
Net cash flow + opening balance
Limitations of cash flow forecasting
Some figure based on estimates, depends of reliability
Variables are constantly changing so needs to be updated -> demand changes, makes it more inaccurate
Cash flow focus on only cash-> don’t consider profit or profitability -> has to use in conjunction
Why do we need cash
Pay wages
Emergencies
Supplies
Purchase resources
Without cash you have business failure
