3.1 Flashcards
Sources of Finance
Where a business gets money from to fund their activities. From internal or external sources, divided into:
Start-up-capital
Working capital
Start-up-capital
Capital needed by an entrepreneur to set up a business.
Working Capital
Capital needed to pay for raw materials, day-to-day costs and credit offered to customers.
Working capital = current assests - current liabilities
Capital Expenditure
The purchase of assets that are expected to last for longer than one year, such as builings and machinery.
Revenue Expenditure
Spending on all costs and assets other than fixed assets and including wages and salaries and materials bought for stock.
Internal Sources of Finance
Funds found inside the business. Raised from business’ own assets or from the retained profit.
Retained profit
Sale of Assets
Depreciation Provision
Owners savings (sole trader)
External Sources of Finance
Found outside the business. Can be short, medium or long term sources. E.g loan from the bank.
Retained Profit
Profit from previous years are put back into the business. Once shareholders have been paid, the remaining profits can be used.
Sale of Assets
A buisness may sell equipment or vehicles to raise finance. Known as divestment.
Depreciation Provision
Funds are set aside, on a yearly basis, for the depreciation of worn out assets. Shown as an expense in the income statement but is a provision for new assets.
External Short Term Sources of Finance
Allows business to continue trading and avoid cash flow problems.
Overdraft
Debt Factoring
Trade Credit
Bank Overdraft
A business can take more money out of the bank than what they have in their account, the overdraft limit. It is short term as interest is added to any amount borrowed. Any cash paid into the account reduced the amount overdrawn.
✅Used to cover small cash deficits
❌If the limit is exceeded charges apply
Trade Credit
Business buys goods from a supplier and pays for them at a later date.
✅Helps business survive when cash flow is poor
❌Relation with supplier is at risk
Debt Factoring
A business can sell invoices (money owed to them) to a factoring company for less than their value to increase cash flow into the business.
✅Business doesn’t need to chase debtors
❌Business doesn’t receive full amount of the original invoice
External Medium Term Sources
Bank Loans
Leasing
Hire Purchase
Bank Loan
Bank agrees to loan a business a specific amount of money for a specific purpose, for a specific amount of time. The amount is paid in instalments with interest added.
✅ Makes budgeting and planning easier as repayments are made in regular, fixed installments
❌ Loan may be withdrawn if repayments are late/missed
Leasing
Business can rent vehicles or equipment from a leasing company. The asset is paid for in instalments. The business will not own the asset at the end of the lease.
✅ Leased equipment can be replaced when obsolete
❌ The business doesn’t own the equipment
Hire Purchase
A deposit is paid for a vehicle or piece of equipment with the rest of the purchase price being paid in instalments.
✅ Asset is owned by business at the end of installment period
✅ Cost of asset is spread, making easier to afford
❌ Expensive form of borrowing
External Long Term Sources
Mortage
Sale and Lease Back
Debentures
Share Capital
Venture Capital
Business Angel
Government Grant
Subsidies
Microfinance
Mortage
Long term loan used to pay for a premise (factory). Payments are made over a number of years in equal monthly installments with interest added.
✅ Monthly payments making budgeting easier
❌ Interest rates may be high
Debentures
A group of loans from individuals/other companies. These companies receive fixed interests over the period of the loan and the amount of the loan at the end of the period.
✅ Large amounts of finance can be raised
❌ If the business fails, debenture holders can sell the company’s assets
Share Capital
A public limited company may decide to issue more shares to the public to raise finance.
✅ Limited liability for shareholders encourages investment
❌ It is expensive to issue shares
Venture Capital
Special institutions that provide finance when banks decide a loan is too risky. Businesses receiving venture capital are small start-ups. They receive percentage of the business in exchange for investment.
✅ Business can receive finance for risky investments
❌ Want part ownership in exchange of finance
Business Angel
Wealthy individuals who want to help finance entrepreneurs.
✅ Personal experience and contacts of the angel can be invaluable
❌ Want a share of ownerhsip in return and require a certain part of the profit of the business
Government Grant
Finance from local or central government. An incentive for a business to set up in a particular area (high unemployment).
✅ Does not need to be repaid
❌ Restrictions may be imposed on how the grant can be spent
Subsidies
Financial benefits given by the government to a business to reduce costs and encourage increased production. Usually given to reduce unemployment in a region.
✅ Doesn’t have to be repaid
❌ Allows inefficient producers remain in the market
