3.1 Sources of finance

Question 1

what is the role of finance for businesses?

Answer 1

capital expenditure

revenue expenditure

Question 2

what factors would decide the suitable source of finance?

Answer 2

size of business
type of business
time scale
purpose of the finance

Question 3

capital expenditure

Answer 3

investment spending on fixed assets such as the purchase of land and buildings
e.g. machinery, buildings, land, vehicles

Question 4

revenue expenditure

Answer 4

spending on the day-to-day running of a business

e.g. rent, wages, utility bills

Question 5

what are some internal sources of finance?

Answer 5

personal funds
retained profits
sale of assets

Question 6

personal funds

Answer 6

main source of finance for sole traders and partnerships

Question 7

retained profits

Answer 7

the profits that the business keeps after paying taxes and dividends - often used for purchasing and/or upgrading fixed assets

Question 8

sale of assets

Answer 8

when the business sells their dormant assets such as old machinery or computer equipment to raise finance

Question 9

what are some external sources of finance?

Answer 9

share capital
loan capital
overdrafts
trade credit
grants
subsidies
debt factoring
leasing
hire purchase

Question 10

share capital

Answer 10

the money raised from selling shares in the company -

main source of finance for most limited liability companies

Question 11

loan capital

Answer 11

medium- to long-term sources of finance obtained from commercial lenders such as banks
e.g. mortgages, bank loans, debentures

Question 12

mortgage

Answer 12

a loan for the purchase of property such as land or buildings that is secured/has collateral

Question 13

debenture + ads and disads

Answer 13

long term loan certificates issued by limited companies without collateral or security

ads: can be used to raise very long term finance, up to 25 years
disads: interest must be paid

Question 14

overdraft + ads and disads

Answer 14

allows a business to temporarily overdraw on its bank account
ads: interest will be paid only on the amount overdrawn
ease/speed of arrangement
disads: interest rates are variable

Question 15

trade credit + ads and disads

Answer 15

allows a business to ‘buy now and pay later’

ads: almost an interest free loan
disads: the supplier may refuse discounts

Question 16

grants + ads and disads

Answer 16

refers to the government financial gifts to support business activities that do not need to be repaid
ads: does not need to be repaid
no interest rates
disads: often given with “strings attached”

Question 17

subsidies + ads and disads

Answer 17

similar to grants but the focus is to provide benefits to society

ads: do not cut into profit margin
disads: although firms charge lower prices, profit is made up by the financial support of the government subsidy

Question 18

debt factoring + ads and disads

Answer 18

a specialist agent buys the claims on debtors (people who owe the business money) giving the business immediate cash

ads: the collection of debt becomes the problem of the factor and not the business
disads: the firm does not receive 100% of the value of its debts

Question 19

leasing + ads and disads

Answer 19

using an asset without purchasing it, just paying a monthly sum to use it
ads: suitable for businesses that do not have the initial capital to buy assets
spending on leased assets is classes as a business expense, thus tax is reduced
disads: for the long term, it is more expensive than hire purchase or purchase of the asset

Question 20

hire purchase + ads and disads

Answer 20

buying a fixed asset immediately but paying for it over a period of time with interest

ads: the firm doesn’t need large sums of cash to purchase the asset
disads: high interest payments

Question 21

short-term sources of finance

Answer 21

overdraft
bank loan
creditors
debt factoring
sale of assets

Question 22

medium-term sources of finance

Answer 22

hire purchase
leasing
medium term loan

Question 23

long-term sources of finance

Answer 23

share capital
debentures
long term loan
grants

Question 24

venture capital

Answer 24

a form of high-risk capital invested by venture capital firms, usually at the start of a business idea. the finance is usually in the form of loans and/or shares in the business venture

Question 25

what do venture capitalists look at before committing their capital in an investment project?

Answer 25

return on investment
the business plan
people
track record

Question 26

business angels

Answer 26

wealthy entrepreneurs who risk their own money by investing in small to medium-sized businesses that have high growth potential

Question 27

what factors do managers need to decide on before choosing their source(s) of finance?

Answer 27

[STAGE PC]
size and status of firm
timeframe
amount required 
gearing
external factors
purpose of finance
cost of finance