5.3a Sources of Finance

Question 1

What does internal sources include?

Answer 1

• Founder finance
• Retained profits
• Debt factoring

Question 2

What does external sources include?

Answer 2

• Bank loans
• Bank overdraft
• Venture capitalists

Question 3

Short term finance definition

Answer 3

Finance intended for repayment within 12 months

Question 4

Long-term finance definition

Answer 4

Finance intended for repayment after 1 year +

Question 5

Capital expenditure definition

Answer 5

Spending on items that can be used again

Question 6

Revenue expenditure

Answer 6

Spending on current, day to day costs e.g. raw materials

Question 7

Debt factoring definition

Answer 7

When a factoring company buys the right to collect money from the credit sales of the business

Question 8

How does debt factoring work?

Answer 8

The factoring company pays the business 80-90% of face value of the debts and then collects the full amount of debts itself

Question 9

Advantages of debt factoring

Answer 9

• Improved cash flow in a short time
• Lower admin costs
• Increased efficiency

Question 10

Disadvantages of debt factoring

Answer 10

• Loss of revenue
• High cost
• Customer relations problems

Question 11

Advantages of bank overdrafts

Answer 11

• Flexible
• Interest is only paid on amount of overdraft being used
• Security is not usually required

Question 12

Disadvantages of bank overdrafts

Answer 12

• Level of interest rate charged
• Flexible interest rates
• Banks can demand immediate repayment

Question 13

Retained profit definition

Answer 13

Cash reinvested into the business

Question 14

Advantages of retained profit

Answer 14

• Cheap source
• No security required
• Management of dividend payments

Question 15

Disadvantages of retained profit

Answer 15

• Impact on dividends to shareholders
• Misuse of funds
• Opportunity cost

Question 16

Advantages of share captial

Answer 16

• Can be large
• Can be long term
• New shareholders can bring expertise

Question 17

Disadvantages of share capital

Answer 17

• Complex to issue
• Usually dividends to pay
• Loss of ownership

Question 18

Advantages of bank loans

Answer 18

• Easy for budgeting
• Lower interest rates
• Designed to meet company’s needs

Question 19

Disadvantages of bank loans

Answer 19

• Limitation on amount available
• Inflexibility
• Potential expense

Question 20

Venture capitalists definition

Answer 20

High net worth individuals who invest in high growth businesses

Question 21

Investment range for venture capitalists

Answer 21

£10,000 - £750,000

Question 22

Venture capitalists are also known as

Answer 22

Business angels

Question 23

Advantages of venture capitalists

Answer 23

• Suited to high risk companies
• Interest and dividends can be delayed sometimes
• Source of advice

Question 24

Disadvantages of venture capitalists

Answer 24

• Some ownership is given up

- Excessive influence

Question 25

Debenture definition

Answer 25

Long-term loan made to a business at an agreed fixed interest repayable on set date

Question 26

Traditional length of debentures

Answer 26

25 years

Question 27

Alternative sources of finance

Answer 27

• Sale and leaseback
• Mortgages
• Sale of assets

Question 28

Source of finance depends on

Answer 28

• Size/profitability
• Amount required
• Level of risk involved

Question 29

What is rationalisation?

Answer 29

When managers reorganise the business to make it more efficient through selling assets

Question 30

Advantage of rationalisation:

Answer 30

Don’t need to pay interest on finance raised

Question 31

Disadvantages of rationalisation:

Answer 31

• No longer own asset

- Assets lose value over time so won’t get as much as they paid for them

Question 32

What do businesses need to consider when choosing a source of finance?

Answer 32

• Legal structure
• Amount required
• Level of risk
• Short or long term

Question 33

What does capital structure refer to?

Answer 33

The way in which a business raises capital to purchase assets