5.3a - Sources of Finance Flashcards
Examples of internal sources of finance:
- Founder finance
- Retained profits
- Debt factoring
Examples of external sources of finance:
- Bank loan
- Bank overdraft
- Friends and family
- Venture capitalists
Short term finance definition
Finance intended for repayment within 12 months
Long term finance definition
Finance intended for repayment after over a year
Rationalisation definition
When managers reorganise the business to make it more efficient through selling assets
Advantages of rationalisation:
Business does not have to pay interest on finance raised
Disadvantages of rationalisation:
- No longer own asset
- Assets lose value over time so they will not get as much as they paid for them
What does a business need to consider when choosing a source of finance?
- Legal structure
- Amount required
- Level of risk
- Short term or long term
Capital expenditure definition
Spending on items that can be used again
Revenue expenditure definition
Spending on day to day costs
Capital structure definition
The way a business raises capital to purchase assets
Debt factoring definition
When a factoring company buys the right to collect money from the credit sales of the business
How does debt factoring work?
The factoring company pays the business 80-90% of debts and collects full amount itself
Advantages of debt factoring:
- Improved cash flow in a short time
- Lower admin costs
- Reduced risk of bad debts
- Increased efficiency
Disadvantages of debt factoring:
- Loss of revenue
- High cost
- Customer relations problems
Bank overdraft definition
A borrowing product in which a bank lets a business owe it money when their balance goes below zero, in return for charging a high rate of interest
Advantages of bank overdraft:
- Flexible
- Interest is only paid on amount of overdraft used
- Useful for seasonal businesses
- Security is not usually required
Disadvantages of bank overdrafts:
- High interest rate
- Flexible rates
- Banks can demand immediate repayment
Advantages of retained profit:
- Cheap
- No security required
- Management of dividend payments (choice over what to do with it)
Disadvantages of retained profit:
- Impact on dividends to shareholders
- Misuse of funds
- Opportunity cost
Advantages of share capital:
- Can be large
- Can be long term
- New shareholders bring expertise
Disadvantages of share capital:
- Only available to limited companies
- Complex to issue
- Pay dividends
- Loss of control
- New shareholders may have different aims
Advantages of bank loans:
- Easy for budgeting
- Lower interest rates
- Guaranteed money for duration of loan
- Don’t give up any ownership
Disadvantages of bank loans:
- Limitations on amount available
- Inflexibility
- Potential expense
- Good credit score needed
- Fee if paid back early
Venture capitalists definition
High net worth individuals who invest in businesses
What is the investment range for venture capitalists?
£10,000 - £750,000
Advantages of venture capital:
- Suited to high risk companies
- Interest and dividends can be delayed sometimes
- Source of advice
Disadvantage of venture capital:
- Some ownership is given up
- Excessive influence
What are alternative sources of finance?
- Sale and leaseback
- Debentures
- Mortgages
- Sale of assets
Debenture definition
A long-term loan made to a business at an agreed fixed percentage rate of interest and repayable on stated date
How long do debentures last for?
25 years
