D1: Sources of Finance

Question 1

Finance definition

Answer 1

providing funding for a person or enterprise. This is done using internal or external sources.

Question 2

source of finance definition

Answer 2

where the money comes from

Question 3

where does a business need finance

Answer 3

start a business

run the business

expand the business

Question 4

3 internal sources of finance

Answer 4

retained profit

net current assets

sale of assets

Question 5

8 external sources of finance

Answer 5

owners capital

loans

crowd-funding

venture capital

mortgages

debt factoring

hire purchase

leasing

Question 6

owners capital definition

Answer 6

money put into the business by the owner

Question 7

owners capital advantages

Answer 7

No interest payments or need to repay

High level of commitment from the owner

Question 8

owners capital disadvantages

Answer 8

amount available is likely to me limited

if there is more than one owner this could cause friction if everyone is not able to contribute the same amount

Question 9

loans definition

Answer 9

a set amount of money borrowed for a specific purpose, to be repaid with interest, over a set period.

Question 10

loans advantages

Answer 10

borrow large amounts

fixed interest rates firms to budget

improved cash flow

the borrower retains ownership of the company

Question 11

loans disadvantages

Answer 11

you must repay

interest must be paid regardless of financial performance

a firm normally provides security known as collateral

often more expensive than other forms of finance

can be charged a penalty for early payment

Question 12

crowd-funding definition

Answer 12

raising finance from many people investing different, often, small, amounts of money.

Question 13

crowd-funding definition

Answer 13

raising finance from many people investing different, often, small, amounts of money.

Question 14

crowd-funding advantages

Answer 14

Pitching a business through online platform can be a valuable form of marketing and invite investors to give feedback.

a good way to test the publics reaction to produce – if people are keen to invest it is a good sign that your idea could work well in the market.

Its an alternative finance finance option if you have struggled to get bank loans or traditional funding.

Question 15

crowd-funding disadvantages

Answer 15

A lot of work is needed in building up interest before the project launches – lots of money and / or time may be required.

If you don’t reach your funding target, any finance that has been pledged will usually be returned to your investors and you will receive nothing.

If you haven’t protected your business idea with a patent or copyright, someone may see it on crowdfunding site and steal your concept.
You must pay out rewards to investors

Question 16

venture capital definition

Answer 16

investment from an established business into another business in return for a percentage equity in the company. AKA – private equity finance

Question 17

venture capital advantages

Answer 17

Potential for large sums of money for investment

Expertise to help the business

Makes it easier to attract other sources of finance

Provides the required capital for expansion

Question 18

venture capital disadvantages

Answer 18

A long and complex process

Expert financial projections are likely to be required

Initially expensive for the firm

Partial loss of ownership

Risk of conflict or perceived interference

Question 19

mortgages definition

Answer 19

a long term loan to fund the purchase of a property.

Question 20

mortgages advantages

Answer 20

Makes it possible to buy items such as a property which would not be feasible otherwise.

Spreads the cost of the property over a long period of time.

Changes can be made to find the best deals on a semi-regular basis depending upon mortgage chosen. (e.g. – fixed for variable rate mortgage).

Question 21

mortgages disadvantages

Answer 21

Payments may be subject to change e.g. if interest rates change

You have to apply and may not receive a mortgage if credit rating is poor

Normally require a substantial deposit e.g. 20% of house value

Risk of repossession if default on payments

Question 22

debt factoring definition

Answer 22

the process of selling the debts owed to a business to a financial institution.

Question 23

debt factoring advantages

Answer 23

Receives a large amount of the debt immediately

Good source of short-term finance to address cash flow problems

Debts are chased by experts saving managers’ time

Reduces the risk of bad debts

Question 24

debt factoring disadvantages

Answer 24

Reduces profitability of the firm as a result of the fee paid to the financial institution

May damage the reputation of the firm as they are seen to need short-term finance

Question 25

hire purchase definition

Answer 25

allows a business to enjoy the use of an asset whilst paying for it in regular instalments. The asset will eventually be owned by the business.

Question 26

hire purchase advantages

Answer 26

Avoids one off lump sum payments

allows you to purchase something that you otherwise wouldn’t if you had to pay in lump sum

Question 27

hire purchase disadvantages

Answer 27

Interest will normally be charged on top pf the cost of the asset

Question 28

leasing definition

Answer 28

allows a business to benefit from the use of an asset without owning it or buying it outright. The business pays a set amount in installments to lease/rent the asset to predetermined period.

Question 29

leasing advantages

Answer 29

Avoids the need to pay a lump sum of money to buy the asset outright

The lease company is responsible for any repairs and maintenance

At the end of the lease period the business may start a new lease agreement for the last model

Question 30

leasing disadvantages

Answer 30

May be more costly in the long run paying monthly instalments overtime is be more than the asset is worth

A good credit rating is needed to ensure that monthly repayments can be made