External finance(2.1.2) Flashcards
What is external finance?
finance sourced from outside the business
Sources of external finance
family and friends
banks
peer to peer funding
business angels
crowdfunding
other businesses
Family and friends-external finance
small business owners approach close acquaintances to invest in or lend money to a business
Family and friends advantages-external finance
usually very cheap source of funds
may have no strings attached and can be provided on very flexible terms
Family and friends disadvantages-external finance
relationships may be damaged if finance is not repaid
Banks-external finance
banks provide several different types of loans to a business
Banks advantages-external finance
may offer both short term finance and long term finance if a business qualifies
often keen to provide free advice and guidance to businesses that use their services
small sums may be borrowed from unsecured
Banks disadvantages-external finance
business plan is usually required to access bank finance
can be cautious about lending to new untested businesses
interest (and often an arrangement fee) is payable
businesses must be customers of the bank to access some loans
for larger amounts businesses may need to provide security to be granted a loan
What is peer to peer funding?
individuals with available savings pool it with others in a peer investment scheme
Peer to peer funding advantages-external finance
loans ca usually be made available to businesses very quickly
usually has no strings attached
Peer to peer funding disadvantages-external finance
borrowers are charged a small fee to access finance in this way and have to pay interest in the same way as a bank loan
What is a business angel?
individuals who invest in a business in exchange for a stake in the business
Business angels
specialise in making investments in start up or expanding businesses
Business angel advantages-external finance
tend to be more willing to take a risk than banks
often offer advice and guidance to the business in which they invest
investment is usually for a determined period of time so owners regain shares in the future
Business angels disadvantages-external finance
finding the right business angel can be challenging
as they own a stake in the business they may be involved in decision making and will receive a share of business profits
What is crowdfunding?
finance provided by a large number of small investors on online platforms
Crowdfunding advantages-external finance
creates an organic customer base and the platform provides a form of free marketing
a good credit rating is not required so new businesses that lack a trading record can attract funding
Crowdfunding disadvantages-external finance
businesses need to provide a persuasive business plan to convince individuals to invest in their products as they will be competing with many other projects online
potential for negative publicity if the project is not successful in attracting enough crowdfunding capital
Other businesses-external finance
may be possible for a business to access finance via a joint venture with another business
some large businesses buy shares in other companies as an investment or with the intention of a takeover
Other businesses advantages-external finance
may provide access to business processes and market knowledge alongside finance
can access large amounts of finance
Other businesses disadvantages-external finance
profits need to be shared between businesses
decisions will usually need to be agreed by all businesses
Bank loans (mortgages and debentures)-methods of finance
bank loans are usually unsecured and typically repaid over two to ten years
mortgages are long term secured loans and typically used by a business to purchase buildings land or large items of capital equipment
debentures are long term agreements between a business and a lender to repay a specified amount (with a fixed rate of interest) by a certain rate
Bank loan advantages-methods of finance
easy to access
cam pay in installments
business still has authority
interest is fixed
Bank loan disadvantages-methods of finance
must pay interest
limited time to pay it back
depends on credit score
non current liability
What is an overdraft?
an arrangement for business account holders to spend more money than it has in their account
a limit is agreed and interest is charged only when a business goes overdrawn
Overdraft advantage-methods of finance
short term source of finance tbat offers significant flexibility and aids cash flow
Overdraft disadvantages-methods of finance
an overdraft may be called in if the bank is concerned about a business’s ability to repay what it owes
can carry significant interest
What is share capital?
finance raised from the sale of shares in a limited company
What are share holders?
owners of shares and they are entitled to a share of the companys profit when dividends are declared
Share capital advantages-methods of finance
large amounts of capital can be raised especially by public limited companies
interest is not payable on finance raised in this way
Share capital disadvantages-methods of finance
shareholders have a say in the business
e.g composition of the board of directors
What is venture capital?
funds provided by specialist investors in small to medium sized businesses that have significant potential for growth
e.g in the technology sector
Venture capital advantages-methods of finance
businesses that may have been refused finance from other sources may be able to attract investment from less risk averse venture capitalists
Venture capital disadvantages-methods of finance
venture capitalists usually require a stake in the business in return for finance and often expect to exert some control over the business
What is leasing?
an asset such as a piece of machinery or a vehicle used by the business in return for regular payments
e.g many businesses lease office equipment such as photocopiers and IT equipment
Leasing advantage-methods of finance
business does not own the asset during the period of the lease and so is not responsible for maintenance and repair costs
Leasing disadvantages-methods of finance
leasing is usually more expensive in the long run than buying an asset
What is trade credit?
an agreement is made with suppliers to buy raw materials components and stock which are paid for at a later date typically 30 to 90 days
Trade credit advantage-methods of finance
usually interest free
Trade credit disadvantage-methods of finance
discount for early payment will not be available
Grants-methods of finance
governments and industry may offer grants to businesses that meet specific criteria
e.g grants may be available for businesses that create jobs or improve infrastructure in a region
Grants advantage-methods of finance
doesnt need to be paid back
Grant disadvantages-methods of finance
need to meet specific requirements
hard to access
