EXTERNAL SOURCES OF FINANCE Flashcards
External Finance
Money obtained from sources outside the business either frinancial instiutions or individuals.
Share Capital
Money raised from the sale of shares of a limited company. Also known as equity capital.
Advatages of Sharecapital
- Permanent source of capital –> Not need to be repaid. If shareholders want their money back, they need to find a buyer.
- No intrest payments –> Relievs the business from additional expenses.
Disadvantages of sharecapital
- Shareholders will expect to be paid dividends when the business makes a profit.
- In public limited companies, the ownership of the company might be dilluted.
Shareholders
Buyers of the shares.
Authorized share capital
Maximum amount that the share holders intend to raise.
Loan Capital
Money sourced from financial instituions such as banks. Intrest is charged on the loan to be repaid.
Fixed Rate - The intrest does not fluctuate. Same interst rate.
Variable Rate - Intrest changes based on market conditions.
Loan Capital Advantages
- Accesible and can be arranged quickly
- Large organizations can negotiate lower intrest charges
- Doesn’t give any ownership or decision making rights
- If fixed, easily plan expenses
- Repayment is spread out –> Reduces burden
Loan Capital Disadvantages
- Repayment has to be made even if the business isn’t in a good situation.
- If fail to repay, assets may be taken from the business.
Overdrafts
An overdraft occurs when an account lacks the funds to cover a withdrawal, but the bank allows the transaction to go through anyway.
Overdrafts Advantages
- Helps settling short term debts such as paying suppliers or wages –> Opportunity for businesses to spend more money
- Flexible form of finance –> Demand will depend on the needs of the business
- Cheaper than loan capital –> Charging intrests only on the ammount withdrawn.
- Constant positive cashflow
Overdrafts Disadvantages
- Banks can request for the overdraft to be repaid at a very short notice.
- Can at times charge high intrets rates.
Trade Credit
An agreement between businesses that allows the buyer if goods or services to pay the seller at a later date. No immediate transaction.
Trade Credit Advantages
- Business is left in a better cashflow position
- Intrest free
Trade Credit Disadvantages
- Debtors loose out on the possibility of getting discounts
- Delaying payments can lead to poor relations between debtors and suppliers.
Crowdfunding
When a business venture or prokect is funded by a large number of people, each contributing a small amount of money.
It is primarily accessed online through crowdfunding websites of social media.
Crowdfunding Advantages
- Accessibe –> Makes funing easier
- Tests markeability and proves the business’ concept
- Valuable form of marketing –> Can result in media promotion
- Porivdes an opportunity for feedback ad expert guidance
- The business mantains full control –> Won’t have to forfeit when raising funds
Crowdfunding Disadvantages
- Strong competition –> Crowdfunding is very popular
- The business is subjet to scrunity and rejection. A solid idea doesn’t mean that it is going to be accepted, it has to meet all the requirments of the platform.
- Fees need to be paid (they’re minimal)
- Potential risk of failure + Hard to recover + Platorm doesn’t allows to list the same project twice + Thus consequences of failure are severe.
Leasing
When a business (Lessee) enters into a contract with a leasing company (Lessor) to use an asset without having to purhcase it with cash. Periodic ot monthly leasing payments are made.
Finance lease –> Agreement that at the end of the leasing period the asset can be purhcased.
Leasing Advantages
- No need of high intial capital outlay
- Lessor takes responsibility over repair and maintance of assets.
- Useful when assets are requirwd for a short period of time.
Leasing Disadvantages
- Can turn out to be more expensive than directly purchasing it.
Micorofinance Providers
Offer banking services to low-income or unemployed individuals or groups that would otherwise not have other access to financial services.
The goal is to give an opportunity to become self sufficient.
Micorfinance Advanatges
- Do not seek any collateral
- Financial Inclusion –> Poverty Allienation
- They provide or disburse loans quickly and with less formalities, so they can meet any financial emergencies.
- They have an extensive portfolio of loans.
Microfinance Disadvantages
- High intrest rates to cover operational costs, potentially leaving a debt trap for borrowers.
- They offer smaller loan amounts
- Default risk –> May face a higher risk of loan defaults due to the vulnerability of the clients, resulting in financial losses.
Business Angels
Affluent individuals who provide financial capital to small start-ups or entrepeneurs in return for ownership equity of the business.
They invest in high risk businesses with good potential.
They can provide a one-time initial capital injection or support the business continually.
Business Angels Advantages
- More open to negotiation –> Flexible + Risk Takers
- No repayment or intrest required
- Offer valuable knoledge
Business Angels Disadvantages
- They may assume a large degree of control, dilluting ownership of the entrepeneur.
- They may look for a quicker return on investment –> Additional pressure on business.
- Conflict of intrest, they may not align.
