External sources of finance (short term sources)

Question 1

Define trade credit

Answer 1

When businesses pay the cost of raw materials and their resources at a later date

Question 2

Benefits of overdrafts

Answer 2

• Flexible source of finance

Question 3

Benefits of trade credits

Answer 3

• The business has more days of having more money (in other words, increase in short-term finance)

Question 4

Benefits of debt factoring

Answer 4

• Immediate cash is provided

Question 5

Limitations of trade credits

Answer 5

• Any discount offered by the supplier for prompt payment will be lost
• Supplier may refuse further deliveries until outstanding payment has been made
• If delayed payment occurs too often, then the supplier may demand payment before delivery

Question 6

Limitations of debt factoring

Answer 6

• The business doesn’t get the full payment because it is bought at a discount

Question 7

Limitations of overdrafts

Answer 7

• Cost of this method is higher

Question 8

Define overdraft

Answer 8

An agreement with the bank which allows a business to spend more money than they have in its account up to an agreed limit. The loan has to be repaid within 12 months

Question 9

Define debt factoring

Answer 9

Selling trade receivables to improve business liquidity. Trade receivables is the amount owed to a business by its customers who bought goods on credit. Debt factoring works by selling debt to a debt-factoring company which the debt-factoring company buy at a discounted amount and this provides the business with immediate cash.