finance Flashcards
internal sources of finance:
internal sources of finance:
- personal funds (for sole traders)
- retained profit
- sale of assets
external sources of finance:
external sources of finance:
- share capital
- loan capital
- overdrafts
- trade credit
- crowdfunding
- leasing
- micro-finance providers
- business angels
personal funds
usually relied on by sole traders and partners (so from their savings to finance a start up business)
personal funds advantages (3) and disadvantages (3)
advantages:
- do not need to be repaid
- no interest charges included
- the sole traders//partners have higher chances of being able to borrow money if they need to because investing your own personal funds shows greater determination and commitment
disadvantages:
- rarely sufficient are rarely sufficient for a small business
- many entrepreneurs risk their life savings and its a bad idea cause may not pay off if the business venture fails
- they are less likely to be able to secure external sourced of finance so they need to rely on their personal funds
retained profit
exists when a firms total revenue exceeds its total costs, profit belongs to the owners of the business, but can be distributed as a financial reward for the owners and or retained within the business as an important internal source of profit
they are reinvested in the business not to the owners
it is also known as ploughed-back profit
so okay basically it is like the firms savings which have been built up over time
for established businesses it is the primary source of investment income it is recorded and shown in the balance sheet as a part of a firms equity
retained profit advantages and disadvantages
advantages:
- as an interal source of finance retained profit does not incur any interest charges
- as the money belongs to the business it is considered a permanent source of finance
- flexibility in use of the retained profit (you can use it for whatever you wish, unlike bank loans which serve a specific purpose and you cant use them for anything else)
disadvantages:
- start up businesses do not have any retained profit and therefore it is not a possible source of finance for creating a new business
- retained profit is rarely enough as a sole source of finance for most businesses in their pursuit of growth and evolution
- usage of the funds as retained profit to grow the business means there is less dividends for shareholders and owners
sale of assets
sale of assets assets are anything the business buys that has marketable value, buildings, vehicles, computers, intellectual property
non current assets are items a business owns and
- uses for more than 12 months
- can be used repeatedly
- generates income for the organisation
basically: when a business is in need of money it can sell off some of its non-current assets
sale of assets a&d
advantages:
- a large sum of money can be raised
- selling excess resources, or ouytdated items which just aren’t in their best form atm is a sensible way of raising finance
- no costs of borrowing, you don’t have to make interest repayments
disadvantages:
- the sale of certain non current assets might negatively impact productivity
- time consuming to find a responsible, suitable buyer
- the purchase is likely to be a small price esp if the item is obsolete also bc the business is in the weaker bargaining position
- only available to established businesses
share capital
share capital (equity capital) finance raised by selling shares on stock exchange (or stock market) it is a long term source of finance for LLC
initial public offering (ipo) when a LLC sells its shared for the first time on public stock exchange
main functions of a stock exchange:
- enabling companies to raise share capital
- -overseeing initial ipo’s of a new publicly held company
- providing market for trading second hand shares
share capital a&d
advantages:
- permanent capital (doesn’t have to be repaidP
- can provide significant funding
- does not involve debt and doesn’t require interest repayments
- improves company gearing (debt to equality ratio)
disadvantages:
- shareholders must be paid dividends if the company earns a profit
- the ownership and control of existing shareholders may be diluted
- high cost of supplying shares esp the iso and its professional fees, legal expanses, marketing costs
- only publicly held companies can trade their shares using the stock market, and these have strict regulatory requirements
loan capital (debt capital)
is borrowed funds from financial lenders like commercial banks it is a long term source of external finance hence it is a part of a firms non current liabilities in the balance sheet typically used to buy non-current assets like machinery and property
(bank loans, mortgages, debentures, corporate bonds)
loan capital a&d
advantages:
- allows the borrower to repay in regular instalments making it more accessible and affordable
- possibility of negotiating a lower rate of interest on a loan
- suitable if the owners need to raise finance without weakening their ownership and losing control through issuing shares
disadvantages:
- interest is calculated according to the amount of borrowed funds
- businesses are forced to offer collateral before loans are approved, failure to repay the loan might lead to the lender being able to seize the firms assets to pay for the borrow money
- -firms that borrow loan capital on variable interest rates might suffer from liquidity problems if the rate of interests increases
overdrafts
banking services that allow customers (personal and business) ro withdraw a bigger amount of money than they have in their account) which can help quickly meet short term liquidity needs it has to be pre approved to avoid expensive bank charges
overdrafts a&d
advantages:
- quick and easy to obtain
- provide businesses with emergency funds
- provides great flexibility
disadvantages
- interest is higher than on standard bank loans
- usually a smaller amount of money
- banks can ask for overdrafts to be repaid at a very short notice
trade credit
allows a customer to buy and obtain goods and services but pay for them later so the supplier provides the trade credit to the customer (another business organisation) and it helps cash flow
crowdfunding
raising small amounts of money from a huge number of people to fund a specific business project or venture
typically done through online platforms (fundraisers) typically selling of a stake in a business to a number of investors in the crows so kind of like sale of shares
they often operate on a all of nothing funding model which means that of the fundraiser does not reach the target needed everyone in the crowd gets their money back
there is also donation based crowdfunding
individuals donate small amounts of money to fund a charity
crowdfunding a&d
advantages:
- because everyone donates so little the risks of smth happening if the business project fails are smaller
- business owners and entrepreneurs do not have to deal with commercial banks
- many people can invest so it is efficient
- the crows gains so control of the organisation
- less costly than being listed on public stock exchange
disadvantages:
- legal challenges and considerations like transparent disclosure of legal documents
- necessity for due diligence (a process of collecting and analysing information before deciding upon making a transaction so a party won’t be held legally liable for any loss or damage)
- theft of intellectual property is commonplace
- multiple cases of crowdfunding scams
leasing
means the business or the customer signing a contract with the leasing company to access particular non current for an agreed fee it allows businesses to use assets without having to purchase them so like lending property for a specific amount of time
leasing a&d
advantages:
- the customer needs not to unnecessarily purchase expensive machinery, vehicles, any other type of capital
- the lessor takes responsibility for maintaining capital equipment or any leased property
- esp if you only need the item fir a short period of time
- enables a company to access non current assets without the high costs of capital expenditure
disadvantages:
- you never own the asset
- over a long period of time might be more expensive
micro-finance providers
are for profit social enterprises that offer a financial service to jobless or very low income people who wouldn’t be able to secure bank loans the aim is to help entrepreneurs struggling to finance their start up business gain access to loans of a small account
micro finance providers a&d
advantages:
- helps individuals get out of poverty
- help empower entrepreneurs of small businesses
- creates benefits for a wider community (by for example providing bette health care and education)
- socially responsible
- helps build a foster culture o enterpreneurialship and economic independence
disadvantages:
- sometimes regarded as unethical because its gaining profit off of low income people
- only provides finance on a small scale so it won’t make a big difference
business angels
are wealthy and successful individuals who risk their own money in a business venture that has a lot of growth potential it represents a high degree of risk
they often come from private equity firms and these are specialist finance companies that provide funding in exchange for equity ownership or a share of future profits
business angels a&d
advantages:
- provide the essential source of finance for a start up business
- the small businesses can benefit from the expertise and experience of business angels
disadvantages:
- these business ventures are incredibly risky for the business angels and they are risking their own personal money so the amount of finance is not easily available
- no guarantees that the angel will earn a satisfiable ROI
- difficult to come by bc of the risks but also the large number of entrepreneurs competing for the funds
- the angels will dilute the firms control and ownership as they will want a huge share and say within the organisation
costs
- fixed
- variable
- direct
- indirect (overhead)
the charges that the organization has to pay, from its operations (purchase of raw materials, purchase of stock, insurence payment, salaries and wages)
fixed costs
of production do not change with the level of output they have to be paid no matter how many goods are produced or sold (rent payment, insurance payments, salaries to management) fixed bc they do not change with the level of production or output
variable costs
change with the level of output. they increase with the firms output or sales value (the cost of purchasing raw materials and components for production, commissions paid to sales staff, wages paid to employees)
calculating total costs of production
calculating total costs of production
fixed costs + variable costs
calculating the average cost of production
(to determine the company’s economies of scale)
total costs : units of output
direct costs (costs of sales)
are the part of expenditure (spending) that are (directly) associated with the output ot sale of a certain good, service or business operation so like direct costs of a hair salon include the money spent on hair products they might compromise of variable costs (raw materials) and fixed costs (rent, depreciation costs for taxis)
indirect (overhead) costs
are costs which are not strictly related with the sale or output of a specific good, service, department, business operation (rent on premises, salaries for administrative staff, fees for legal and accounting services, utility bills, general third party insurance, just costs involved with maintaining and running the organisation)
