Section D (BUSINESS FINANCE) Flashcards
To select and evaluate different sources of business finance
Definition & Examples of ‘Internal sources of finance’
It is money to fund expenditure from within the business.
- Retained profit = Profits (sales revenue - total costs) kept in the business to fund future expenditure.
- Net Currents Assets = Current assets - current liabilities. It shows the money available in the business to fund day-to-day expenditure.
- Sale of Assets = Selling an item of worth owned by a business in order to achieve an immediate cash injection.
Advantages & Disadvantages of RETAINED PROFIT
ADV:
- No interest charges
- Available immediately
- Only available up to the amount already accumulated by the business and therefore avoids debts
- No loss of ownership (control)
DISADV:
- Amount available may be limited
- Reduces payments to shareholders which may cause dissatisfaction
- Once used it is not available for alternative purposes
Advantages & Disadvantages of NET CURRENT ASSETS
ADV:
- Encourages the business to manage cash flow effectively
DISADV:
- Can put pressure on customers as short credit terms are offered and this negatively effects relationships with suppliers if longer credit terms are negotiated
- Lower stock holdings can affect the firm’s ability to meet customer needs
Advantages & Disadvantages of SALES OF ASSETS
ADV:
- No interest charges
- Reduces capital held up in assets, releasing it for other purposes
- Can mean disposing of an asset no longer of use to the business
DISADV:
- It is likely that the amount received is not a true reflection of the value of the asset
- Can increase costs in the long run if an asset needs to be leased back
Examples of ‘External sources of finance’
- Owner’s Capital = This is money invested in the business from the owner’s personal savings.
- Loans = Loans are money borrowed from a financial institution normally for a set period of time and for a specific purpose. Interest will be payable on the loan.
- Crowd - funding = This involves attracting investment from a large number of speculative investors many of whom may invest relatively small amounts. If cumulatively this matches the required amount then the investments are collected together. Normally makes use of the internet to attract investors.
- Mortgages = These are long-term loans, normally around 25 years, that are secured against a specific asset, e.g. a building. Interest will be payable on the mortgage.
- Venture Capital = This is investment from an experienced entrepreneur in return for a stake (equity) in the business.
- Debt Factoring = this involves the selling of a business’ debts to a third party in order to receive the cash quickly. The factor company pays the business a percentage of the money owed and takes on the responsibility to chase the debts which need to be repaid.
- Hire Purchase = This involves paying to use an asset in instalments to spread the cost over its useful life and hence provide a source of finance. The asset will remain the property of the seller until the final instalment has been paid.
- Leasing = This involves paying to use an asset in instalments to spread the cost over its useful life and hence providing a source of finance. Ownership of the asset stays with the supplier throughout the length of the lease agreement.
- Trade Credit = This is a period of time offered by suppliers to allow the customer to purchase a good or service now and pay at a later date, e.g. 30 days after purchase.
- Grants = This is a lump sum provided to a business by the government or another organisation to be used for a specific purpose. E.g. it could be used to provide employment in a deprived area or invest in the research and development of an environmentally friendly alternative to fossil fuels.
- Donations = These are sums of money given voluntarily to a charity or social enterprise.
- Peer to Peer Lending = This involves one business person lending money to another business person in return for interest payments.
- Invoice Discounting = These are reductions offered to customers making a product or service cheaper, often applied as a percentage.
Advantages & Disadvantages of OWNER’S CAPITAL
ADV:
- No interest payments or need to repay
- High level of commitment from the owner
DISADV:
- Amount available is likely to be limited
- If there is more than one owner, this could cause friction if everyone is not able to contribute the same amount
Advantages & Disadvantages of LOANS
ADV:
-Regular pre-agreed payments make planning and budgeting easy
- Ownership or control is not lost
DISADV:
- Interest is charged on the amount borrowed
- Interest rates can fluctuate
- Often secured against an asset which can be seized if repayments are missed
- Interest has to be paid regardless of whether a profit is being made
Advantages & Disadvantages of CROWD-FUNDING
ADV:
- Offers the ability to raise finance from a large number of investors
- No interest is paid as investors will only be rewarded if the business is successfully sold on a later date
DISADV:
- Partial loss of ownership
- No guarantee that the crowd fund will attract sufficient investment to meet proposal
Advantages & Disadvantages of MORTGAGES
ADV:
- Large amounts of finance can be raised and repaid over a prolonged period of time
- Ownership or control is not lost
DISADV:
- Interest is charged on the amount borrowed
- Interest rates can fluctuate
- Often secured against an asset which can be seized if repayments are missed
- Interest has to be paid regardless of whether a profit us being made
- Not suitable for small amount or as a short-term source of finance
Advantages & Disadvantages of VENTURE CAPITAL
ADV:
- Finance is provided by a business professional who will often offer advice and mentoring alongside investment
- Venture capitalists are often risk takers and may see the potential in a high risk investment that other investors, including banks, may not be willing to invest in
DISADV:
- Partial loss of ownership and control
- Conflict can arise between the entrepreneur and venture capitalist regarding the direction and day-to-day running of the business
Advantages & Disadvantages of DEBT FACTORING
ADV:
- Speeds up the flow of cash into the business from debts
- the factor company takes the risk of bad debt
DISADV:
- Only receive a percentage of the amount owed, therefore reducing profits
- Can give the wrong impression or alienate customers
Advantages & Disadvantages of HIRE PURCHASE
ADV:
- Avoids the need to pay a lump sum for the use of an asset
- Regular instalments make planning and budgeting easier
- Spreads the cost of an asset over its useful life
DISADV:
- Overall amount paid for the use of an asset is likely to be higher than if purchased outright
- Only really suitable for relatively low cost assets, e.g. vehicles
Advantages & Disadvantages of LEASING
ADV:
- Responsibility for maintaining and repairing the asset stays with the supplier
- Spreads the cost of an asset over its life to avoid paying a lump sum up front
DISADV:
- Overall amount paid for the use of an asset is likely to be higher than if purchased outright
- Never actually own the asset and therefore payments are ongoing
Advantages & Disadvantages of TRADE CREDIT
ADV:
- Delays the need to pay for goods and services purchased, therefore aiding cash flow
- No loss of ownership or control
DISADV:
- Potential loss of discounts offered for cash payments
- Only suitable as a short-term source of finance
Advantages & Disadvantages of GRANTS
ADV:
- No need to repay and no interest charges
- No loss of ownership or control
DISADV:
- Often require a lengthy application process
- Might only be awarded if certain conditions are met affecting the way the business operates on a day-to-day basis
