Sources of finance Flashcards
Define SOURCES OF FINANCE
Sources of finance are the options available to a business when they are seeking to raise capital to support future business activities.
Define INTERNAL FINANCE
Internal finance is finance that comes from within the business.
Define EXTERNAL FINANCE
External finance is finance that comes from outside the business.
What are the three types of internal finance?
- Sale of assets
- Owners capital
- Retained profits
Define OWNER’S CAPITAL
Owner’s capital is the owner’s own money that has been invested into the business.
What are the benefits of owner’s capital?
- Nothing to repay
- No interest to pay
- Owner’s retain control
- Risking own savings may be motvational
- No application procedures
What are the drawbacks of owner’s capital?
- Only limted amounts available
- Threat to personal finacnes/family finanaces
Define RETAINED PROFIT
Retained profit is profit made by the business that is then reinvested back into it in order to fund future activities. It is the most important source of finance for established/profitable businesses.
What are the benefits of retained profit?
- Cheap
- Very flexible
- Does not dilute ownership
What are the drawbacks of retained profit?
- Danger of hoarding profit instead of using it effectively
- Shareholders may prefer to receive dividends from profits
Define SALE OF ASSETS
Sale of assets is the sale of items of value that are owned by the business (often non current assets). They are sold in order to gain an immediate injection of cash.
What are the benefits of selling assets?
- Provides an immediate injection of cash.
- No interest to pay
- Turns obsolete assets into cash.
What are the drawbacks of selling assets?
- May be expensive if the business has to lease th asset back in the long run
- Loss of asset and its future value
- Only a one off option
Define a METHOD OF FINANCE
A method of finance is how the finance is provided to the business.
What are the types of external finance?
- Family and friends
- Crowd-funding
- Peer-to-peer lending
- Business angels
- Bank
- Other businesses
What are the methods of finance?
- Share capital
- Loan
- Leasing
- Trade credit
- Grants
- Overdraft
- Venture capital
What are the advantages and disadvantages of using family and friends?
Adv: Repayment terms may be more flexible. Disadv: - Amount available is limted - May put pressure on relationships
Define BANKS
Banks are financial institutions that are licensed to take deposits, pay interest, make loans and provide related services.
What are the advantages and disadvantages of using a bank?
Adv:
- Specialist employees who may offer expertise and help
- Lots of them
Disadv:
Repayment terms and conditions will be fixed with possible consequences if they are not met.
Define PEER-TO-PEER LENDING
Peer-to-peer lending is the practice of an individual lending to other individuals with whom there is no relationship or contact. Done through a P2P lending company.
Define a BUSINESS ANGEL
Business angels are wealthy individuals who make personal investments into start up companies in return for a share of the profits/ownership.
What are the advantages and disadvantages of business angels?
Adv:
Can offer advice and expertise to the new business
Disadv:
- Can be seen as high risk if the business is not established
- The entrepreneur will need to demonstrate good understanding of their business and its market, presenting detailed plans in order to secure investment.
Define CROWD-FUNDING
Crowd funding is raising finance through a large number of individuals who all contribute different, often small amounts. The investor is only tied to their investment if the total amount needed is raised.
Define OTHER BUSINESSES
Businesses with healthy cash balances and profitability may look to invest in start ups and smaller businesses to improve their potential revenue.
Define a LOAN
A loan is a set amount of money provided for a specific purpose to be paid back with interest in accordance with terms of the loan agreement. Usually secured against an asset such as a house or machinery.
What are the advantages of a loan?
- Quick/easy to secure
- Fixed interest allows firms to budget
- Improves cash flow
- Borrower retains ownership
What are the disadvantages of a loan?
- Interest must be paid regardless of financial position
- Collateral must be provided
- Can be more expensive than other methods
- Can be charged for early repayment
- Highly geared firms may be seen as high risk
Define SHARE CAPITAL
Share capital is the finance raised through the sale of shares. It is only an option for incorporated businesses (Plc/Ltd)
What are the advantages of share capital?
- Dividends only paid if profit is made
- No interest repayments
- Can raise large amounts of capital
What are the disadvantages of share capital?
- Potential loss of control
- Some ownership is lost
- Complex and costly
Define VENTURE CAPITAL
Venture capital is investment from an established business into another business in return for a percentage of ownership of the business.
What are the advantages of venture capital?
- Potential for large amounts of revenue
- Provides expertise and advice
- Easier to attract than other sources of finance
What are the disadvantages of venture capital?
- Long process
- Partial loss of ownership
- High initial costs
- Risk of conflict between venture capitalist and actual owner.
Define an OVERDRAFT
An overdraft is the facility to overspend on a current account up to an agreed amount. Interest is charged on the overdrawn amount.
What are the advantages of an overdraft?
- Good short term source of finance
- Only used when needed
- Quick and easy
- Only pay back what is borrowed
- No charges for paying off early
What are the disadvantages of an overdraft?
- Can be called in at any time
- Difficult to budget as interest repayments are variable.
Define LEASING
Leasing is when a business is allowed to benefit from use of a product without actually having to buy it. They pay set amounts in installments in order to use it for a period of time and it is returned at the end of the period.
Define TRADE CREDIT
Trade credit is paying suppliers a period of time after the goods/services have been received.
Define GRANTS
Grants are fixed amounts of capital provided to businesses by the government in order to encourage production or fund specific projects. They often have specific conditions.
What are the factors that affect the type/amount of finance required?
- What it is required for
- What it will cost
- How flexible is the finance
- What is the business ownership structure?
