Unit 3: Aim D Select and Evaluate different sources of business finance

Question 1

What is Sources of finance

Answer 1

Businesses need finance for various reasons, such as funding capital and revenue expenses. The intended use of the money determines the suitable source. For example, a long-term bank loan or mortgage is good for buying a factory, but not for restocking. Sources can be short-term (paid back within a year) or long-term (paid back over more than a year).

Question 2

What are internal sources of finance

Answer 2

money available to fund
expenditure from within the
business.

Question 3

What is Retained Profit? Advantages and Disadvantages

Answer 3

Its proportions of the companies net income and It’s used for reinvesting in the company, such as funding new projects or paying off debt. Essentially, it helps the business grow.

Question 4

What are sales asserts? Advantages and disadvantages

Answer 4

The sale of assets is when a company sells its resources, like equipment or property, to raise cash. This can help pay off debt or improve finances, but selling important assets might impact the business’s future.

Question 4

What are non current Asserts? Advantages and disadvantages

Answer 4

the money available in the business to fund day-to-day expenditure.

Question 5

Retained Profit? Advantages and Disadvantages

Answer 5

Retained Profit
Advantages:

• No interest charges: This helps to keep overall costs lower for the business.
• Available immediately: This allows for quick access to funds for investments or expenses.
• Avoids debt: This strengthens the company’s financial position and creditworthiness.
• No loss of ownership/control: The original owners maintain full decision-making power.

Disadvantages:
- Limited to what has already been accumulated: Growth may be restricted if profits have not been substantial.
- May reduce shareholder payments, causing dissatisfaction: This could lead to potential issues with retaining investors.
- Once used, it can’t be used for other purposes: Future opportunities may be missed if the funds are tied up in one project.

Question 6

Non current Asserts? Advantages and disadvantages

Answer 6

Advantages:
- Encourages effective cash flow management: This helps ensure the business remains liquid and can meet its obligations.

Disadvantages:
- Shorter credit terms can strain customer relationships: Customers may feel pressured and look for alternatives.
- Longer credit terms can negatively affect supplier relationships: Suppliers may become wary of extending credit further.
- Lower stock levels may hinder meeting customer demands: This could result in lost sales and customer dissatisfaction.

Question 7

Sales of asserts? Advantages and Disadvantages

Answer 7

Advantages:
- No interest charges: This allows the business to avoid additional financing costs.
- Reduces capital tied up in assets, releasing it for other purposes: This can improve liquidity and enable investment in more productive areas.
- Can mean disposing of an asset no longer of use to the business: This helps streamline operations and eliminate unnecessary overhead.

Disadvantages:
- The amount received is likely not a true reflection of the asset’s value: This can result in a financial loss for the business.
- Can increase costs in the long run if an asset needs to be leased back: This may negate the initial financial benefits and create ongoing expenses.

Question 8

What are the External Sources of Finance?

Answer 8

The places where finance can be raised from outside the business

Question 9

What are the 12 types of External finance

Answer 9

1. Owner’s Capital
2. Loans
3. Crowd- Funding
4. Mortgages
5. Venture Capital
6. Debt Factoring
7. Hire Purchase
8. Leasing
9. Trade Credit
10. Grants
11. Donations
12. Peer to peer Lending
13. Invoice discounting

Question 10

What is owner’s Capital? Advantages and Disadvantages

Answer 10

Owner’s Capital is money invested in the business from the owners’s personal savings
Advantages:
- No interest payments or need to repay: This reduces financial pressure on the business.
- High level of commitment from the owner: This often leads to more dedication and effort in the business’s success.

Disadvantages:
- Amount available is likely to be limited: This can restrict growth opportunities.
- If there is more than one owner, it could cause friction: Differences in contributions may lead to disputes and tension among owners.

Question 11

What is Loans? Advantages and Disadvantages

Answer 11

money borrowed from a financial institution normally for a set period of time and for a specific purpose
Advantages:
- Regular pre-agreed repayments make planning easy: This helps in maintaining a clear budget and financial forecast.
- Ownership or control is not lost: This allows the original owners to retain decision-making power.

Disadvantages:
- Interest is charged on the amount borrowed: This increases the total repayment cost over time.
- Interest rates can fluctuate: This can lead to unexpected increases in repayment amounts.
Often secured against an asset: This means assets may be seized if repayments are missed.
- Interest must be paid regardless of profit: This can strain cash flow during tough financial periods.

Question 12

What is Crowd Funding? Advantages and Disadvantages

Answer 12

Where many people invest small amounts of money online to support a project or business. If enough funds are raised, they are combined to finance the initiative.
Advantages:
- Offers the ability to raise finance from many investors: This can provide significant funding without traditional loans.
- No interest is paid: Investors typically earn returns only upon successful business growth or sale.

Disadvantages:
- Partial loss of ownership: This dilutes control among multiple investors.
- No guarantee of sufficient investment: There’s a risk that the campaign may not raise the needed funds.

Question 13

What is Mortgages? Advantages and Disadvantages

Answer 13

It’s a long-term loans, normally around 25 years, that are secured against a specific asset, for example a building.

Advantages:
- Large amounts of finance can be raised and repaid over time: This allows for significant investments in property or equipment.
- Ownership or control is not lost: The original owners maintain their decision-making authority.

Disadvantages:
- Interest is charged on the amount borrowed: This adds to the overall cost of the loan.
- Interest rates can fluctuate: Changes in rates can affect repayment amounts.
- Often secured against an asset: This means the asset may be at risk if repayments are not made.

Question 14

What is Venture Capital? Advantages and Disadvantages

Answer 14

Investment from an experienced entrepreneur in return for a stake (equity) in the business.

Advantages:
- Finance is provided by professionals: This often includes valuable advice and mentoring alongside the investment.
- Risk-taking investors: Venture capitalists may see potential in high-risk investments that others, like banks, might avoid.

Disadvantages:
- Partial loss of ownership and control: Entrepreneurs may have to share decision-making power with investors.
- Potential conflicts: Disagreements can arise regarding the business direction and daily operations.

Question 15

What is Debt Factoring? Advantages and Disadvantages

Answer 15

That’s factoring. A business sells its unpaid bills to a company (the factor) for cash. The factor then collects the money from customers. This helps the business get cash quickly.

Advantages:
- Speeds up cash flow: This allows businesses to access cash from debts more quickly.
- Factor company assumes bad debt risk: This reduces the financial burden of unpaid debts.

Disadvantages:
- Only receive a percentage of owed amounts: This reduces overall profits from sales.
- Can alienate customers: The practice may create a negative impression among clients.

Question 16

What is Hire Purchase? Advantages and Disadvantages

Answer 16

You pay in instalments to use an asset (like a car) but don’t own it until the last payment is made.
Advantages:
- Avoids large upfront payments: This makes it easier to access necessary assets without immediate full payment.
- Regular instalments aid budgeting: This helps with financial planning over time.

Disadvantages:
- Total cost is usually higher than outright purchase: This can lead to paying more for the asset in the long run.
- Best suited for low-cost assets: Typically limited to items like vehicles, not suitable for real estate.

Question 17

What is Leasing? Advantages and Disadvantages

Answer 17

Similar to hire purchase, but you pay to use an asset without ever owning it. The supplier keeps ownership.

Advantages:
- Maintenance responsibility remains with the supplier: This reduces upkeep costs for the business.
- Spreads costs over the asset’s life: This avoids large initial expenses.

Disadvantages:
- Overall cost is usually higher than buying outright: This can lead to increased long-term expenses.
- Never own the asset: Payments continue indefinitely, and ownership is never transferred.

Question 18

What is Trade Credit? Advantages and Disadvantages

Answer 18

A supplier lets you buy goods now and pay for them later, usually within 30 days.

Advantages:
- Delays payment for purchases: This improves cash flow management.
- No loss of ownership or control: Businesses maintain full decision-making power.

Disadvantages:
- Potential loss of cash discounts: Paying later may forfeit discounts for immediate payment.
- Only suitable for short-term financing: This is not a long-term solution.

Question 19

What is Grants? Advantages and Disadvantages

Answer 19

Money given by the government or organisations for specific purposes, like creating jobs or funding research

Advantages:
- No repayment or interest charges: This provides free financial support for the business.
- No loss of ownership or control: The business retains full autonomy.

Disadvantages:
- Lengthy application process: Obtaining grants can be time-consuming and complex.
- Conditions may affect operations: Grants might come with stipulations that impact day-to-day business.

Question 20

What are Donations? Advantages and disadvantages

Answer 20

Voluntary contributions given to charities or social enterprises.

Advantages:
- No repayment or interest charges: This gives businesses financial support without strings attached.
- No loss of ownership or control: Full autonomy is maintained.

Disadvantages:
- Likely small amounts only: Donations may not provide substantial funding.
- Unpredictable: Reliance on donations can lead to inconsistent cash flow.

Question 21

What are peer to peer lending? Advantages and disadvantages

Answer 21

One person lends money to another, typically for business, in exchange for interest.

Advantages:
- Interest rates may be lower: This can reduce borrowing costs compared to traditional lenders.
- Fixed interest rates help with budgeting: This provides clarity for financial planning.

Disadvantages:
- Limited amounts available: Funding may be restricted and for short periods.

Question 22

What are Invoice Discounting? Advantages and disadvantages

Answer 22

Offering discounts to customers who pay their invoices early, making products or services cheaper.

Advantages:
- No need to repay or incur interest charges: This provides immediate cash flow without financial burden.
- No loss of ownership or control: The business maintains decision-making authority.

Disadvantages:
- May only be available with cash purchases: This can negatively impact cash flow if cash flow is tight.
- Cost reductions might be limited: This option may not be suitable for all business models.