Sources of Finance
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Sources of Finance

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Sources of Finance Sources of Finance Presentation Transcript

  • Sources of Finance tutor2u ™ GCSE Business Studies Revision Presentations 2004
  • Reasons a Business Needs Finance
    • Start a business
    • Finance new technology
    • Open new markets
    • Acquisitions
    • Moving to new premises
    • Day to day running of business
  • Internal and External Sources
    • Internal Sources of Finance
      • Come from trading of business
      • Day to day cash from sales to customers
      • Money loaned from trade suppliers through extended credit
      • Reductions in amount of stock held by business
      • Disposal (sale) of any surplus assets no longer needed (e.g. selling a company car)
    • External finance
      • Comes from individuals or organisations who do not trade directly with business
      • E.g. banks, investors. government
  • Short and Long-term Finance
    • Short term finance
      • Needed to cover day to day running of business
      • Paid back in a short period of time, so less risky for lenders
    • Long term finance
      • Tends to be spent on large projects which will pay back over a longer period of time
      • More risky so lenders tend to ask for some form of insurance or security if company is unable to repay loan.
      • A mortgage is an example of secured long-term finance
  • Main Sources of Long-term Finance
    • Mortgages
    • Bank loans
    • Share issues
    • Debentures
  • Criteria for Choosing a Source of Finance
    • Amount of money required
    • How quickly money is needed
    • Cheapest option available
    • Amount of risk involved in reason for cash
  • Using Own Cash to Start a Business
    • Own cash is cheapest form of finance since it carries no obligation to pay any interest
    • Don’t need to give any control of business to any other party
    • More flexible than other sources
      • No authorisation “hurdles” to overcome
      • Can add more finance if required (and available)
      • Various tax incentives for people who invest in their own business
  • Sources of Finance for Sole Traders and Partnerships
    • Bank loans
    • Bank overdraft
    • Trade credit
    • Retained profits
    • Taking on a new partner
    • Government grants (depending on area and activities
    • Remember – there is no company; so a sole trader or partnership cannot have shareholders providing finance
  • Share Issues
    • Two types of limited company that define the way that money can be raised through shares.
      • A private limited company can sell shares only to designated people and there is a limit how much capital they can raise through this method
      • A public limited company can issue shares to the public. This means anyone can have a share in the company
    • Finance raised by a company by selling new shares to shareholders
    • Unlike a loan money does not have to be repaid over a fixed period of time
    • Note: when one shareholder sells shares to another, the company does not raise any additional funds – since no new shares have been issued
  • Ordinary Shares and Preference Shares
    • Ordinary shares
      • The most common form of share capital
      • Ordinary shareholders can vote at company meetings
      • Amount of dividend received varies
    • Preference shares
      • Shareholders do not have a vote at company meetings
      • Dividend is usually fixed (e.g. 5% of value of shares held paid as dividend each year)
      • Shareholders receive their dividend before ordinary shareholders
  • Return on Investment for Ordinary Shareholders
    • Comes in two parts:
      • Dividends - paid out on each share held by company
      • Increases in value of each share as company itself grows in value (“capital gain”)
    • Note 1: a shareholder only actually “realises” a gain on the increased value of a shareholding when those shares are sold. Otherwise it is just a gain “on paper”
    • Note 2: Companies do not have to pay out dividends
      • There may be no profit available (dividends can only be paid out of profits)
      • The shareholders may wish to reinvest profits in the business rather than take cash out
  • Debentures
    • Source of long term finance
    • In the form of a loan
    • Usually secured against an asset
    • Repayable at a fixed date
    • Fixed rate of interest
  • Difference between Debentures and Ordinary Shares
    • Lender has no voting rights in company
    • Loan attracts interests – whereas holders of ordinary shares get dividends
    • Providers of loans are paid out before ordinary shareholders in event that business fails (assuming there is some cash left)
  • Finance Available from a Bank
    • Bank overdraft
    • Bank loans
    • Asset finance (leasing)
  • Bank Overdrafts and Bank Loans
    • Bank overdraft
      • Limit on borrowing on a bank current account
      • Amount of borrowing may vary on a daily basis
      • Technically repayable on demand by the bank
    • Bank loan
      • Fixed amount for a fixed term
      • Regular fixed repayments
      • Interest on a loan tends to be lower than an overdraft
      • Normally a fixed term loan will be for a greater amount than an overdraft
  • Working Capital
    • Amount of short term capital available for day to day running of business
    • Expressed as current assets less current liabilities e.g. value of debtors and stocks less creditors
    • Working capital normally needs to be funded
      • E.g. the value of stocks and trade debtors is more than the value of trade creditors
  • Debt Factoring
    • Business sells its outstanding customer accounts (those who have not paid their debts to business) to a debt factoring company
    • Factoring company pays business face value of debts less a charge (e.g. 15-20%), but then collects full amount of debts for itself
    • Good way of raising cash quickly, without hassle of chasing payments
    • BUT not so good for profits since it reduces total revenue received from those sales
  • Government Grant Funding
    • Protect jobs in failing/declining industries
    • Help create jobs in areas of high unemployment
    • Help start up new businesses
    • Help businesses relocate to areas of high unemployment
    • Examples
      • European Structural Fund
      • Assisted Areas
      • Regional Selective Assistance
  • Leasing
    • What is involves
      • Like renting a piece of machinery/equipment
      • Business pays a regular amount for a period of time
      • Items belong to leasing company
    • Advantages
      • Cheaper in short run than buying a piece of equipment outright
      • If technology is changing quickly or equipment wears out quickly it can be regularly updated or replaced
      • Cash flow management easier because of regular payments
    • Disadvantages
      • More expensive in long run, because leasing company charges fees which make total cost greater than original cost
  • Hire Purchase
    • Business hires equipment for a period of time making fixed regular payments
    • Once payments have finished it then owns piece of equipment
    • Different to leasing in that business owns equipment when it has finished making payments
  • Sources of Finance for Public Sector Businesses
    • Tax revenue from government, usually paid out in form of grants or subsidies
    • Fees paid by public or businesses e.g. trading licences
    • E.g. In case of BBC, money from TV licence