Business Finance Overview
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Questions and Answers

What is the primary purpose of start-up capital for a new business?

  • To invest in marketing strategies after launch
  • To fund research and development for new products
  • To pay for fixed and current assets before trading can begin (correct)
  • To cover ongoing operational costs once trading starts

Why would a business require additional finance for capital expenditure?

  • To meet legal compliance costs
  • To improve customer service training
  • To purchase equipment and facilities to increase output (correct)
  • To enhance employee benefit programs

What is working capital essential for in a business?

  • Maintaining a positive cash flow for day-to-day expenses (correct)
  • Acquiring new customers through advertising
  • Investing in long-term financial assets
  • Securing loans with favorable terms

Which situation would most likely require short-term finance?

<p>Facing a delay in a large customer payment affecting bill payments (B)</p> Signup and view all the answers

What might be a consequence of not having enough working capital?

<p>Inability to cover day-to-day expenses (C)</p> Signup and view all the answers

What is the main function of the finance department within a business?

<p>To manage finances and ensure the business remains liquid (A)</p> Signup and view all the answers

How does a seasonal business, like an ice cream seller, manage its cash flow needs?

<p>By using short-term finance to get through periods of poor cash flow (B)</p> Signup and view all the answers

In what scenario would a business typically need to invest capital in research and development (R&D)?

<p>To develop and innovate new products (A)</p> Signup and view all the answers

Which of the following best describes a bank overdraft?

<p>An arrangement allowing a business to withdraw more money than it has. (B)</p> Signup and view all the answers

Which type of external finance allows a company to raise funds by selling ownership shares?

<p>Share issue (C)</p> Signup and view all the answers

What is the primary advantage of debt factoring for a business?

<p>It allows for immediate cash flow by selling invoices. (A)</p> Signup and view all the answers

What characteristic differentiates grants from loans?

<p>Grants may have conditions but generally do not need to be repaid. (D)</p> Signup and view all the answers

Which financing option is commonly used by businesses to acquire equipment without an outright purchase?

<p>Hire purchase or leasing (A)</p> Signup and view all the answers

Which of the following statements about loans is true?

<p>Loans can be either short-term or long-term. (A)</p> Signup and view all the answers

What is a potential drawback of using a bank overdraft for financing?

<p>It can be more expensive compared to other financing methods if overused. (B)</p> Signup and view all the answers

When might a business consider issuing debentures?

<p>When it wants to raise large sums of capital over the long term. (B)</p> Signup and view all the answers

Which of the following financing options provides immediate cash by selling receivables?

<p>Debt factoring (B)</p> Signup and view all the answers

What factor affects the percentage of company ownership given to investors when raising finance?

<p>The amount of risk investors are willing to take. (A)</p> Signup and view all the answers

What is the primary purpose of long-term finance for a business?

<p>To buy fixed assets (A)</p> Signup and view all the answers

Which of the following is a disadvantage of crowdfunding?

<p>Funds are released only if a target is met (A)</p> Signup and view all the answers

What type of businesses primarily benefit from microfinance?

<p>Small start-up businesses in less developed countries (D)</p> Signup and view all the answers

Which of the following is NOT considered an internal source of finance?

<p>Bank loan (A)</p> Signup and view all the answers

Which advantage is often associated with using internal finance?

<p>Immediate access without significant paperwork (C)</p> Signup and view all the answers

What might be a major risk for business owners using microfinance?

<p>Excessive borrowing without experience (A)</p> Signup and view all the answers

What can a company do to manage its working capital more effectively?

<p>Extend payment terms with suppliers (C)</p> Signup and view all the answers

What is a common form of internal finance that does NOT involve borrowing?

<p>Owner's savings (B)</p> Signup and view all the answers

What does a sale and leaseback arrangement allow a business to do?

<p>Use cash from selling an asset while still using it (D)</p> Signup and view all the answers

What is one prominent drawback of using retained profit as a source of finance?

<p>It decreases shareholders' immediate profits (D)</p> Signup and view all the answers

Which type of financial support specifically targets women in developing countries?

<p>Microfinance (C)</p> Signup and view all the answers

What happens when a business sells stock at reduced prices?

<p>It minimizes the opportunity cost of high inventory levels (B)</p> Signup and view all the answers

Which of the following is an example of a long-term investment in a business?

<p>Buying a new delivery vehicle (D)</p> Signup and view all the answers

What is considered a significant opportunity cost involved in internal finance?

<p>Decline in capital investment opportunities (C)</p> Signup and view all the answers

Flashcards

Start-up Capital

The initial funds needed by a new business to cover expenses before starting operations.

Working Capital

The money a business uses to purchase raw materials, pay salaries, and cover other daily operational expenses.

Short-Term Finance

Finance used to cover short-term financial obligations, such as meeting seasonal fluctuations or unexpected expenses.

Long-Term Finance

Finance used for long-term investments, such as purchasing new equipment or expanding the business.

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Finance Management

The process within a business that manages financial resources and ensures the business stays afloat financially.

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Capital Expenditure

Expenses incurred by a business to acquire fixed assets, such as land, buildings, or machinery, that will be used for a long period.

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Liquidity

The ability of a business to meet its short-term financial obligations, such as paying bills and wages.

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Research & Development (R&D)

The investment made by a business to explore new ideas, develop new products, or improve existing ones.

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Bank Overdraft

A financial arrangement where a business can spend more than it has in its account, with daily interest charges applied. It is often used for short-term needs but becomes expensive for longer periods.

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Bank Loan

A sum of money borrowed from a bank and repaid with interest over a set time. It can be short-term or long-term, and requires bank approval.

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Hire Purchase/Leasing

A method where businesses use equipment without owning it outright. They either lease for a specified time or use a hire purchase agreement to make payments over time. It's useful for spreading costs but doesn't raise capital.

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Share Issue/Debentures

A way for companies to raise large amounts of capital by selling shares on the stock market. It involves strict regulations and can be done through rights issues or selling shares to investors.

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Debt Factoring

Selling invoices to a third party at a discount for immediate cash. The third party then collects payments from customers over time, allowing the business to improve its cash flow.

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Trade Credit

A way to improve cash flow where a business delays paying suppliers for a set period (like 30, 60, or 90 days). This gives them time to manage cash flow before paying suppliers.

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Grants and Subsidies

Money provided by governments or agencies with no repayment required but usually has conditions attached, like location or job creation.

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Investment Risk and Ownership

The percentage of company ownership required from investors depends on the risk they are willing to take. Higher risk investments usually require a larger share of the company.

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Loan and Investment Terms

Different types of external finance have different payback periods and terms. Borrowing money might have short-term or long-term repayment plans, while investments might require a longer time frame.

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Finance Provider Costs

Interest and fees for external finance can vary greatly between providers, impacting the overall cost of borrowing or investment.

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Overdraft

Short-term finance used to cover temporary cash flow shortages. Often used for unexpected expenses like buying extra inventory due to a sudden demand surge.

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Fixed Assets

Assets that are used for a long period of time and typically cost a significant amount of money. These include things like buildings, machinery, and computers.

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Crowdfunding

A type of financing where a business raises funds from a large group of individual investors, often online. These investors typically contribute relatively small amounts of money.

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Microfinance

Financial support provided to startups and small businesses, especially in developing countries. It often takes the form of small loans or other financial services.

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Retained Profit

The profit that a business earns and keeps for future investments instead of distributing it to shareholders.

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Sale of Assets

When a business sells an asset that it no longer needs to generate cash. This can be done with various assets, like machinery, land, or buildings.

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Sale and Leaseback

A financial arrangement where a business sells an asset, typically a building, and then leases it back from the new owner. This allows the business to use the asset while obtaining a lump sum of cash.

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Sale of Stock

Reducing prices on inventory, often through promotions or sales, to encourage sales and free up cash flow.

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Internal Sources of Finance

Internal sources of finance are money that comes from within the business, like owner's capital, retained profit, and sale of assets.

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External Sources of Finance

External sources of finance are money that comes from outside the business, like loans, share capital, or grants.

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Owner's Capital

Money provided by the business owners, either through personal savings or other investments. This is a critical source of funding, especially for startups.

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Managing Working Capital

The process of managing the current assets and liabilities of a business to ensure smooth operations and maximize cash flow.

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Extended Payment Terms with Suppliers

Negotiating longer payment terms with suppliers so that a business has more time to pay its bills.

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Incentivized Prompt Payments

Encouraging customers to make timely payments on credit purchases, which improves cash flow.

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Advantages of Internal Finance

Internal finance is often free of interest and charges, which makes it more cost-effective than external financing.

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Disadvantages of Internal Finance

Internal finance may not be sufficient to meet large funding needs. Businesses may need to seek external financing for major investments.

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Study Notes

Business Finance Needs

  • Businesses require finance for initial operations, growth, and ongoing activities. This funding is often referred to as capital.
  • A finance department manages funds, ensuring the business remains liquid.

Starting a Business

  • Start-up capital covers fixed and current assets needed before a business can operate.
  • Businesses plan the necessary start-up capital.
  • Many small businesses use start-up loans for initial costs.

Expanding a Business

  • Growing businesses often need additional capital for fixed asset investments (equipment, buildings, IT, etc.) to increase production.
  • Research and development (R&D) for new products requires considerable capital expenditure. (e.g., Apple's 2023 R&D was $29.915 Billion, a 13.96% increase from 2022).

Working Capital

  • Working capital funds raw materials, wages, and utilities.
  • Maintaining consistent working capital is essential for business operations.
  • Lack of working capital can lead to cash flow problems and business failure.

Short-Term Finance

  • Short-term finance supports positive cash flow, bridging periods of low cash flow (e.g., seasonal slowdowns, delayed customer payments), and accommodating sudden changes in demand.

Long-Term Finance

  • Long-term finance funds fixed assets for long-term use (e.g., new production facilities).
  • It supports expansion (e.g., factory upgrades).

Alternative Finance Sources

  • Crowdfunding: Businesses raise funds from many small investors via online platforms (e.g., Kickstarter, Indiegogo).
    • Businesses need to reach a fundraising goal to receive funds.
    • Incentives (samples, early access) attract investors.
    • A strong business plan is crucial for success.
  • Microfinance: Small-scale financial support for small businesses, especially in developing countries.
    • Often focused on women entrepreneurs.
    • Offers credit and advice.
    • May limit the size of loans available.

Internal Sources of Finance

  • Owner's Capital: Personal savings or investment.
  • Retained Profits: Reinvesting previous years' profits. A very low-cost option, but it reduces the amount distributed to owners/shareholders.
  • Sale of Assets: Selling unused assets (machinery, land, buildings).
    • A sale and leaseback is possible; the business sells an asset, then rents it back. (e.g., Sainsbury's).
  • Sale of Stock: Selling excess stock at reduced prices to raise capital. Can help with reducing storage costs. Important to manage expectations, as doing this too drastically can hurt customer relations.
  • Managing Working Capital: Negotiating extended payment terms with suppliers and incentivizing quicker customer payments can generate internal funds.

External Sources of Finance

  • Bank Overdraft: Allowing businesses to spend more than they have in their account; interest charged daily.

  • Bank Loan: Borrowed funds repaid with interest over a specific timeframe. Conditions and approval/repayment terms depend on the bank.

  • Hire Purchase/Leasing: Acquiring assets (equipment) over time, spreading the cost. Non-capital raising, but essential for maintaining business assets.

  • Share Issue/Debentures: Selling shares in the company to raise capital (shares) or issuing debt certificates (debentures).

  • Debt Factoring: Selling outstanding invoices to a third party to receive cash immediately.

  • Trade Credit: Delays in paying suppliers to improve business cash position.

  • Grants/Subsidies: Government or external agency funding with no or low repayment requirements, sometimes with conditions.

Evaluating Finance Use

Category Advantages Disadvantages
Internal Often free, avoids external influence, quick to arrange, less paperwork, accessible for businesses that don’t qualify for a bank loan. Often limited, potential opportunity cost, less tax-efficient than external financing
External May meet significant financing needs, various options, access to expert advice and guidance (e.g. Venture capitalists). Repayment obligations, administrative costs, potential external influence on business decisions

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Description

Explore the essential aspects of business finance, including the importance of start-up capital, the role of finance departments, and the need for working capital. Understand how businesses manage funds for growth, operations, and investment in fixed assets. This quiz will test your knowledge on the financial foundations of running a successful business.

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