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Questions and Answers
What is the key source of finance for sole traders?
What is the key source of finance for sole traders?
Personal funds
Personal funds are a good signal for investors or financial institutions.
Personal funds are a good signal for investors or financial institutions.
True
Which of the following is NOT an advantage of using personal funds to finance a business?
Which of the following is NOT an advantage of using personal funds to finance a business?
Retained profits can also be referred to as ploughed-back profit.
Retained profits can also be referred to as ploughed-back profit.
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Why are retained profits considered a cheap source of finance?
Why are retained profits considered a cheap source of finance?
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Which of the following is NOT a disadvantage of retained profits?
Which of the following is NOT a disadvantage of retained profits?
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What is one way to raise cash by selling assets?
What is one way to raise cash by selling assets?
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Selling assets to raise funds requires interest payments.
Selling assets to raise funds requires interest payments.
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Which of the following is a disadvantage of selling assets to raise funds?
Which of the following is a disadvantage of selling assets to raise funds?
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Share capital is also known as equity capital.
Share capital is also known as equity capital.
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What is the maximum amount of shares a company intends to raise called?
What is the maximum amount of shares a company intends to raise called?
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Which of the following is NOT an advantage of share capital?
Which of the following is NOT an advantage of share capital?
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Loan capital is more commonly known as debt.
Loan capital is more commonly known as debt.
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What are payments on a loan typically spread out over?
What are payments on a loan typically spread out over?
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Overdrafts allow businesses to withdraw more money than they have in their account.
Overdrafts allow businesses to withdraw more money than they have in their account.
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What happens when a business exceeds the limit set on an overdraft?
What happens when a business exceeds the limit set on an overdraft?
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Which of the following is NOT an advantage of overdrafts?
Which of the following is NOT an advantage of overdrafts?
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Banks can demand immediate repayment of an overdraft.
Banks can demand immediate repayment of an overdraft.
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What is an agreement between businesses that allows a buyer to pay at a later date known as?
What is an agreement between businesses that allows a buyer to pay at a later date known as?
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Trade credit is a form of immediate financing.
Trade credit is a form of immediate financing.
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Which of the following is NOT an advantage of trade credit?
Which of the following is NOT an advantage of trade credit?
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Crowdfunding involves a large number of individuals contributing small amounts of money to a project.
Crowdfunding involves a large number of individuals contributing small amounts of money to a project.
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What is one example of a crowdfunding platform?
What is one example of a crowdfunding platform?
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Which of the following is NOT an advantage of crowdfunding?
Which of the following is NOT an advantage of crowdfunding?
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Crowdfunding platforms often take a percentage of the funds raised.
Crowdfunding platforms often take a percentage of the funds raised.
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What is a contractual agreement where a business acquires the right to use an asset for a specific period called?
What is a contractual agreement where a business acquires the right to use an asset for a specific period called?
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Leasing eliminates the need for periodic payments.
Leasing eliminates the need for periodic payments.
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What is NOT an advantage of leasing?
What is NOT an advantage of leasing?
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Leasing can sometimes be more expensive than outright purchase, due to accumulated leasing charges.
Leasing can sometimes be more expensive than outright purchase, due to accumulated leasing charges.
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What type of financial services are offered by microfinance providers to individuals or groups with limited access to traditional banking?
What type of financial services are offered by microfinance providers to individuals or groups with limited access to traditional banking?
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Microfinance institutions typically require collateral for their loans.
Microfinance institutions typically require collateral for their loans.
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Which of the following is NOT an advantage of microfinance?
Which of the following is NOT an advantage of microfinance?
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Business angels are affluent individuals who invest in startups or entrepreneurs in exchange for equity.
Business angels are affluent individuals who invest in startups or entrepreneurs in exchange for equity.
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What type of businesses do business angels typically invest in?
What type of businesses do business angels typically invest in?
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Which of the following is NOT an advantage of business angel funding?
Which of the following is NOT an advantage of business angel funding?
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Business angels are often more involved in the management of the businesses they invest in.
Business angels are often more involved in the management of the businesses they invest in.
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What type of finance is used for the day-to-day running of a business and provides working capital?
What type of finance is used for the day-to-day running of a business and provides working capital?
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Short-term financing typically needs to be repaid within 12 months.
Short-term financing typically needs to be repaid within 12 months.
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Which of the following is NOT an example of short-term finance?
Which of the following is NOT an example of short-term finance?
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The type of finance used should match the type of asset being financed.
The type of finance used should match the type of asset being financed.
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What is the purpose of long-term finance?
What is the purpose of long-term finance?
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Long-term finance is primarily used for day-to-day operational expenses.
Long-term finance is primarily used for day-to-day operational expenses.
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Which of the following is an example of long-term finance?
Which of the following is an example of long-term finance?
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Matching the source of finance to the specific requirements of a business is crucial.
Matching the source of finance to the specific requirements of a business is crucial.
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Which of the following is NOT a factor influencing the choice of financing source?
Which of the following is NOT a factor influencing the choice of financing source?
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Opportunity cost is the last benefit that could have been derived from an alternative use of funds.
Opportunity cost is the last benefit that could have been derived from an alternative use of funds.
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What refers to the relationship between share capital and loan capital?
What refers to the relationship between share capital and loan capital?
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A company with a high proportion of loan capital to share capital is considered highly geared.
A company with a high proportion of loan capital to share capital is considered highly geared.
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How is the gearing ratio calculated?
How is the gearing ratio calculated?
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Study Notes
Sources of Finance
- Various sources provide funding for businesses, categorized as internal and external.
Internal Sources of Finance
-
Personal Funds:
- Primary source for sole traders.
- Originates from personal savings.
- Maximizes business control.
- Demonstrates personal commitment.
- Positive signal to investors.
- Advantages: Complete control over funds; no repayment required; known capital availability.
- Disadvantages: High risk if savings are used; limited funds may hinder business growth.
-
Retained Profits:
- Profits left after distributing dividends to shareholders.
- Also referred to as ploughed-back profits.
- Reinvested for business growth.
- Advantages: Affordable due to no interest; permanent; flexible.
- Disadvantages: Insufficient profits; can negatively impact dividends.
-
Sale of Assets:
- Selling unwanted/unused assets to raise capital.
- Includes obsolete machinery and redundant buildings.
- Raises cash for business operations.
- Advantages: Easy access to cash; no interest or borrowing costs.
- Disadvantages: Limited availability for startups; time-consuming to find a buyer, especially for obsolete machinery.
External Sources of Finance
-
Share Capital:
- Raised by selling shares to shareholders.
- Also known as equity capital.
- Shareholders receive dividends when profits are made.
- Authorized share capital represents the maximum amount a company intends to raise.
- Shares are traded in stock exchanges.
- Advantages: Permanent source of capital; no interest payments.
- Disadvantages: Possible dilution of ownership; expectations of dividends.
-
Loan Capital:
- Debt acquired from financial institutions like banks.
- Interest is charged on the loan.
- Loan repayments are typically spread evenly.
- Advantages: Easy access; quick arrangement; flexible repayment periods.
- Disadvantages: Loss risk; collateral requirement; potential high repayment burdens.
-
Overdrafts:
- Withdrawing more funds from an account than available.
- Agreed overdrawn amount with a limit.
- Interest charged on the overdrawn amount.
- Advantages: Flexible; opportunity to spend more; settles short-term debts.
- Disadvantages: Banks can demand repayment; high interest rates; less flexibility.
-
Trade Credit:
- Agreement between businesses enabling buyers to delay payments.
- No immediate transaction.
- Credit period (30-90 days).
- Advantages: Interest-free; improved cash flow position.
- Disadvantages: Potential loss of possible discounts; relations between parties may suffer.
-
Crowdfunding:
- Funding a business/project by numerous people.
- Utilizes online platforms and social media.
- Advantages: Access to investors, valuable marketing, business growth.
- Disadvantages: Competition from other businesses, business is subject to scrutiny, fees to be paid.
-
Leasing:
- Contract for asset use (machinery, equipment, property) from a leasing company.
- Periodic or monthly payments.
- Advantages: No high initial outlay; lessor handles maintenance; useful for short-term asset needs.
- Disadvantages: Leasing can be more expensive than outright purchase; assets may not be collateral.
-
Microfinance Providers:
- Banking services for low-income or unemployed individuals and businesses.
- Microcredit, microinsurance, and other specific services.
- Advantages: No collateral required; quick loans for emergency needs, promotes entrepreneurship.
- Disadvantages: Smaller loans; higher interest rates; harsh recovery methods.
-
Business Angels:
- Affluent investors providing capital to startups or entrepreneurs.
- Equity-based investment.
- Advantages: Flexibility in negotiations; potential for high returns and growth; additional business experience.
- Disadvantages: Potential dilution of existing ownership; expectations of substantial returns.
Short-Term and Long-Term Finance
-
Short-Term Finance:
- Funds for day-to-day business operations, like working capital.
- Repaid within 12 months or less.
-
Long-Term Finance:
- Funds for acquiring long-term assets or business expansion.
- Sources include loans, and share capital.
Factors Influencing Choice of Finance
- Purpose or use of funds
- Cost
- Status and size of the business
- Amount needed
- Flexibility of the arrangement
- State of the current external environment
- Gearing ratio
Purpose of Funds
- Businesses carefully match finance sources with their specific needs.
- Consider the specific use of the funds (purchasing assets, running daily operations).
- Assess whether it will be for long-term investments or short-term needs.
Opportunity Cost
- The potential benefit lost from choosing one option over another.
- Businesses must evaluate this to make the best financial choices.
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Description
This quiz explores various sources of finance for businesses, focusing on internal funding options such as personal funds, retained profits, and asset sales. Understanding these sources is crucial for making informed financial decisions and ensuring business sustainability. Test your knowledge on the advantages and disadvantages of each option.
