Edexcel A2 Business Planning, Finance PDF

Edexcel A2 Business 23.Planning 24.Internal Finance 25.External Finance  Theme 2 Retrieval Challenge Matrix 1 point 2 points 3 points What is ‘trade credit’? Describe the role of a Explain why the sale of business angel...

Edexcel A2 Business 23.Planning 24.Internal Finance 25.External Finance  Theme 2 Retrieval Challenge Matrix 1 point 2 points 3 points What is ‘trade credit’? Describe the role of a Explain why the sale of business angel assets might indicate that a business is in financial trouble What is ‘crowdfunding’? What is the link between Explain the term ‘limited retained profit and liability’ using examples opportunity cost? Give another name for Compare a loan with an Give 2 finance methods personal savings overdraft appropriate for a sole trader Calculators will be needed for this topic You will need worksheet 2.1.4 for this lesson From Edexcel a) Relevance of a business plan in obtaining finance Relevance of a business plan in obtaining finance What is a business plan? A business plan is a document which sets out the future plans for a business It is how a business owner will explain how they will turn their idea into a successful business The owner may then show the plan to a bank or another investor to ask for finance to help the business grow and expand Why does a business write a business plan? To persuade lenders that the business will make enough profit to be able to pay back interest and loan capital on any finance taken out Attract potential investors to the business To give the owners some direction – once a plan is written down it is more likely to be followed To set targets (SMART) and objectives that can be followed Why does a business write a business plan - continued Every business needs to write a business plan, this will help to identify early on any problem areas that the business might face A business plan will also help to monitor their effectiveness - if they knew what they were aiming for at the end of the year they could see if they have achieved it What is included in a business plan? A cash flow forecast on the plan will show the expected income and expenditure of a business over the coming year Cash flow forecast will help to show a bank that the interest rates can be afforded on any finance that they borrow Cash flow forecast will show the liquidity of the business (how quickly it can raise cash) and its ability to pay its bills A business plan will NOT improve cash flow that will be down to how well the business trades What else goes into a business plan? A. Name of the business B. Product or service and the market it is aimed at C. 4 Ps of marketing; product, price, place and promotion D. Human resources; who will be working there, managers, owners etc. E. Production costs and potential suppliers of materials F. Premises and how it will be financed; rent, mortgage, bought outright, leased from council G. Financial information; projections on revenue, costs and profits Purpose of a business plan introduction There are lots of uses of business plans, these are the four that your exam board would like you to be able to discuss. Get ready to make some notes on these from the following slides: 1. To help set up a new business 2. To help the business raise finance 3. To help the business to set objectives 4. To outline how functions of the business will be organised #1 To help set up a new business A business plan will help an entrepreneur decide what resources they need to start their business: A. Human resources; For example the staff needed for a clothes shop B. Equipment; For example scissors and a sewing machine C. Raw Materials; for example cloth or lace D. Technology: for example the till or business computer E. Vehicles; for example the company van #2 To help the business raise finance ✓A business plan may help to persuade lenders that the business will make enough profit to be able to pay back interest and loan capital on any finance taken out ✓A business plan should include a cash flow forecast and sales forecasts #2 To help the business raise finance continued ✓A business plan may help to obtain finance; from venture capitalists, banks, angel investors, or even family members ✓The lenders are going to want to see numbers that say the business will grow and that they can make a profit ✓The better the financial information, the more confident they will be in investing – this will reduce the risk for the investors #2 To help the business raise finance by negotiating ✓A business plan may help the business to negotiate a lower rate of interest on a bank loan ✓Alternatively the business plan may help the owner to negotiate a lower percentage of equity to the venture capitalists or angel investors ✓Watch the video – did the investor negotiate a higher equity percentage? #3 To help the business to set objectives ✓A business plan can show how a business aims to achieve its goals ✓For example it may show any planned activities of the business e.g. a launch night for a new restaurant ✓It should also show any potential investors what amount of sales and profit the business aims to achieve #3 To help the business to set objectives - SMART A business plan should set targets (SMART) and objectives that can be followed for the business The business owner can then monitor if they are meeting their objectives The business plan may also set out how the company aims to grow and develop in the future #4 To outline how functions of the business will be organised The business plan may show how many staff and location of the following departments; A. Production B. Marketing C. Human Resources D. Accounting and Finance Why might this not be relevant to a small sole trader business? Reasons for raising finance A. To pay debts, this is likely to be a consolidation loan which may pay off suppliers B. To help a business over a slow trading period - overdraft C. To expand: a business may apply for long term finance such as a loan D. To start-up a business may apply for a loan with a business plan or ask friends and family to invest E. To buy stock: a business would ask a supplier for trade credit, typically 30, 60, 90 days Internal sources of Finance Owner’s capital: personal savings Owners capital This is also sometimes called owners equity It shows the stake the owner has in the business This represents the net assets of the company – if all the debts of the business were paid off how much would be owed to the owner The owner may have used savings or a redundancy pay out to start up the business, this is in theory still owed back to the owner, although they may never take it back out in the lifetime of the business When is owner’s capital appropriate? Sole traders and partnerships would be the two business forms which would mostly use owner’s capital to expand and to grow Retained profit Retained profit After a year or more of trading a business may have some profits that they are able to re-invest into the business to help it grow. The advantage of retained profits is there is no interest to pay The disadvantage is once retained profit is used it has gone and cannot be used elsewhere in the business When is retained profit appropriate? If a business is in its first year of trading it will NOT have any retained profits – as it will not have made any to retain Also, if a business has not been profitable then there will NOT be any retained profit to spend Are there any other circumstances when retained profit would not be an appropriate source of finance? Sale of assets Sale of assets A business can raise finance by selling items that they already own, these are called assets This could be: Machinery Land Premises Vehicles The business that sells the asset will no longer have the benefit of that asset and it will not appear on the balance sheet of the company – meaning the business will look less attractive to investors When is the sale of assets appropriate? All types of business can sell their assets When a business is growing it may need to raise cash fast to be able to continue to trade Assets (like a van or an iPad) can be sold quickly (same day) for cash What other assets might a business have? Advantages of selling assets In a larger business which has a portfolio of products, then the sale of assets can improve efficiency and increase capacity utilisation Assets from one brand can be sold off to raise finance to invest in another Can you link this to the Boston Box and product lifecycle theories? Disadvantages of selling assets This may not raise enough money for growth or expansion Selling assets may draw into question just how well run the business is, if it needs to sell its assets to pay bills or to continue to trade A new start-up would be in a lot of trouble if they needed to sell their assets. E.g. a café that has just opened could sell their coffee machine The difference between a source of finance and a method of finance Source of finance: This is where the finance has come from e.g. a bank Method of finance: This is the use of a finance – or what use it would be suitable for e.g. loan to buy computer equipment for the business Source of finance Method of finance External Sources of finance  Source of finance Sources of finance introduction There are many external sources of finance available to a business, these are the ones that Edexcel would like you to know the advantages and disadvantages for: 1. family and friends 2. banks 3. peer-to-peer funding 4. business angels 5. crowd funding 6. other businesses Get ready to make some notes about these on the next few slides. #1 Family and friends Private limited companies are http://j.static-locatetv.com/images/content/4/900401_cake_boss.jpg able to raise finance by selling shares to friends and family. A sole trader or partnership may also find that their family may want to contribute to the business. This may be for interest, a share of the profits or maybe even an interest free loan amongst family. Friends and family Disadvantages Downside is that it may cause tension and problems if the finance is not repaid or the Advantages business does not flourish. Loans from friends and family They may also demand their will probably be offered without money back at short notice the need for security and at lower rates and over longer terms than traditional lenders They are also unlikely to need a business plan which means the owner may not need to write one #2 banks Banks may lend a loan to a business to start-up or when a business wants to grow and expand Banks may also provide a business with an overdraft to help when they have cash flow problems All the high street banks have business departments that will deal with commercial loans Banks Disadvantages Bank loans can be expensive compared to other sources of finance and interest must be paid back on time It may be hard for a new business owner Advantages to obtain a loan as they have no historical sales data to show the bank Banks will lend to businesses The owner may need to use their own without asking for a % of the assets as security for the loan e.g. their ownership (unlike Dragon’s Den) own house Banks will allow the business owner to continue running the business their own way, and not interfere, so the owner retains control of the business (unlike business angels) #3 Peer to peer funding Lending marketplaces such as Funding Circle have gained the trust of consumers by offering lower rates than banks to business owners who want to borrow money Peer-to-peer funding matches businesses that need finance with investors who are looking for a good return on their investment Peer to peer funding Disadvantages Peer to peer loans are classified as private business loans, so the money for the loan comes from several investors or small businesses. Advantages If there are not enough individuals interested or willing to invest in your loan, Businesses can get access to you may not be able to acquire the entire funding within a week once amount that the business needs approved Business owners can apply online Investors can expect returns of Lender Borrower 6-7% whereas a savings account might only give them 3% #4 Business angels An angel investor offers to lend their personal disposable finance The angel would normally take shares in the business in return for providing finance Angels normally seek to not only provide the business with money to grow, but also bring their experience and knowledge to help the company achieve success Angel Investors seek to have a return on their investment over a period of 3-8 years Usually smaller loan amounts than a venture capitalist Business angels Disadvantages Not suitable for investments below £10,000 or more than Advantages £500,000 Angels are free to make investment Owner needs to give up a share decisions quickly of the business The owner gets access to your investor's sector knowledge and contacts The owner gets access to angels mentoring or management skills The owner will have no repayments or interest on the money lent #5 Crowd funding Crowd funding is where a large number of people fund a project over the internet making small investments each, 3 ways to fund: Donate: no money back, but rewards like tickets or a newsletter Lend: get money back with interest and satisfaction of contributing to success of a small business Invest: Invest in a business in exchange for equity or shares which may increase in value Crowd funding Disadvantages The business will need to show case their idea to investors and Advantages may need to put together a video and other promotional Good alternative to loans for material to attract investors small business owners Finance can be obtained without paying upfront fees The business can generate funds and also promote the business at the same time #6 other businesses Other businesses may wish to invest in start-ups A business may have surplus profit and view this as a way to get a good return on their investment Take a look at this list of HOT start-ups that have business investment Usually IT or disruptive technology businesses Methods of finance Methods of finance introduction There are many external methods of finance available to a business, these are the ones that Edexcel would like you to know the advantages and disadvantages for: 1. loans 2. share capital 3. venture capital 4. overdrafts 5. leasing 6. trade credit 7. grants #1 Loans Loaning money from a bank is like “renting” the money Banks will lend to small business but may not lend when they first start-up as there is no track record or history of them making money. Loans are quick to set up Loans are affected by interest rates – if they go up the cost of borrowing will go up too and the business may have to pay more interest back to the bank #1 Loans Disadvantages A bank will charge interest on the loan Not very flexible, the business may incur a penalty if they decide to settle the loan early Advantages As the loan is fixed for a certain length of A bank will ask for security or collateral on a loan this may be a house or another time the business owner can plan ahead asset that can be seized if the loan is not and knows exactly what the repayments paid back will be and when they will leave the bank account Banks will not ask for a % of the business or get involved in the running of the business Getting into a high street bank to apply for a business loan is a straightforward process #2 Share capital In a public limited company – plc - one that has been floated on the stock market - they can raise more finance to expand by having an ordinary share issue This is an external and long term method of finance but would only apply to a large business with a plc after its name #2 Share capital Disadvantages Potential investors may require a great deal of background information before they buy the shares The more shares that are sold, the more Advantages the profits have to be divided up and paid Investors are often prepared to out to investors as dividends provide extra funding as the Can be expensive and slow process to organise business grows More cost effective way to raise finance than a loan – no interest to pay back Finance is based on acquiring more equity rather getting further into debt #3 venture capital Venture capitalists (VCs) will invest large sums of other people’s money in a business in return for shares in the company. Typically, VCs will invest at least £50,000 in a small regional business although this can rise into millions of pounds. The VC will look for a high rate of return in a specific time period e.g. 5 years #3 Venture Disadvantages capital Venture capital firms typically want 20-30% stake in the business Venture capital firms look for a strong business plan, sound Advantages management and a proven track Useful if the business is looking to record, making it difficult for some raise a large amount of money in a start-up firms to attract the short space of time e.g. £1 million investment with out the right ‘credentials’ The business gets all the skills of the venture capital business, their network and links may increase revenue streams Great for owners who have been refused a loan from a bank #4 overdrafts Some months a business may need extra cash to tide it over until a better month. A loan is over many years so is not suitable. An overdraft may be organised by the bank which is short term lending of smaller amounts of money Once its arranged (say £2,000) on an account a business can dip into it or pay it back as they see fit #4 Overdrafts Disadvantages If the business goes over this amount the overdraft will be “unauthorised” and the business will be charged heavily Very expensive source of finance, very Advantages high charges and interest rates For a business owner this would idea Not suitable for large amounts over a long as a quick fix method to tide the period of time business over a difficult month of trading An overdraft can be arranged on the phone or online with an instant decision from the bank The business will only pay interest on the amount of money that they are overdrawn As soon as the business improves trading they can easily pay back the overdraft to the bank and the interest charges will stop #5 leasing As a business grows it may decide that it needs some more vehicles or equipment They may decide to lease so that the equipment can be updated regularly and spread the cost They will never own the equipment but will get the option to change it when it wears out #5 Leasing Disadvantages Leasing is often over a fixed term, if the business changes its Advantages mind and wants to lease from a This is a lower monthly costs for different company, contracts a business owner than a loan may be difficult to get out of Often business leases can be arranged without any advanced fees being paid The leasing firm maintain the equipment, vans, cars etc. so the business will always have reliable working equipment #6 trade credit When one business trades with another they will sometimes need to “buy” goods with trade credit The seller gives the buyer 30, 60, 90 days to pay The buyer then has time to sell the goods in their own shop before they have to pay for them The wholesaler may give the buyer a discount when they use cash instead #6 Trade credit Disadvantages Not all stock is available to buy using the trade credit method, so only applies to certain industries Advantages If the business does not pay in time Business can sell the goods they risk being refused further before the stock needs to be credit by the supplier in the future paid for, so can make a profit before the costs have to be paid No interest has to be paid on trade credit Businesses that pay regularly on time can build relationships with their suppliers and secure better deals #7 Grants ▪ The UK government provides financial help to businesses in some areas of the country, in an effort to overcome problems of unemployment. ▪ Government grants do not normally have to be repaid and owners keep full control of their business. ▪ More information on government grants here #7 Grants Disadvantages A business will have to find a grant that suits their specific project, which can be difficult There’s a lot of competition for grants Advantages The business may be expected to The business usually will not have match the funds they are awarded, eg a grant might cover part of the cost of to pay the grant back a project Unlike a loan there will be no Grants are usually awarded for proposed projects, not ones that have interest to pay already started The business owner will get funds The application process can be very without any loss of control of the complex and time-consuming business Sample Edexcel A2 questions  Sample question 2 Knowledge Application Analysis Evaluation 2 2 2 2 Answer sample question 2 Peer / self marking grid for 8 mark question Mark 1-2 marks Limited knowledge and some recall of business theory, answer may not be in context What went well: You used business terms correctly Even better if: You had discussed the business situation in the case study 3-5 marks Comments are in context, and chains of reason are present but very basic. Unbalanced argument, only discusses one side. What went well: You were able to give chains of reason in context in your answer Even better if: You had given both sides of the argument 6-8 marks Chains of reason are complete and argument shows both sides. Answer is in context and uses numerical data to support where appropriate. What went well: You gave a balanced argument in your answer Even better if: You had used more numerical data to support your arguments Key terms Cash flow forecast; a form of forward looking budget which enables a business to look at its potential revenue flow and its expenses. An estimate of the money a business will spend and receive within a year. Would typically appear on a business plan. Business plan; A document that describes a businesses aims and objectives and how they can be achieved, and how the business intends to develop over time.