Unit 3: Finance for Businesses PDF

unit 3 Capital expenditure - finance spent on fixed assets (land, buildings, equipment, vehicles, etc.) long term over 1-year revenue expenditure. money used in the day-to-day cunnings of a business. (wages, raw materials, electricity, etc) Internal sources of finance: personal funds- for sole trad...

unit 3 Capital expenditure - finance spent on fixed assets (land, buildings, equipment, vehicles, etc.) long term over 1-year revenue expenditure. money used in the day-to-day cunnings of a business. (wages, raw materials, electricity, etc) Internal sources of finance: personal funds- for sole traders that come mostly from their Savings (or money from friends or family) Advantages: easy to acquire. Sole traders know how much money is available to run the business. Disadvantages: The amount available is limited to the size of savings owned by the sole trader. Too risky Retained profits - profits that remain within a company after all costs and dividends are paid. Advantages: permanent source of finance as it does not have to be repaid. Cheap because does not incur for business growth or expansion interest charges - Startup businesses wiù not have any retained profit Disadvantages: if retained profit is too low, may not be sufficient for business growth or expansion. startup businesses will not have any retained profit as they are new ventures. Sales of assets- when a business sells unwanted or unused assets to raise funds. Advantages: no interest or borrowing costs are earned good way of raising cash from capital that is tied up in assets that are not being used Disadvantages: Time-consuming to find a buyer for the assets. The option is only available to established businesses as new businesses may lack excess assets to sell. External sources of finance: Share capital- money raised from the sale of shares of a limited company Advantages: no interest payments, this relieves the business from additional expenses. A permanent source of capital as it will not need to be redeemed Disadvantages: Shareholders will expect to be paid dividends when the business makes a profit. For public limited companies, ownership of the company may change hands from the original shareholder. Loan capital- money sourced from financial institutions (banks) with interest charged on the loan to be repaid Advantages: easily accessible and can be arranged quickly for a firm's specific purpose. Owners still have full control of the business if no shares are issued to weaken ownership. Disadvantages: Capital will have to be redeemed even if the business is making a loss. Failure to repay the loan may lead to the seizure of a firm’s assets. Overdrafts- when a lending institution (bank) allows a firm to withdraw more money than it currently has in its account Advantages: flexible finance for unexpected large cash outflows. Provides an opportunity for firms to spend more money than they have in their accounts. Disadvantages: banks can request for the overdraft to be paid at very short notice. Due to the nature of an overdraft, the bank can at times charge high interest rates. Trade Credit- an agreement between businesses allowing the buyer of goods or services to pay the seller at a later date Advantages: delaying payment to suppliers, businesses are left in a better cash flow position. Interest-free means of raising funds for the length of the credit period. Disadvantages: delaying payments to creditors after the agreed period may lead to poor relations. Debtors lose out on the possibility of getting discounts. Crow funding- obtaining small amounts of money from a large group of people. Advantages: access to thousands of investors who can see, interact with, and share campaigns. This is a good form of marketing because pitching a project or business through an online platform can result in media attention. Disadvantages: A lot of strong competition because crowdfunding is so popular. Businesses need plans to differentiate themselves from competitors. Specific requirements must be met otherwise the idea will not be accepted. Leasing- allows a firm to use an asset without having to purchase it with cash. Advantages: The firm does not need to have a high initial capital to purchase the assets. Is useful when assets are only required for short periods. Disadvantages: In the long run, the cost of leasing can add up to more than purchasing the asset outright. cannot act as collateral for businesses seeking a loan as an additional source of finance. Microfinance providers- institutions that provide banking services to low- income or unemployed individuals/groups who would otherwise have no other access to financial services. Advantages: Accessibility to finance for those who are impoverished. Do not seek any collateral for providing financial credit. Disadvantages: Limited sums of finance available due to high risk due to high risk of default. Limited eligibility for borrowers as they still have to prove they can repay loans. Business angels- wealthy individuals investing in high-risk businesses in exchange for ownership, Advantages: no repayment or interest is required, if the business succeeds, both the business and the angel investor will benefit. Flexible business angels are more open to negotiation. Disadvantages: some loss of control of the business as business angels tend to take a proactive role in businesses. Businesses may eventually have to buy out the stakes owned by the business angels.