Businesses need finance for a wide range of reasons. The source of finance is where this money comes from. What the money will be used for will determine which source is the most appropriate. For example a mortgage might be suitable for long term projects such as building a new factory or expanding to a new location, it would not be suitable for short term cash flow problems to replenish stock for example. 

Sources of finance can be Short term (paid back in less than 1 year) or long term (paid back in more than 1 year). They can also be internal or external.

These are the sources of finace which are available from within a business. These include:

Retained Profit: Profit(sales revenue minus total costs) kept in the business to fund expenditure. This gives the business quick access to cash should it need it.

Advantages:

No interest charges

Available Immediately

Avoids unnecessary debt

No loss of ownership

Disadvantages:

Amount available may be limited

Reduces payments to shareholders causing dissatisfaction

Once used it is not available for alternative purposes

Net Current Assets: (Current assets minus current liabilities) shows the money available in the business to fund day-to-day expenditure. Businesses want to ensure their current assets are significantly more than their current liabilities, otherwise the business may experience cash flow problems. To alleviate these problems a business can reduce the term of payment for credit sales or look to extend the term of payment to suppliers. 

Advantages:

Encourages the business to manage cash flow effectively by looking closely at the value of short term assets against short term liabilities.

Disadvantages:

Can put pressure on customers as shorter credit terms are offered

May cause supplier dissatisfaction as longer credit terms are required.

Lower stock can affect ability to meet demand

Sale of Assets: Selling an item of worth owned by a business in order to achieve an immediate cash injection.

Advantages:

No interest charges

Reduces capital tied up in assets

Can mean disposing an asset no longer needed

Disadvantages:

Amount received likely to be below asset worth

Can increase costs in the long term if an asset needs to be leased back

These are sources of finance from outside the business.

Owner's Capital: This is money invested in the business from the owner's personal savings.

Advantages:

No interest payments

High level of commitment from owner

Disadvantages:

Limited availability of money

Can cause issues if more than 1 owner and not all contribute

Loans:Loans are money borrowed from a fincncial institution normally for a set period of time and for a specific purpose. Interest is paid on the loan.

Advantages:

Regular payment make budgeting easier

Ownership is not lost

Disadvantages:

Interest charged on loan amount

Interest charges can vary

Secured against an asset

Interest payments have to be made whether or not the business makes a profit. 

Crowd Funding: This involves attracting investment from a large number of speculative investors many of whom may invest relatively small amounts. If cumulatively this matches the required amount then the investments are collected together. This usually involves the use of the internet.

Advantages

Raises finance from a large number of investors.

No interest is paid as investors only rewarded if the business is successfully sold on at a later date.

Disadvantages

Partial loss of ownership

No guarantee that the crowd fund will raise required amount

Mortgages: These are long term loans, normally around 25 years, that are secured against a specific asset, for example a building. Interest is payable on a mortgage.

Advantages:

Large amounts of finance can be raised and repaid  over a prolonged period

Ownership is not lost

Disadvantages:

Interest charged on loan amount

Interest charges can vary

Secured against an asset

Interest payments have to be made whether or not the business makes a profit. 

Not suitable for short-term or small cash flow problems.

Venture Capital: This is investment from an experienced entrepreneur in return for a stake (equity) in thebusiness.

Advantages

Finance provided by business professional who offers advice and mentoring

Venture capitalists are risk takers when they see potential that banks might not see

Disadvantages

Partial loss of control

Venture capitalist may have different opinions

Debt Factoring: This involves the selling on of a business's debts to a third party in order to receive the cash quickly. The factor company pays the business a percentage of the money owed and takes on the responsibility of collecting the debts which need to be repaid.

Advantages

Speeds up the flow of cash from debts

Factor company takes on risk from bad debts

Disadvantages

Only receive a percentage of the amount owed

Can give the wrong impression and affect consumer confidence/brand

Hire Purchase: This involves paying for an asset in instalments to spread the cost over it's useful life and hence provide a source of finance. The asset will remain the property of the seller until the final payment is made.

Advantages

Avoides the need to pay a lump sum for an asset

Aid budgeting and financial planning

Cost spread over assets lifespan

Disadvantages

Costs more than buying outright

Only really suitable for relatively low cost assests such as vehicles and not premises

Leasing: This involves paying for an asset in instalments to spread the cost over it's useful life and hence provide a source of finance. Ownership of the asset stays with the supplier throughout the length of the lease agreement.

Advantages

Responsibility for maintaining and repairing the asset falls with supplier

Cost is spread over life time avoiding lump sum payment

Disadvantages

Costs more than buying outright

Never actually own the assets

Payments ongoing

Trade Credit: This is a period of time offered by suppliers to allow the customer to purchase a good or service now and pay at a later date, for example 30 days after purchase.

Advantages:

Delays need to pay for goods/services

No loss of control

Disadvantages

Potential loss of discounts for cash payment

Only suitable as a short term source of finance

Grants: This is a lump sum provided to a business by the government or another organisation to be used for a specific purpose. For example, it could be used to provide employment in a deprived area or invest in the research and development of an environmentally friendly alternative to fossil fuels.

Advantages

No need to repay and no interest charges

No loss of ownership

Disadvantages

Likely to be small amounts only

Unpredictable

Donations:These are sums of money given voluntarily to a charity or social enterprise.

Advantages

No need to repay and no interest payments

No loss of control

Disadvantages

Likely to be small amounts only

Unpredictable

Peer to peer lending: This involves one business person lending money to another business person in return for interest payments.

Advantages

Can have lower interest rates than traditional financial institutions

Fixed rate of interest can be agreed

Disadvantages

Amount lended may be limited and provided for a short period of time only

Invoice Discounting: These are reductions offered to customers making a product or service cheaper, often applied as a percentage.

Advantages

No need to repay and no interest

No loss of ownership

Reduce costs therefore increasing profits

Disadvantages

Only available if purchases are paid in cash which affects cash flow.