3.1 Sources of Finance or Capital
The Roles of Finance in Business
All businesses need finance in order to operate effectively, these can range from:
Starting Capital
Day-to-Day operations
Expansion of the business
What are the differences between Capital and Revenue Expenditure?
Capital - When a business acquires an asset that affects the business over a long-term
Example: Purchase of a fixed assets such as vehicles, machinery or land/real estate
Revenue Expenditure - The finance used to run the business operations on a daily basis
Reasons for Finance:
Start-up Capital
Capital for Renewal
Capital for Expansion
Additional Working Capital
Internal Sources of Finance
These are resources/capital raised within the organisation/business.
Personal Funds:
Main source of finance for a sole trader + partnership
Retained Profits:
Value of profits kept by the business (after paying taxes etc)
Often used for the purchasing/upgrading fixed assets
Sale of Assets:
Businesses can sell of their dormant assets
E.g old computers, machinery, land/building (if relocated)
External Sources of Finance
These are sources of finance retrieved of outside of the business/organization.
Share capital
The capital raised from selling shares
Main source of finance for most limited liability companies
Loan capital
Capital obtained from commercial lenders such as banks
Mortgage, business development loans, and debentures are examples of loan capital
These are medium to long-term sources
Overdrafts
Allows the business to temporarily overdraw on its bank account, essentially allowing them to take more money than they already have in their bank account
Trade credit
"Buy now, pay later". The buyer can obtain the resources and pay in a later date
Grants
Government financial funds (non-repayable funds) to support business activities
Usually given out to small businesses to help stimulate economic activity in a region
Subsidies
Similar to grants wherein production costs are reduced but also have extended benefits to society
Example: Subsidies are often given out to farmers to stabilise food prices
Debt factoring
Financial service that allows a business to raise funds based on the valued owed by its debtors.
Debtors: People/organization that owe money to a business
Acts as an immediate source of finance for business.
High loan = high charge, because of the high risks involved
Leasing
Permitting use of an item under your possession usually land or machinery to another person usually for money
Low risk as you can always just get your item back if they cannot pay.
Venture Capital
Investing in new or small businesses that will grow.
Criteria:
Return on investment: Return on their capital
Business Plan: Long term aims and purpose of the business venture
People: Difficult to find individuals with skills, experience and contacts. Success will only materialise if business has a good team of people
Track Record: Assessment of past track records of business before investing in capital
Risk is directly proportional to your investment into the company
Business angels
Wealthy individuals who invest their money in start-ups/businesses with high growth potential
High risk, high return "assets"
Different between venture capital in that venture capital are funds professionally managed.
Short, Medium, and Long-term Finance
Problems occasionally arise wherein managers or owners require finance to help support their business. These issues can range from borrowing a small sum to fund day-to-day operations all the way to opening your business to investors who will take a set percentage of the company in exchange for a large sum of capital.
For Further Information: Scroll down to the Sources of Finance Table
Short-term finance
Refers to the current (tax) fiscal year. To be paid within that time period.
There are types of short-term finance that take place over a very short time period occurring within days to weeks, these will often be made through pre-set deals or contracts.
These include:
Bank Overdraft
Trade Credit
Borrowing small sums of cash
Medium-term finance
Refers to the time period between 1 year (12 months) to 5 years. To be paid within that time period.
These include:
Retained Profit
Sales of Assets
Bank Loans
Repayment can occur between 1 year to around 5 years
Loans repayment depends on the size of the sum
Long-term finance
Refers to any time period longer than 5 years. To be paid within a specific deadline.
These include:
Owner/Shareholder Funds
Mortgage
Grants/Government Subsidies
Venture Capitalists
Angel Investors
Sources of Finance Table
Created by: ADGV ('19), ValkrieJJ ('19), Mr J. Ng ('19), Ms A. Winter ('19), France ('19), Ms A. Tolentino ('19)