2.1 Raising Finance

• what is finance?

  the management of the investment needed to open, run and grow a business
• internal finance

  Funds within a business to fund expansion or growth
• external finance

  the ability to raise funds from sources outside of the business
• why might a business need to raise finance?

  • to pay debt
  • help a business over a slow trading period
  • expand a business
  • start up a business
  • buy stock
  • research and development
  • capital expenditure - machinery, factories, vehicles etc
  • revenue expenditure - wages, raw materials, bills etc
• internal sources of finance

  • owners capital
  • retained profit
  • sale of assets
• externa sources of finance

  • bank loans
  • mortgages
  • debentures
  • share capital
  • venture capital
  • bank overdrafts
  • leasing
  • trade credit
  • grants
• retained profit

  Profit kept within the business from profit after tax to help finance future activity
• advantages of retained profit

  • quick
  • convenient
  • easy access to the money
  • no interest payments to make
• disadvantages of retained profit

  • a new business may have not made a profit
  • money won't be available for any future problems - limited source of finance
  • shareholders might prefer it to be paid in dividends
• owners capital

  applies to sole traders and partnerships only

  money provided by the owners in a business - common source is personal savings or inheritance
• advantages of owners capital

  • quick
  • convenient
  • doesn't require borrowing money
  • no interest payments to make
  • ownership stays in owners hands
• disadvantages of owners capital

  • owner may not have enough savings/needs it for personal use
  • limited source of finance
  • risk that the owner may lose their investment in the business
• sale of assets

  an established business may sell unwanted assets (land, machinery, premises etc) to raise cash

  large companies can sell parts of their business to raise finance

  can sale and leaseback - practice of selling assets and leasing them back from the buyer
• advantages of sale of assets

  • quick way of raising funds
  • can create space for more profitable purposes
• disadvantages of sale of assets

  • assets are no longer available for the business - may need to be repurchased in the future
  • may not get full market value for assets
  • may not be able to sell the assets
• why might smaller businesses and new business be forced to use internal sources of finance

  • lenders will be reluctant to lend as there's a greater risk that the money won't be paid back
  • new businesses have a lack of a successful financial record
• source of finance

  where the finance has come from
• method of finance

  the use of a finance

  what use it would be suitable for
• sources of finance

  • family and friends
  • banks
  • peer to peer funding
  • business angels
  • crowd funding
  • other businesses
• methods of finance

  • loans - bank loan, mortgages, debenture
  • share capital
  • venture capital
  • bank overdraft
  • leasing
  • trade credit
  • grants
• advantages of family and friends

  • loans from friends and family will probably be offered without the need for security and at lower rates + over longer terms than traditional lenders
  • unlikely to need a business plan, owners may not need to write one
• disadvantages of family and friends

  • may cause tension and problems if the finance is not repaid/business doesn't flourish
  • may demand money back at a short notice
• banks

  banks may lend a loan to a business to start-up or when a business wants to grow and expand

  may also provide a business with an overdraft to help when they have cash flow problems
• advantages of banks

  • banks will lend to businesses without asking for a % of the ownership
  • allows the business owner to continue running the business their own way and not interfere, owner retains the control of the business
• disadvantages of banks

  • expensive than other sources of finance and interest needs to be paid on time
  • hard for a new business owner to obtain a loan as they have no historical sales data show the bank
  • owner may need to use their own assets as security for the loan
• peer to peer funding

  where individuals lend to other individuals without prior knowledge of them on the internet

  matches businesses that need finance with investors what are looking for a good return on their investment

  key features:

  • all loans are unsecured, no protection for lenders
  • the financial arrangement is conducted for profit
  • all transactions take place online
• advantages of peer to peer funding

  • business can get access to funding within a week once approved
  • business owners can apply online - convenient
  • investors can expect returns of 6-7%
  • usually less complicated that going through a bank
• disadvantages of peer to peer funding

  • classified as private business loans - money for the loan comes from several investors/small business
  • if there isn't enough individuals interested/willing to invest in your loan the business may not acquire the entire amount the business needs
• business angels

  Wealthy individuals making personal investments into start-up businesses in return for a share of the business

  provide the business with money but also bring their experience and knowledge to help the company achieve success

  seek to have return on their investment over a period of 3-8 years

  usually smaller loan amounts than a venture capitalist
• advantages of business angels

  • angels are free to make investment decisions quickly
  • owner gets access to investors sector knowledge and contacts
  • owner gets access to angels mentoring and management skills
  • owner will have no repayments/interest on the money lent
• disadvantages of business angels

  • not suitable for investments below £10,000 and more that £500,000
  • owner needs to give up shares of the business
• crowdfunding

  large number of individuals invest in a business/projects on the internet, avoiding the use of a bank

  investor is only tied into their promised contribution if the total amount is raised

  three ways to fund:

  1. donate
  2. lend
  3. invest
• advantages of crowdfunding

  • good alternative to loans for small business owners
  • finance can be obtained without paying upfront fees
  • business can generate funds and promote the business at the same time
• disadvantages of crowdfunding

  • business will need to showcase their ideas to investors and may need to put together a video and other promotional material to attract investors - costly and competitors may see their ideas
• 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 - often IT or disruptive technology businesses
• loan

  a set amount of money provided for a specific purpose, to be repaid with interest, over a set period of time

  secured loan - a loan where the lender requires security, such as property, to provide protection in case the borrower defaults

  unsecured load - where the lender has no protection if the borrower fails to repay the money owed
• bank loan

  may be unsecured loan

  can be short or long term
• mortgages

  secured loans

  long term loans (25+ years)

  fund the purchase of property, premises, land
• debenture

  holder of a debenture is a creditor of a company, not an owner

  holders are entitled to fixed rate of return but have no voting rights

  must be repaid on a set date when the debenture matures

  used by Plc's as a long-term source of finance
• advantages of loans

  • fixed for a certain length of time, business owner can plan ahead and know exactly what the repayments will be and when they will leave the bank account
  • banks won't ask for a % of the business or get involved in the running of the business
  • straightforward process to apply for a business loan in a high street bank