5.2

• Internal sources of finance

  • Retained earnings
  • Owners own savings or investments
  • Sale of unwanted assets
  • Sale and lease back
  • Working Capital
• Retained earnings


  The profit that a business keeps after taxes are paid to the government and dividends are paid to the shareholders
• Retained earnings


  • Only available to firms making a profit over a period of time
  • Profits may not be sufficient to purchase expensive non-current assets
• Savings from the owner

  Finance raised by using the business owner's savings for additional capital when needed
• Savings from the owner

  • There is no interest on savings and the money does not need to be repaid
  • Available quickly as owners can often provide the money fast
  • The amount of savings can be limited
  • There is a risk for the owners that they may lose their money
• Sale of unwanted assets

  Finance raised by a business selling some of its assets that it no longer needs
• Sale of unwanted assets

  • Allows the business to use the capital instead of having it tied up in assets
  • It does not add to the business's debt as the assets are owned by the business
  • The business can get money fast
  • Small businesses may not have many assets to sell
  • An asset might be sold for less than its real value and it may take time to sell it
• Sale and leaseback of non-current assets


  Firms sell valuable assets and lease them back again
• Sale and leaseback of non-current assets

  • The business has the capital from the sale of the assets as well as the continuing use of these assets so the so that their business is not disrupted
  • The business now has to pay for the use of assets which previously were freely available, which may have a negative impact on the long term profits
• Working capital


  The cash needed by your business to pay for its day-to-day operations
• Working capital


  • Reducing inventory levels, chasing customers for payment more urgently and delaying payments to suppliers can raise cash to improve a firm's working capital
  • Firms might seek to improve terms that they are offered for their trade payables - they might try to extend the pay-back period
  • Although the receipt of trade credit is a means of improving the company's working capital it is technically an external source of finance
• External sources of finance


  • Share capital
  • Bank overdrafts
  • Trade credit
  • Leasing and higher purchase
  • Bank loans
  • Mortgages
  • Venture capital
  • Debentures
  • Debt factoring
  • Microfinance
  • Crowdfunding
  • Government grants
  • New partners
• Share capital


  Limited companies are able to raise finance by issuing new shares
• Share capital


  • Large sums of money can be raised when a company sells shares to the public
  • There is no interest and the money does not have to be repaid to the shareholders
  • You lose a part of your business
• Bank overdrafts


  When the bank allows you to withdraw more money than what's in your account, has to be repaid with interest
• Bank overdrafts


  • Easy and quick
  • Expensive
• Trade credit


  A type of arrangement where a buyer is allowed to purchase goods or services from a supplier on credit, meaning they receive the goods now and pay for them later
• Trade credit


  • It's a common practice in business transactions where suppliers extend credit terms to their customers, enabling them to manage cash flow and procure necessary goods or services without immediate payment
  • In effect, it's like an interest free loan
• Leasing


  Getting to use a non-current asset (machine, equipment etc) where, instead of paying for all of it at the same time, a business pays a fixed amount of money each week or month for the asset
• Leasing


  • The business can use the money for other things instead of spending a large sum on a fixed asset
  • If something happens to the product the leasing company will give the business a new one
  • The business will get an updated model every few years
  • The business never owns the asset
  • The business will probably end up paying more over the years than if they had bought the asset
• Hire purchase


  Purchasing non-current assets (machine, equipment etc) where, instead of paying for all of it at the same time, a business pays a fixed amount of money each week or month for the asset
• Hire purchase


  • The business can use the money for other things instead of spending a large sum on a fixed asset
  • Expensive - you have to pay interest
  • You end up paying more for the asset
• Bank loans


  Businesses can raise finance by borrowing money from a bank
• Bank loans


  • Easy to get large sums of money quickly
  • You have to pay back with interest
  • The bank may ask for security for giving the loan (your house etc)
• Mortgage


  Same as bank loan but used when buying a house or any type of property or land
• Mortgage


  • The bank will use the property you buy as security (collateral) and if you don't pay it back you could end up losing the property
  • Businesses may choose to remortgage their premises to raise capital
• Venture capital


  Money given to new or small companies by investors who hope to get back more money than they invested
• Venture capital


  • Venture capitalists invest in companies in exchange for an ownership stake in the business
  • Venture capital investments are inherently risky because startups have a high likelihood of failure
  • Venture capitalists often offer expertise, guidance, industry connections, and support to help startups grow and succeed
  • A disadvantage is that the venture capitalist will take a percentage of the business
• Debenture


  A special type of long term loan to be repaid at some future date normally within 15 years of the loan being agreed
• Debenture


  • The rate of interest paid on a debenture is fixed
  • The business will usually provide security to make sure that the get their money back
• Debt factoring


  A service offered by banks and other financial institutions where businesses can raise finance by selling their debt to a debt factoring company
• Debt factoring


  • Businesses can get rid of unpaid debts and get back most of the money owed to them by the debtors
  • Most of the money can be got hold of quickly
  • They don't get all their money back
• Microfinance


  Small amount of capital loaned to a business when it's difficult for them to get finance from a normal bank
• Microfinance


  • Common in countries where business capital is difficult to obtain
  • These loans are usually paid back after a short period of time and usually with a high interest rate
  • Easy to get, when other banks won't give the money
  • Expensive, high interest rates
• Crowdfunding


  Source of finance that involves collecting relatively small amounts of money from a large number of supporters and backers
• Crowdfunding


  • Crowdfunding in a business context usually involves members of the crowd each lending a small sum of money to the business
  • Crowdfunding is attractive for businesses as it avoids the need to deal with local banks which can be bureaucratic and slow to make decisions
• Government grants


  Money provided by the government to businesses that the government considers beneficial for the economy
• Government grants


  • The money does not need to be paid back and does not incur interest
  • The money is usually provided with certain conditions, such as relocating in an area with high unemployment
  • The money is only available to certain types of businesses, and this depends on the priorities of the government
• New partners


  Businesses can raise finance by taking on new partners
• Factors influencing the choice of finance

  • Size and legal form of business
  • Amount required
  • Need to retain control
  • Cost of the source of finance
  • Existing borrowing