Business - Sources of Finance (3.1 & 3.2)

Retained Profits (Internal Finance)

Definition: profits kept after a business has paid out dividends to shareholders

Pro ✅ [no charges to repay]

• permanent source of finance, no need to repay

• flexible to be used in any way

• owner has control over retained profits

• no interference from other financial institutes

Con ❌ [funding may be insufficient]

• start-up businesses will not have enough retained profit

• if retained profit is too low it may not be sufficient for business growth

• opportunity cost where it may limit funding for some areas

Personal Funds (Internal Finance)

Definition: investing using personal savings

Pro ✅ [good for sole traders; control]

• sole traders are aware of exactly how much money is available
• provides sole traders with more control over finance than the other options

Con ❌ [can risk financial security; funding may be insufficient]

• high risk to owners as they could be investing life savings (strains family and personal life)
• difficult starting and maintaining a business if the savings are the only source of funding (shouldn't solely depend on personal funds)

Sale of Assets (Internal Finance)

Definition: when a business sells off unwanted/unused assets to raise funds

Pro ✅ [turns unused assets to cash; no charges to repay]

• good way of raising cash from capital
• turns unused assets into cash
• no interest or borrowing costs are incurred

Con ❌ [assets may be obsolete or lacking]

• option is only available to established businesses
• new businesses may lack excess assets to sell
• can be time-consuming to find a buyer as machinery may be obsolete
• can impact productivity

Share Capital (External Finance)

Definition: money from selling shares to investors, which gives them part ownership

Pro ✅ [no repayment; reduces debt; good for start-ups]

• no repayment or interest
• helps expansion for start-ups
• reduces debt

Con ❌ [diluted ownership; conflicts of interest]

• diluted ownership as investors are shareholders
• divided expectations → conflicts of interest

Loan Capital (External Finance)

Definition: money you get from financial institutions; banks

Pro ✅ [accessible, negotiable interest rates]

• accessible, can be arranged quickly
• can negotiate interest rates

Con ❌ [if unable to pay, collateral and assets may be seized]

• if can't repay, collateral can be collected
• lender can seize assets

Overdrafts (External Finance)

Definition: temporary loan allowing withdraws beyond account balance, for urgent cash shortages

Pro ✅ [quick urgent access to cash]

• flexible, quick access to cash

Con ❌[high interest; short term repayment]

• high interest
• short term repayment
• limited control

Trade Credit (External Finance)

Definition: delayed payment for goods/services

Pro ✅ [ability to pay later]

• no interest
• good for cash flow
• pay later

Con ❌ [may damage debtor and supplier relations]

• may lead to poor relations between the debtor and supplier
  • supplier may refuse to engage in future transactions
• debtors lose the possibility of discounts

Crowdfunding (External Finance)

Definition: business that is funded by a large # of people each contributing a small amount of money

Pro ✅ [online, lots of contributors]

• makes use of vast networks of people (online & social media)
• success relies upon the business's ability to appeal to a sufficiently large group of potential contributors to reach a specified financial target

Con ❌ [strong competition; failure is severe]

• strong competition
• strict rules
• platforms take a percentage
• failure is severe

Leasing (External Finance)

Definition: when a business (lessee) acquires particular assets from a company (lessor)

Pro ✅ [borrow assets for low costs]

• firms don't need a high initial capital outlay to purchase the asset
• lessor takes on responsibility of repair and maintenance
• useful when particular assets are occasionally required

Con ❌ [total costs may be greater than outright purchase]

• may become more expensive than outright purchase due to accumulated total cost
• leased assets can't act as collateral for seeking loans

Microfinance (External Finance)

Definition: financial services for low-income individuals/households; social welfare for those rejected by the bank

Pro ✅ [helps low-income]

• reduces poverty
• creates opportunities for low-income people
• financial inclusion

Con ❌ [limited loan; high interest]

• limited loan size ($100 - $1,000)
• high interest rate
• no control over business

Business Angels (External Finance)

Definition: individuals investing in start-ups for equity; like shark tank where they ask for a % equity

Pro ✅ [capital money; expertise]

• provides capital and expertise

Con ❌ [some loss of control]

• owner loses some control due to shareholders