external sources/ methods of finance (2.1.2)

What is an external source of finance?

A source of finance is where you get the money from to fund you business e.g. a bank.

What is an external method of finance?

A method of finance is the process of funding business activity e.g. a bank.

Define family and friends as an external source of finance.

Funds borrowed or gifted by relatives or close friends to help to start or grow a business.

Give two advantages of a business using family and friends as an external source of finance.

Usually more flexible repayment terms.

May not require formal applications or interest.

Give two disadvantages of a business using family and friends as an external source of finance.

Can strain personal relationships if the business struggles.

Limited amount of funds available.

define a bank as an external source of finance.

An external financial institution that provides loans, overdrafts or credit facilities to businesses to fund their operations or expansion.

Give two advantages of using a bank as an external source of finance.

Access to large sums of money.

Structured repayment loans.

Give two disadvantages of a business using a bank as an external source of finance.

Requires collateral and credit checks.

Repayments include interest, increasing costs.

Define business angels as an external source of finance.

Wealthy individuals who invest their personal funds into startups or growing businesses in exchange for equity or convertible debt.

Give two advantages of a business using business angels as an external source of finance.

Provides not just money but also expertise and mentorship.

Usually more flexible than banks.

Define peer-to-peer lending as an external source of finance.

Individuals lend money to business via online platforms, bypassing traditional banks.

Give two advantages of a business using peer-to-peer lending as an external source of finance.

Usually quicker approval.

Often lower interest rates than banks.

Give to disadvantages of a business using peer-to-peer lending as an external source of finance.

Less regulation, which can be riskier.

May have limited funding amounts.

Define crowdfunding as an external source of finance

When a business raises small amounts of money from a large number of people, typically via online platforms, in exchange for rewards, shares, or simply support.

Give two advantages of a business using crowdfunding as an external source of finance.

Access to a wider pool of investors.

Can also serve as marketing.

Give two disadvantages of a business using crowdfunding as an external source of finance.

Not guaranteed; success depends on campaign appeal.

May require offering rewards or equity.

Define other businesses as an external source of finance.

Funds obtained through arrangements like loans, investments or partnerships with other companies (e.g. business-to-business loans, strategic alliances or joint ventures, selling shares or equity to another company).

Give two advantages of a business using other businesses as an external source of finance.

Can provide significant funding.

May include strategic benefits like expertise or market access.

Give two disadvantages of a business using other businesses as an external source of finance.

Loss of control or ownership.

Dependence on another businesses stability.

Explain which external source of finance would be most suitable for a small business looking to expand.

Bank loans are often the most suitable.

Advantages:

Access to significant funds which can probably pay for all start-up costs.

Fixed repayment schedule which means small business can put aside necessary cash in order to meet the schedule.

Disadvantages

Requires collateral and credit checks which the business may not have enough of to pass.

Interest adds to cost which a small business may not be able to afford.

Define share capital as external source of finance.

Aa money raise by issuing shares to investors, who become part owners of the business.

Give three advantages of a business using share capital as an external source of finance.

No repayment needed; funds are permanent.

Shareholders may bring experience and connections.

Can raise large amounts of finance.

Give three disadvantages of a business using share capital as an external source of finance.

Dilutes ownership and control.

Dividends are paid regardless of profit.

Shareholders may want influence over decisions.

Define a bank overdraft as an external source of finance.

where a business withdraws more money than it has in its bank account, up to an agreed limit.

Give three advantages of a business using a bank overdraft as an external method of finance.

Provides quick access to funds for short-term access.

Flexible, only pay the amount withdrawn.

Useful for managing cash flow fluctuations.

Give three disadvantages of using a bank overdraft as an external method of finance.

Interest rates can be high.

Can only be withdrawn if the bank reviews the agreement.

May damage credit rating if overused or not managed well.

Define grants an external method of finance.

Funds provided by the government, charities, or other organisations that do not need to be repaid, usually given to support specific projects or initiatives.

Give three advantages of a business using grants as an external source of finance.

No need to repay, so it doesn’t add to debt.

Can help fund specific activities like research or community projects.

Enhances credibility and reputation.

Give three disadvantages of a business using grants as an external method of finance.

Competitive; not guaranteed.

Often comes with strict conditions and reporting requirements.

Usually limited in amount and duration.

Define bank loans as an external method of finance.

Sums of money borrowed from a bank that must be repaid over time with interest.

Give three advantages of a business using bank loans as an external source of finance.

Provides a large, lump sum of money for expansion or investment.

Fixed repayment schedule helps with planning.

Can be used for various purposes (equipment, premises, etc.).

Give three disadvantages of a business using bank loans as an external source of finance.

Require collateral and credit checks.

Interest adds to the total cost.

Repayments are fixed; which can strain cash flow if sales are lower than expected.

Define leasing as an external method of finance.

Where a business pays regular payments to use equipment, vehicles, or property owned by another company, instead of buying it outright.

Give three advantages of a business using leasing as an external method of finance.

Lower initial costs, preserving cash flow.

Regular payments make budgeting easier.

Often includes maintenance and upgrades.

Give three disadvantages of a business using leasing as an external method of finance.

Total cost may be higher overtime.

Business does not own the asset at the end.

Contracts can be inflexible or costly to cancel early.

Define a mortgage as an external method of finance.

A long-term loan secured against property or land, used by businesses to buy property, which is paid back over many years with interest.

Give three advantages of a business using a mortgage as an external method of finance.

Enables purchase of property without paying the full amount upfront.

Fixed or variable interest options available.

Can be spread over many years, making payments manageable.

Give three disadvantages of a business using a mortgage as an external method of finance.

Interest increases the total amount paid.

Property is collateral; risk of losing it if repayments aren’t made.

Long term commitment may limit financial flexibility.

Define venture capital as an external method of finance.

Funding provided by investors to start-ups or small businesses with high grown potential in exchange for equity or ownership shares.

Give three advantages of a business using venture capital as an external method of finance.

Provides significant capital for expansion

Investors often bring expertise, advice and networks

Can increase credibility and attract further funding.

Give three disadvantages of a business using venture capital as an external method of finance.

Dilutes ownership and control

Investors may want influence over business decisions

High expectations for rapid growth can pressure the business.

Define trade credit as an external method of finance.

An arrangement where a business receives goods or services from suppliers and agrees to pay for them later, usually within a set credit period.

Give three advantages of a business using trade credit as an external method of finance.

Helps manage cash flow by delaying payment

No immediate cash outlay needed

Builds good relationships with suppliers

Give three disadvantages of a business using trade credit as an external method of finance.

May incur late payment fees if not paid on time

Can strain supplier relationships if payments are delayed

Limited to suppliers offering credit.