Business theme 2.1

What is internal finance?

The funds used from within a business

What is owners capital?

When an entrepreneur uses their own money into a business

What are dis/advantages of owners capital?

+ Do not have to repay (no interest)

+ Risk may be motivating

- Risking own savings

- May only be limited amounts

What is retained profit?

Profit kept within the business from profit after tax to help finance future activity

What are dis/advantages of retained profit?

+ Do not have to repay (cash flow)

+ Does not dilute ownership

- Only option if there is profit

- Reduces the security blanket of keeping profits

What is sale of assets?

A method of raising short-term finance by disposing of a business asset in return for cash

What are dis/advantages of sale of assets?

+ No interest or repayment

+ Immediate lump sum

- Loss of asset and future value

- May be expensive to lease asset back in long term

What is external finance?

Funds raised from investors

What are the sources of finance?

• Friends and family

• Banks

• Peer-to-peer funding

• Business angels

• Crowd funding

• Other business

What are friends and family as a source of finance?

Investment from people known to the entrepreneur

What are dis/advantages of friends and family?

+ Repayment terms and conditions may be flexible

- Amount may be limited

- Put pressure on relationships

What are crowd funding as a source of finance?

Raising finance from a large number of people each investing different amounts

What are dis/advantages of crowd funding?

+ Can reach wider audience of investors

- Product could be copied

What are peer-to-peer funding as a source of finance?

Individuals lend money to individuals who there is no prior relationship

What are dis/advantages of sale of peer-to-peer funding?

+ More competitive fees

- Higher investment risk

What are business angels as a source of finance?

Wealthy individuals make investments into start-up businesses

What are dis/advantages of business angels?

+ Business must demonstrate good knowledge to secure

- High risk as business is not established

What are banks as a source of finance?

Financial institutions that are licensed

What are dis/advantages of banks?

+ Specialise in offering advice

- Time consuming paperwork

What are other businesses as a source of finance?

Businesses with healthy cash balances may look to invest in other businesses

What are dis/advantages of other businesses?

+ Higher potential returns than with money in the bank

- Risk

What is a loan?

When lenders provide capital to a borrower and the borrower agrees to repay amount with interest

What are dis/advantages of loans?

+ Quick and easy to secure

+ Fixed interest rates allow firms to budget

- Interest must be paid regardless of performance

- Often more expensive

What is share capital?

Money raised from the sale of shares

What are dis/advantages of share capital?

+ Only need to pay dividends if profit made

+ Possible to raise large amounts

- Loss of ownership

- Threat of hostile takeover

What is venture capital?

Investment from and established business/person in return for percentage equity

What are dis/advantages of venture capital?

+ Expertise

+ Easier to attract other sources of finance

+ Provides the required capital for expansion

- Expert financial projections likely required so initially expensive

- Partial loss of ownership

What is an overdraft?

The facility to overspend on a current account up to an agreed sum

What are dis/advantages of overdraft?

+ Only borrowed when required allowing flexibility

+ Improves cash flow

- Interest payment variable so difficult to budget

- May secure overdraft against assets

What is leasing?

A contract that allows the renting of assets from another party

What are dis/advantages of leasing?

+ Do not have to pay high costs upfront

+ Lease company responsible for repairs

- Expensive in the long run

What is trade credit?

An arrangement by a supplier to provide goods and services on account

What are dis/advantages of trade credit?

+ Helps cash flow as not immediate

- May lose out on discounts on immediate payments

What are grants?

Fixed amounts of capital provided to business by the government to fund specific projects

What are dis/advantages of grants?

+ No repayment

- Conditions have to be met for a grant

- May have lengthy application process

- Number limited

What is limited liability?

An investors liability is limited to the total amount invested

What are dis/advantages of limited liability?

+ Seen as likely to fail

- Can’t sell shares

What is unlimited liability?

The owners of a business are responsible for the total amount of debt of the business

What are dis/advantages of unlimited liability?

+ Suppliers may feel more secure

+ Cheap to set up

- Investors may be put off

What is a business plan?

A document that describes how an entrepreneur proposes to set up a new business

What are dis/advantages of a business plan?

+ Help secure external funds

+ Identifies problem areas

- Time-consuming

Use of a cash-flow forecast?

• Identify shortfall

• Identify corrective action

• Secure finance

• Give confidence for survival

What are dis/advantages of a cash-flow forecast?

+ Plan for future cash shortages

+ Manage cash surplus

+ Plan for growth

- Based on predictions

- Market research may be flawed

- Affected by external environment

- Demand may be over or under