2.1.2: Internal finance

need for finance

2 types of expenditure:

1. capital expenditure: spending on items used repeatedly

2. revenue expenditure: payments for goods and services that have already been consumed or will be soon

owner’s capital

• capital: money provided by owners (internal finance)

• source of internal finance: personal savings

personal savings

• used at start-up stage by sole traders and partnerships

• owners of limited companies also provide capital to find money to buy shares

• owners introduce fresh capital in the future if needed

retained profit

• profit after tax put back into business and not returned to owners

• most important source of finance

• cheapest source of finance - no financial charges

• opportunity cost involved

• limited companies: means shareholders recieve lower dividends

  • public limited company: may lead to conflict

• flexible and retained to earn interest

sale of assets

• selling unwanted assets to raise finance (machinery, extra stock, land)

• large companies sell part of their organisation

• sale and leaseback agreement

  • selling an asset that the business still needs

  • sold to specialist company

  • leases asset back to sellar

  • instant cash generated, maintenance passed to new owner

internal finance - advantages

• immediately available

• cheap (no interest = lower cost, higher profit)

• not subject to credit checks

• no need to involve third parties

internal finance - disadvantages

• limited

• cannot be subtracted from business profits to reduce tax

• wide variety of funding options - flexible

• no inflationary benefits - inflation reduces value of debt in case of external sources

• high opportunity cost - may lead to conflict