SOURCES
OF
FINANCE
DIFFERENT WAYS A BUSINESS
CAN OBTAIN MONEY
Why can business need money?
Start-
Working Replacement Induced
up/Venture
capital investment investment
capital
External Obtaining a
Unexpected
growth competitive
downturns
strategies advantage
For how long do we need money?
Capital expenditure
Revenue expenditure
Sources of Finance
Sources of finance can be classified into:
◦ Internal sources (raised from within the organisation)
◦ External (raised from an outside source)
Internal Sources
There are five internal sources of finance:
◦ Owner’s investment (start up or additional capital)
◦ Retained profits
◦ Sale of stock
◦ Sale of fixed assets
◦ Debt collection
Internal Sources
Owner’s investment
This is money which comes Advantages
from the owner/s own savings
Doesn’t have to be repaid
It may be in the form of start
up capital - used when the No interest is payable
business is setting up
It may be in the form of Disadvantages
additional capital – perhaps
used for expansion There is a limit to the amount an owner
can invest
This is a long-term source of
finance
Internal Sources
Retained Profits
This source of finance is only available Advantages
for a business which has been trading
for more than one year Doesn’t have to be repaid
It is when the profits made are No interest is payable
ploughed back into the business
This is a medium or long-term source Disadvantages
of finance
Not available to a new business
Business may not make enough profit to
plough back
Internal Sources
Sale of Stock
This money comes in from selling Advantages
off unsold stock
Quick way of raising finance
This is what happens in the January
sales By selling off stock it reduces the costs
associated with holding them
This is a short-term source of
finance
Disadvantages
Business will have to take a reduced price
for the stock
Internal Sources
Sale of Fixed Assets
This money comes in from selling Advantages
off fixed assets, such as:
◦ a piece of machinery that is no longer Good way to raise finance from an
needed asset that is no longer needed
Businesses do not always have
surplus fixed assets which they can Disadvantages
sell off
There is also a limit to the number Some businesses are unlikely to have
of fixed assets a firm can sell off surplus assets to sell
This is a medium-term source of Can be a slow method of raising
finance finance
Internal Sources
Debt Collection
A debtor is someone who owes a Advantages
business money
No additional cost in getting this finance, it
A business can raise finance by is part of the businesses’ normal operations
collecting the money owed to them
(debts) from their debtors
Disadvantages
Not all businesses have debtors ie
those who deal only in cash There is a risk that debts owed can go bad
and not be repaid
This is a short-term source of finance
External Sources
There are several external sources of
finance:
◦ Bank Loan or Overdraft
◦ Additional Partners
◦ Share Issue
◦ Leasing
◦ Mortgage
◦ Trade Credit
◦ Government Grants
External Sources
Bank Loan
This is money borrowed at an agreed Advantages
rate of interest over a set period of
Set repayments are spread over a
time
period of time which is good for
This is a medium or long-term source budgeting
of finance
Disadvantages
Can be expensive due to interest
payments
Bank may require security on the loan
External Sources
Mortgage
This is a loan secured on property Advantages
Repaid in instalments over a period of Business has the use of the property
time typically 25 years
Payments are spread over a period of time
The business will own the property once which is good for budgeting
the final payment has been made
Once all repayments are made the business will
This is a long-term source of finance own the asset
Disadvantages
This is an expensive method compared to
buying with cash
If business does not keep up with repayments
the property could be repossessed
External Sources
Bank Overdraft
This is where the business is allowed to be Advantages
overdrawn on its account
This is a good way to cover the period
This means they can still write cheques, even between money going out of and coming into
if they do not have enough money in the a business
account
If used in the short-term it is usually cheaper
This is a short-term source of finance than a bank loan
Disadvantages
Interest is repayable on the amount
overdrawn
Can be expensive if used over a longer period
of time
Debentures
Bonds issued by companies to raise
finance, obligation to return specific
amount of money by the fixed date often
with the fixed rate of interest
This is a medium or long-term source of
finance
External Sources
Additional Partners
This is sources of finance suitable Advantages
for a partnership business
Doesn’t have to be repaid
The new partner/s can contribute
No interest is payable
extra capital
Disadvantages
Diluting control of the partnership
Profits will be split more ways
External Sources
Share Issue
This is sources of finance Advantages
suitable for a limited company
Doesn’t have to be repaid
Involves issuing more shares
No interest is payable
This is a long-term source of
finance Disadvantages
Profits will be paid out as
dividends to more shareholders
Ownership of the company could
change hands
External Sources
Trade Credit
Trade credit is summed up by the phrase: Advantages
Business can sell the goods first and pay for
buy now pay later them later
Good for cash flow
Typical trade credit period is 30 days No interest charged if money is paid within
agreed time
Disadvantages
This is a short-term source of finance
Discount given for cash payment would be
lost
Businesses need to carefully manage their
cash flow to ensure they will have money
available when the debt is due to be paid
Debt-factoring:
selling of claims over debtors to a debt factor in exchange for immediate liquidity; only a
proportion of the value of the debts will be received as cash (short-term source)
External Sources
Leasing
This method allows a business to obtain Advantages
assets without the need to pay a large
lump sum up front Businesses can have the use of up to date
equipment immediately
It is arranged through a finance company
Payments are spread over a period of time
Leasing is like renting an asset which is good for budgeting
It involves making set repayments
This is a medium-term source of finance Disadvantages
Can be expensive
The asset belongs to the finance company
External Sources
Government Grants and Subsidies
Government organisations such Advantages
as Invest NI offer grants to
Don’t have to be repaid
businesses, both established and
new Disadvantages
Usually certain conditions apply, Certain conditions may apply eg
such as where the business has location
to locate Not all businesses may be eligible
for a grant
Donations
Venture capitalists (funds)
Business Angels
Crowdfunding
Microfinance
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