Transcript AS Economics and Business Sources of finance Unit 1

AS Economics and Business
Sources of finance
Unit 1
By Mrs Hilton for revisionstation
Lesson objectives
• To be able to discuss all the relevant sources
of finance for a business
• To be able to answer a past paper question on
sources of finance
Starter
• Where do you think a business gets its money
from?
• (BTW)This is the last day you will ever use the word money
from now on you must be more specific....
Trade credit
• When one business trades
with another they will
sometimes need to “buy”
goods with trade credit
• The seller gives the buyer
30, 60, 90 days to pay
• The buyer then has time to
sell the goods in their own
shop before they have to
pay for them
• The wholesaler may give
the buyer a discount when
they use cash instead
Buy Now pay later
Venture capital
Venture capital is also known as private
equity finance. Venture capitalists (VCs)
will invest large sums of money in a
business in return for shares in the
company.
Typically, VCs will invest at least £50 000
in a small regional business although this
can rise into millions of pounds.
The VC will look for a high rate of return in
a specific time period.
They look for a strong business plan,
sound management and a proven track
record, making it difficult for start-up
firms.
•
http://www.investopedia.com/video/play/venture-capital/
•
http://www.bbc.co.uk/programmes/b006vq92
Bank
Loan
• Loaning money from a bank is like “renting” the
money
• Banks will lend to small business but may not
lend when they first start-up as there is no track
record or history of them making money.
• Loans are quick to set up
• Loans are affected by interest rates – if they go
up the cost of borrowing will go up too and the
business may have to pay more interest back to
the bank
A bank will want to see a
business plan so they know
how their money will be
paid back.
A bank will charge interest
on the loan
A bank will ask for
security or collateral on a
loan this may be a house or
another asset that can be
seized if the loan is not
Overdraft
In the graph in Jan and
Feb the business would
need to borrow from an
overdraft until there
was an income in March
• Some months a business may need extra cash to tide it over until a
better month. A loan is over many years so is not suitable.
• An overdraft may be organised by the bank which is short term
lending of smaller amounts of money
• Very high charges and interest rates for an overdraft
• Once its arranged (say £2,000) on an account a business can dip
into it or pay it back as they see fit
• If the business goes over this amount the overdraft will be
“unauthorised” and the business will be charged heavily
• Very expensive source of finance
Internal source of
finance
•
Sale of assets
•
A business can raise finance by selling
items that they already own.
This could be:

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
Machinery
Land
Premises
Vehicles
The business that sells the asset will no
longer have the benefit of that asset and
it will not appear on the balance sheet of
the company – meaning the business will
look less attractive to investors
Retained profits
• After a year or more of
trading a business may
have some profits that
they are able to re-invest
into the business to help
it grow.
• A well run business
should continually reinvest in new staff /
equipment / stock/
premises / vehicles etc
Internal source of
finance
• If a business is in its first
year of trading it will NOT
have any retained profits
– as it will not have made
any to retain.
• The advantage is there is
no interest to pay.
• The disadvantage is once
it is used it has gone. This
is an internal source of
finance.
Ordinary share capital
• In a public limited
company (one that has
been floated on the stock
market) they can raise
more finance to expand
by having an ordinary
share issue.
• This is an external and
long term method of
finance but would only
apply to a large business
with a plc after its name.
Lease
• As a business grows it may decide that it needs
some more vehicles or equipment.
• They may decide to lease so that the equipment can
be updated regularly.
• They will NEVER own the equipment but will get the
option to change it when it wears out.
• Examples are photocopiers and vans
Hire purchase
• A business may wish to expand
and may need a vehicle or some
equipment in order to grow.
• Some business machinery is very
expensive – so they may decide
to use HP
• The business will pay for the
equipment over a fixed amount
of time (say 5 or 10 years) and at
the end the equipment is theirs
to keep.
• This will be cheaper method
than a bank loan plus the
business will know what their
fixed costs are each month as
the amount they have to pay
back will not change.
Internal source of
finance
Friends and family
• Private limited companies are able to
raise finance by selling shares to
friends and family.
• A sole trader or partnership may also
find that their family may want to
contribute to the business. This may
be for interest, a share of the profits or
maybe even an interest free loan
amongst family.
• The benefit of this is the owner may
still keep control of the business and
may be better able to trust their
•
business investors.
•
• Downside is that it may cause tension
and problems if the finance is not
repaid or the business does not
flourish.
Cake boss:
https://www.youtube.com/watch?v=
SEuJfekCh0w
Reasons for raising finance
• To pay debts (consolidation) - loan
• To help a business over a slow trading period overdraft
• To expand – needs long term finance such as VC /
Loan
• To grow and merge with another business – again
long term external finance such as loan or VC
• To start-up – loan / friends and family
• To buy stock – trade credit
Sample question 1
• Facebook began as a social networking site for
university students in the USA and was reported to be
worth in excess of $2,000 million in September 2007.
• Which of the following is the most likely source of the
$500,000 start-up capital
• for Facebook owner Mark Zuckerberg?
• A A Commercial Bank
• B Debenture Company
• C Venture Capitalist
• D Trade Creditor
Answer question 1
• Answer Option c venture capital
• Describes what is meant by start-up capital or debenture capitalist
or trade credit (1 mark)
• - A commercial bank or debenture company is not likely to lend that
amount of money to a university
• student (1 mark) given the risk involved (1 mark) as he is not likely
to maintain the re-payments (1 mark)
• - Trade credit is a source/method of providing short term capital (1
mark) to customers who have been trading with you for a while
which would not be the case (1 mark) and for smaller sums, not
$500,000 (1 mark)
• - Venture capitalist implies high risk (1 mark) and potentially high
returns (1 mark) which this business would have been (1 mark)
Sample question 2
• Small businesses, such as Cheeky Cheesecake Ltd of
Cheltenham, might source their finance for the
expansion of their premises through external methods.
• Which one of the following might be the most
appropriate external method of financing the
expansion of Cheeky Cheesecake’s business premises?
• A Trade credit
• B Venture capital
• C Sale of assets
• D An overdraft
Answer question 2
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Answer option B venture capital
- A limited company has limited liability (1 mark)
- Profitable means that revenues exceed costs (1 mark)
- External finance is obtained from a source outside the
business (1 mark)
- Expansion usually requires long term financing (1 mark)
- Which in this case comes from an investor – venture
capitalist (1 mark)
- Trade credit and overdrafts are short-term methods of
finance (1 mark)
Sample question 3 (from part 2
of the paper)
[8]
Answer question 3
Sample question 4 (from part 2 of the paper)
• Marie could have approached members of her
own family for the £50,000 start-up capital,
but chose not to do so. Evaluate Marie’s
decision. [8]
Answer question 4
Revision Video