Topic 5 Sources of Finance. N5 Business Management

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1 Topic 5 Sources of Finance N5 Business Management 1

2 Learning Intentions / Success Criteria Learning Intentions Sources of finance Success Criteria By end of this topic you will be able to describe: sources of finance suitability of different types of finance. 2

3 The Role of Finance Every business has to manage its money (its finance). Money is important for a business to be able to achieve its objectives, to pay its bills and to keep its owners or shareholders satisfied. Some businesses will have a finance department, whose role it is to manage finance, whereas in a smaller business (e.g. a sole trader), the owner will be responsible for managing finance. The role of finance is to: record and maintain financial records, e.g. cash budgets and profit statements. pay bills, e.g. electricity, insurance and advertising. pay wages and salaries to employees.

4 Bank loan Commercial mortgage Leasing Selling shares Debentures Hire purchase Selling assets Retained profits Government grants Venture capitalist Owner s savings Donors Sources of Finance

5 Bank Loan A loan of money repaid over time with interest. Quick and easy to set up. Can be repaid over a long period of time. Interest could be expensive. Small businesses may find it difficult to pay higher rates of interest.

6 Commercial Mortgage A large sum of money borrowed from a bank or building society used to purchase property or land. Can be taken out over a long period of time (e.g. 25 years). Can be arranged quickly. Interest rate normally lower than a bank loan. If interest rates change, repayments might increase. Can lose the property if payments are not kept up.

7 Leasing Renting vehicles or equipment. Can get the asset quickly. Don t have to pay out a large sum of money. The asset is replaced when it becomes obsolete. In the long term it is more expensive than buying. You never own the asset.

8 Selling Shares Selling shares in the business. A large amount of money can be raised. Don t have to pay the money back. No interest has to be paid. Dividends have to be paid to shareholders. New shareholders will have a say in how the business is run.

9 Debentures Long term loan certificates which can be bought and sold on the stock market. Interest is only paid until the redemption date. Interest payments are fixed. No control of the business is lost. On the redemption date the full amount of the loan must be repaid. Interest still has to be paid.

10 Hire Purchase Where you pay a deposit for the asset you are buying and make monthly payments until it is fully paid for. The full sum does not need to be paid straight away. The finance company owns the asset until it is fully paid for. It is more expensive in the long run as interest will have to be paid.

11 Selling Assets Selling something that you no longer need, or selling it to a finance company and leasing it back. The money does not need to be repaid. If it leased back, the company will end up paying back more than they received for it.

12 Retained Profits Using money from previous year s profits that has not been spent. No money has to be repaid. This can be used to make larger purchases, such as assets or for bulk buying. The money has to be used for something else. 12

13 Government Grants Money from the government that does not have to be paid back. Does not need to be paid back. Usually has conditions attached. Can take time to get as requires many forms to be completed.

14 Venture Capitalists (or Business Angels) Provide large loans to organisations that a bank or other lender may feel are too risky. They usually part-own the organisation in return for taking the risk. Organisations who have a poor credit rating might be able to get finance from a venture capitalist instead of a bank which sees them as too risky. Large amounts of finance can be obtained. Not suitable for small sums of money or for short-term purposes. Can be expensive. Part ownership of the organisation may be a requirement of the loan. 14

15 Owner s Savings Includes personal savings and money borrowed from family and friends. This allows the owner to keep control of the business. It can reduce the amount to be borrowed from other sources. It can be difficult to withdraw savings once they are invested in the business. There is a risk that the owner could lose his savings if the business fails. 15