5.1 Buisness Studies
5.1 Buisness Studies
Business Studies – 0450
5.1 – Business Finance: Needs and Sources
Finance is the money required in the business. Finance is needed to set
up the business, expand it and increase working capital (the day-to-day
running expenses).
Start-up capital is the initial capital used in the business to buy fixed
and current assets before it can start trading.
Working Capital finance needed by a business to pay its day-to-day
running expenses
Capital expenditure is the money spent on fixed assets (assets that will
last for more than a year). Eg: vehicles, machinery, buildings etc. These
are long-term capital needs.
Revenue Expenditure, similar to working capital, is the money spent on
day-to-day expenses which does not involve the purchase of long-term
assets. Eg: wages, rent. These are short-term capital needs.
Sources of Finance
Internal finance is obtained from within the business itself.
Retained Profit: profit kept in the business after owners have been given
their share of the profit. Firms can invest this profit back in the
businesses.
Advantages:
– Does not have to be repaid, unlike, a loan.
– No interest has to be paid
Disadvantages:
– A new business will not have retained profit
– Profits may be too low to finance
– Keeping more profits to be used as capital will reduce owner’s share of
profit and they may resist the decision.
Sale of existing assets: assets that the business doesn’t need anymore,
for example, unused buildings or spare equipment can be sold to raise
finance
Advantages:
– Makes better use of capital tied up in the business
– Does not become debt for the business, unlike a loan.
Disadvantages:
– Surplus assets will not be available with new businesses
– Takes time to sell the asset and the expected amount may not be
gained for the asset
Sale of inventories: sell of finished goods or unwanted components in
inventory.
Advantage:
– Reduces costs of inventory holding
Disadvantage:
– If not enough inventory is kept, unexpected increase demand form
customers cannot be fulfilled
Owner’s savings: For a sole trader and partnership, since they’re
unincorporated (owners and business is not separate), any finance the
owner directly invests from hos own saving will be internal finance.
Advantages:
– Will be available to the firm quickly
– No interest has to be paid.
Disadvantages:
– Increases the risk taken by the owners.
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External finance is obtained from sources outside of the business.
Issue of share: only for limited companies.
Advantage:
A permanent source of capital, no need to repay the money to
shareholders
no interest has to be paid
Disadvantages:
Dividends have to be paid to the shareholders
If many shares are bought, the ownership of the business will change
hands. (The ownership is decided by who has the highest percentage
of shares in the company)
Bank loans: money borrowed from banks
Advantages:
Quick to arrange a loan
Can be for varying lengths of time
Large companies can get very low rates of interest on their loans
Disadvantages:
Need to pay interest on the loan periodically
It has to be repaid after a specified length of time
Need to give the bank a collateral security (the bank will ask for some
valued asset, usually some part of the business, as a security they can
use if at all the business cannot repay the loan in the future. For a sole
trader, his house might be collateral. So there is a risk of losing highly
valuable assets)
Debenture issues: debentures are long-term loan certificates issued by
companies. Like shares, debentures will be issued, people will buy them
and the business can raise money. But this finance acts as a loan- it will
have to be repaid after a specified period of time and interest will have to
be paid for it as well