Sources of Finance Why do businesses need finance

Sources of Finance

Why do businesses need finance? • When setting up • Working capital – day to day running of the business • To expand • Unforeseen events – sudden decline in sales, large customer fails to pay for goods on time and finance is need to pay for expenses.

Borrowing Money Time frame Possible usage Short term Under 1 year Working capital Medium term 1 -5 years Long term Over 5 years Capital expenditure (vehicles, refurbishments etc) Major capital expenditure (buildings, lands etc)

How much can finance can a business get? • It depends on: – The type of business – Stage of development – State of the economy

Internal Sources of Finance Retained Profit Working Capital Sales of Assets

External Sources of Finance • Short-term finance – – Debt factoring – a debt factoring company will pay to its client all or part of the value of an outstanding invoice and then organises the collection of debt. – Overdraft – The bank allows a firm to overdraw up to an agreed level – Trade credit – a firm obtains goods/services from another business but does not pay for it immediately. They may be given 30, 60 or 90 days to pay for them.

External Sources of Finance • For growth and expansion – – Bank loan – secured and unsecured Leasing Hire purchase Sales and leaseback – – – Venture capital Share issue Debenture Long term loans Grants from the government

Gearing Ratio Gearing ratio = Loans x 100 equity E. g. Company A and B both have £ 45 m total capital. Company A has £ 40 m of loan capital and £ 5 m of share capital. Company B has £ 30 m of share capital and £ 15 m of loan capital. Work out the gearing ratio for both companies.

Company A is high gearing and Company B low geared. Which is better? p. 259