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AS 2 Topic 5 Sources of Finance (EXTERNAL) (External - Money is raised…
AS 2 Topic 5
Sources of Finance
(EXTERNAL)
External
- Money is raised
outside
the business
Trade Credit
- Buy now pay later - typically 30 day period
+
Businesses can sell their goods first and pay for them later
+
No interest charge if money is paid within the agreed time
+
People may repeat purchase
-
Suppliers may not be able to grant credit items
-
Discounts may be lost by not paying early
-
Businesses need to carefully manage their cash low to ensure they have enough money available when the debt is due to be paid
Mortgage
- Loan secured on property - repaid in instalment typically over 25 years
+
Business has the use of the property immediately
+
Payments are spread over a period of time which is good for budgeting and helps cash flow
+
Once all repayments are made the business will
own
the asset
-
Interest rates are high and a more expensive method compared to buying with cash
-
Long-term commitment
-
May be difficult to obtain
-
If business doesn't keep up-to-date with repayments the property could be repossessed
Debenture
- long term loan which is usually secured against a specific asset (e.g. the factory)
+
Appropriate where sales and earnings are relatively stable
+
No dilution of control or share of profits
+
Investors who want fixed income at a lesser risk prefer them
-
Interest payments have to be made
-
Debenture puts a permanent burden on the earnings of a company therefore there is a greater risk when the earnings fluctuate
Hire Purchase
- initial deposit and regular payments on a set period of time - after all payments are made the business will own the asset
+
Businesses have use of the equipment immediately - higher productivity
+
Payments are spread over a period of time which is good for budgeting and helps cash flow
+
Business will
own
the asset after all payments are made
-
Assets can be repossessed if payments are not kept up with
-
Expensive method compared to buying with cash
Leasing
- This is like renting an asset
+
Businesses can have up-to-date equipment immediately
+
Payments are spread over a period of time which is good for budgeting and helps cash flow
+
No need to pay a deposit like hire purchase would, could save money?
-
Overall cost is high or more expensive in the long run as the leasing fees often total more than the original cost of buying outright
-
The asset belongs to the finance company
Sale and Leaseback
- Sells a major asset then leases the same asset back from the new owner in order to raise finance
-
In the long term, the business usually pay more by renting an asset rather than owning it
-
Can reduce the value of the firm's assets that can be used as a security against loans
-
May eventually lose the use off an asset when the lease ends - could affect the daily running of the business
+
Converts assets into capital without the need of the occupier to lose control of the building they occupy
+
Ownership of many assets leads to costs such as maintenance but this wont be the case as the business wont own the asset
Share Capital
-
Ordinary
(not guaranteed a dividend) or
Preference
(guaranteed a fixed dividend out of the profits before any payment is made to ordinary shareholders)
+
Any money raised through the sale of shares can be used by the company however it wants
+
Raising equity via sale shares is very flexible as the business has full control over how many shares to issue and what to charge them
+
Much lower risk that the business will become bankrupt
+
Acts as an incentive for staff using share or share options as a motivational tool
-
Shareholders expect a higher rate of return as they are taking more risks than creditors - the company typically loses more stock for a lower price to a shareholder to compensate the risk
-
Any company issuing shares to the public has to make sure that it discloses certain information on the finances of the company - costly
Share Issue
- Suitable for a limited company - involves issuing more shares
+
Doesn't have to be repaid
+
No interest
+
Equity rather than debt - lower risk finance structure
-
Profits will be paid out as dividends to more shareholders - less profits
-
Dilution of control as ownership can change hands