2. You will learn...  Why businesses need finance  The different sources available  How managers choose between the different sources

3. Why do businesses need finance?

4. Why Do Businesses Need Finance?  To start up the business  To expand the business  To deal with difficulties facing the business  Capital Expenditure  Revenue Expenditure

5. Types of Expenditure Capital ExpenditureRevenue Expenditure Money spent on Fixed Assets more than one year Money spent on day-to-day expenses

6. Types of Expenditure ItemRevenue ExpenditureCapital Expenditure Purchase of Building Water Rates Staff Wages Office Computer Gym Equipment Maintenance of Equipment

7. Sources of business finance

8. Internal Sources of Finance Retained Profits Sale of Surplus Assets Selling Stocks Owners Savings Internal Sources of Finance

9. RRetained profit (ploughed back profit) Profit kept in the business after the owners have taken their share of the profits. Advantage No repayment XDXDisadvantage X New Businesses XPXProfits too low to expand XMXMore profit kept, less goes to owners

10. SSale of Business Assets Could be those that are no longer used or outdated. Advantage Better use of capital X Disadvantage X Time Consuming X Not available to small business Internal Sources of Finance

11. RRunning Down Stocks Used to raise cash Advantages Reduced Opportunity Cost Save on Storage Costs XDXDisadvantage XSXStock Shortages XDXDisappointed Customers

12. OOwner’s Money Put more of their savings into the business Advantages Available Quickly No Interest Payments XDXDisadvantage XLXLow Savings XIXIncreased Risk

13. External Sources of Finance Issue of Shares Debentures Debt Factoring Grants & Subsidies External Sources of Finance Bank Loan

14. External Sources of Finance  Issue of shares PLC’s only Money obtained from individuals or institutions outside the business Advantages Permanent Source of Capital No Interest Payments X Disadvantages X Dividends X Ownership Rights

15. External Sources of Finance  Bank Loan Advantages Quick to organize Varied lengths of time Low Interest Rates  Large Companies Borrow Large Sums X Disadvantages X Repaid with Interest X Security or Collateral

16. External Sources of Finance  Debenture L-T Certificates issued by limited companies Advantages Raise very L-T finance X Disadvantage X Creditworthiness & reputation essential X Repaid X Interest

17. External Sources of Finance  Factoring Debts Debt factors are specialist agencies that “buy” debts of firms for immediate cash They may offer 90% of the existing debt. The debtor will then pay the factor and the 10% represents as the factor’s profit

18. External Sources of Finance  Factoring Debts client customer MFC Goods delivered & invoiced for $100 Copy of invoice to MFC MFC gives $75 immediately MFC follows up payment with customer Sends payment to MFC

19. External Sources of Finance  Factoring Debts Advantages Immediate Cash Available Risk of Collecting Debt  Factor X Disadvantages X Firm does not receive 100%value of debt

20. External Sources of Finance  Grants & Subsidies by Outside Agencies E.g. Government Advantages Repaying usually not required X Disadvantages X “Strings Attached” X E.g. relocation

21. P e r i o d s o f F i n a n c e

22. Periods of Finance Overdrafts Trade Creditors Medium-TermLong-Term Period of Finance is required for Short-Term Debt Factoring Leasing Hire Purchase Loans Sale of Shares Debentures New IssueRights Issue

23. Periods of Finance  Short-Term (S-T)  < 3 years  Medium-Term (M-T)  3 yrs to 10yrs  Long-Term (L-T)  > 10 years

24. S-T Finance - Overdrafts

25. S-T Finance  Overdraft Arranged by bank Advantages Spend more money than available in bank account Can be used for wages, paying suppliers etc Flexible form of borrowing X Disadvantages X Interest rates variable X Short time to repay

26. S-T Finance  Trade Credit Businesses delay paying its suppliers Leaves business in better cash position manufacturer customer Customer buys supplies from manufacturer Time period to pay for supplies bought

27. S-T Finance  Trade Credit Advantages Almost Interest Free Length of Time to Pay Debt X Disadvantages X Possible Refusal of Discounts X Refuse Goods  Payment Slow

28. S-T Finance  Debt Factoring client customer MFC Goods delivered & invoiced for $100 Copy of invoice to MFC MFC gives $75 immediately MFC follows up payment with customer Sends payment to MFC MFC pays balance

29. Medium-Term Finance Payments Hire Purchase Leasing Own the Equipment Return Equipment Option to Buy

30. Medium-Term Finance HHire Purchase Purchase fixed asset over longer period of time Advantages No “up-front” Large Sum of Money Needed for Asset XDXDisadvantages XCXCash Deposit Needed at Beginning XIXInterest Rates High

31. Medium-Term Finance LLeasing Allows firm to use the asset without purchasing it Can be purchased at end of leasing period Advantages No “up-front” Large Sum of Money Needed for Asset Maintenance done by Leasing Company XDXDisadvantages XTXTotal Cost Higher

32. Long-Term Finance  Issue of Shares - Equities Finance Only available to limited companies Public Limited Companies

33. Long-Term Finance  Issue of Shares - Equities Finance Only available to limited companies Public Limited Companies New Issues Rights Issues Very Large Sums Expensive to Organize & Advertise Raise Additional Capital Existing Shareholders

34. Long-Term Finance IIssue of Shares - Equities Finance Advantages Permanent Capital No Repayments No Interest XDXDisadvantages XDXDividends Paid After Tax X Balance of Ownership

35. Medium-Term Finance BBank Loan Advantages XDXDisadvantages

36. Long-Term Finance L-T Loans Debt Finance Interest paid before tax Interest paid every year, dividends do not Must be repaid Not Permanent Capital Secured against Collateral

37. Long-Term Finance  Debentures (Same as External Finance ) Advantages Long-term loan certificates Often no collateral needed X Disadvantages X Creditworthiness & reputation essential X Repaid with Interest

38. Exercise Source of Finance Short-Term (S-T) Medium-Term (M-T) Long-Term (L-T) Overdraft Debentures Issue of Shares 3-yr Bank Loan Trade Credit Hire Purchase

39. Exercise Need for Finance Most Suitable Source Reason for Choice Planned take-over of another business Temporary increase in stocks over summer Purchase of new car for the CEO R & D of new product Launch in market in 4 yrs Cost of Factory – Less land than at present

40. C h o o s i n g t h e r i g h t S o u r c e o f F i n a n c e

41. Choosing the right Source of Finance SizeControl Purpose Time Period Amount Needed Risk Status Gearing

42. Choosing the right Source of Finance Risk Gearing Risk is the danger that failure or loss will occur. Gearing is a measure of risk. The proportion of total capital raised from L-T loans.

43. W i l l b a n k s l e n d a n d s h a r e h o l d e r s i n v e s t ?

44. Will banks lend you the money? Stability of finance records and information Cash-Flow Forecast Future Business Plans Profit & Loss Reason for the loan Gearing

45. Will shareholder’s invest? Financial Information Share price variation Future Business Plans Profit & LossDividend Rate Gearing

46. Will the shareholders invest?

47. Will shareholders invest?  Compare Dividend Rates  Compare Future Company Prospects  Share Price Variation  Gearing ratio

48. Business Plans BBusiness Objectives IImportant Details OOperations FFinances Business Plans force owners to think ahead and plan carefully for first the few years

49. Business Plans Considerations CCan we break-even or make a profit? WWhere will the firm be located? WWhat machinery will the firm need? HHow many staff does the firm need? WWhat to make? products WWhat consumers are we aiming at? WWhat will be the main costs? HHow many products to make?

50. Pizza Place Ltd Business Plan

52. QUICK QUIZ!  What can you use an overdraft for?  How long is a source of finance needed to be considered medium term?  Name one thing the bank manager needs to get from you before granting a large loan?  What is the difference between rights issue and new issues of share?

53. MORE

54. Which of these are short, medium, or long term sources of finance? Overdraft 5 year loan Issue of shares Debenture Trade credit Hire purchase

55. Which of these are internal or external sources of finance? Bank loan Retained profit Owner’s saving Governmental grants Sale of unused asset