Finance – 3.

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Resource used - https://igcseaid.com/notes/business-studies-0450/5-1-business-finance-
needs-and-sources/

What is “Finance”?
- Money required by a business.
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).

Working capital – money required by a business for paying its daily expenses

Activity -
A new business that you want to start:
- A clothes manufacturing business

Expenses of the business

- Fabrics and other raw material
- Sewing machines
- Machines and electronics
- Sewing material
- Shop
- Packaging
- Labor/ employees
- Marketing
- Studio equipment and photoshoot sets
- Licensing
- Legal costs
- Furniture
- Land/ premises
- Rent
- Transportation
- Tax
- Maintenance
- Insurance

Where will I get the money from?

- Investments?
- Loan from bank
- Personal savings

Capital expenditure:
- 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(high shelf life)
- Expenditure that happens only once
- Don’t re-occur
- Fixed capital
- Things that are bought once itself
 Ex: Legal costs, licensing, land/ premises, furniture, machinery and construction

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. Ex: wages, rent. These are short-term capital
needs (small shelf life).
- Expenses for getting more revenue.
- Keeps occurring
- Working capital requirement
Ex: advertising, labor, legal costs (both), rent, transportation, raw material,
maintenance, insurance, utility and tax

Where do you get the money from?

- Investors
- Selling personal assets
- Savings
- Bank loan
- Crowd funding
- Grants/subsidies
- Equity/ shares

Types of finance:

1: Internal finance
Business is arranged from money inside the business
Ex: Investors, bank loans, crowd funding, grants/ subsidies, and equity/ shares

- Retained profit
Or retained earnings
Profit of the organization
Remaining profit used to meet the expenses
Advantages – does not have to be repaid and no interest has to be paid
Disadvantages – new business does not have retained profit (new businesses don’t
earn profit), profits may be too low to finance, and may create shareholder
conflict(when keeping more profits for capital – share owners won’t get enough profit
from the profit – upsets them)

- Sale of existing assets

Assets that a business does not need - selling them to raise finance
Advantages – makes better use of capital tied up in the business and 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 assets and the expected amount may not be gained for the asset.

- Sale of inventories
Sale of finished goods or unwanted components in inventory (sales in shopping malls)
 Advantages – reduces costs of inventory holding/ storage
Disadvantages – if not enough inventory in kept, unexpected increase demand from
customers cannot be fulfilled

- Owners savings

2: External finance
Business is arranged from money outside the business
Ex: Selling personal assets and savings

Issue of share:
Public or private company can buy shares

Advantages – 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
- No need to pay interest

Collateral – security needed for getting a loan

- 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.

Advantages
- Can be used to raise very long-term finance, for example, 25 years

Disadvantages
- Interest has to be paid and it has to be repaid