LO: Discuss internal and external sources of

finance
• Starter
• Why do businesses need finance?
List as many reasons as possible.

All: Identify sources of finance (level 1-2)

Most: Investigate a company’s attempt to raise share capital (level 3-5)
Some: Evaluate the use of share capital as a source of finance (level 6-7)
 Why Do Businesses Need Finance?
For starting up (start up capital Everyday bill payments (working capital)

Businesses need
Expansion Take over bid
money for…

Internal Growth Replace

machinery/equipment
 Types of expenditure
Capital expenditure
• Finance spent on fixed assets (land, machinery,
vehicles). Not intended for re-sale. Source of finance
tend to come from long and medium sources of finance. Activity
Can provide collateral for business loans in the future. List as many items of capital
expenditure and revenue
Revenue expenditure expenditure for EISJ as possible
• Expenditure for daily running of the business (wages,
raw materials, rent). Includes indirect costs (insurance
and advertising)
 Internal sources of finance
• Personal funds – sole traders and Activity
partnerships Research the benefits and drawbacks of
using internal sources of finance to fund
• Retained profit – after dividends business growth.
and taxes (no interest charges)
• Sale of assets – lower than cost
price due to depreciation (can be
used as a survival tactic)
 External sources of finance
1. Share capital 6. Grants
2. Loan capital 7. Subsidies
3. Overdrafts 8. Leasing
4. Trade credit 9. Venture capital
5. Debt factoring 10. Business angels
 Share capital
Search for a company on the
FTSE100, Nikkei or NYSE
• Source of finance for limited liability companies International 100 Index.
(PLC and LTD) Find
• IPO share number
• Private limited companies cannot sell their shares to • IPO capital generated
the general public however public limited companies • Current share price
can sell their shares on the stock exchange. Extension
• A business can turn from a private limited company Using a share price graph explain
one large increases or decreases in
by floating their company on the stock exchange in the share price since the company
what is called an initial public offering IPO was floated
 Share capital
Advantages Disadvantages
• No repayment requirements • Reduction in share of profit
• Can generate large sums of capital • Dilution of ownership (control)
• Can be used by the company however it • High rate of return is expected (above
wants interest rate)
• Can decide on they type of share issued • Regulatory costs associated with
(ordinary/preference) operating a PLC
• New ideas/skills • Can anger current shareholders
1. Explain two advantages to SW of selling shares to finance the new project? (4 marks)
Activity
https://
www.youtube.com/watch?v=rHbUStdV
Jrw

• What went wrong with the following

business pitch?
• How could it be improved?
 External sorces of finance
Venture capital
• Venture capitalists seek to invest in small to medium sized businesses, usually at
the start of a business idea. High risk, high return. Must present a coherent and
convincing business plan.

Business angels
• These are extremely wealth individuals who choose to invest their own money in
a business that offers high growth potential.
 Business angels and venture capital

Advantages
• Large amount of capital can be
raised
• No monthly repayments
• Guidance and expertise
• No obligation for repayment
Disadvantages
• Dilution of ownership
• May be difficult to obtain
investment
• May be more expensive than loan in
the long run
 Activity
Form groups of max 4 people
• You need capital in order to start your business idea
and have decided that getting the help of a venture
capitalist is the best way to raise finance.
• You will need
• Interesting pitch
• Finance calculations
• Information about your target market
• Any other relevant information to attract interest
 Loan capital
Key terms
• Mortgage – secured loan for the purchase of property or land.
• Default – the borrower fails to repay.
• Repossession – the lender takes ownership of the asset used to secure the loan upon default.
• Business development loan – Specific highly flexible loan available to businesses (capital
can be used in multiple ways).
• Debentures – long term loan issued by the business itself. Interest rates can be either fixed
or variable.
• Gearing – ratio of debt to equity used to finance a firm.
 Loan capital
• A bank loan is an amount of money borrowed for a set period within an
agreed repayment schedule. The repayment amount will depend on the
size and duration of the loan and the rate of interest.
Advantages Disadvantages

No control of the organization is given up Collateral needed

Predictable interest payments allow Lack of flexibility

businesses to plan effectively

Large amounts can be borrowed Interest repayments

 Overdraft
• Allows businesses to spend in excess of the amount in their bank account,
up to a predetermined limit. Typically used for minor cash flow problems.

Advantages
Most flexible form of short term finance
Can be used for emergencies
Disadvantages
High interest rates
Interest charged daily
Repayable on demand from the lender
Cannot be used for large borrowing
 Leasing
• The lessee pays rental income to hire assets from the lessor, who is the
legal owner of the assets. (machinery, buildings)
• Sale and leaseback involves selling an asset to a finance company and
immediately leasing it back.
• Hire Purchase is different from leasing because the buyer eventually
owns the asset at the end of the payment plan.
Advantages Disadvantages
Suitable for short term needs More expensive in the long term
Maintenance is the responsibility of the
lessor.
Analyse why loan capital was a suitable way for Dan to finance his business (6 marks)
 Grants and subsidies
• Grant – Financial gifts (non repayable) to support business activity. One
off payment usually given to small start ups or to help stimulate economic
activity in a particular region.
• Subsidy – ongoing payment from the government to reduce costs of
production. Often given in industries which are seen as essential
(healthcare, education, farming)
 Activity
• Investigate the conditions required
to receive a ‘Khalifa fund for
enterprise development’ grant.
https://www.khalifafund.ae/

Extension
1. Why do you think these
conditions are set
 Trade credit
• This allows businesses to buy now and pay later. This is also referred to
buying something on credit. Organizations offering trade credit (called
creditors) usually offer their customers (called debtors) between 30-60
days to pay.
Advantages Disadvantages
Flexible Fees and penalties for late payment
Low cost – creditors don’t charge interest Unlikely to be offered again in the future
if there are late payments.
Discounts can be offered for fast
repayment
 Debt factoring
• Involves selling of bad debts (debtors that are unable to repay) for a
discounted rate. The obligation of chasing the debt falls on the company
purchasing the debt.

Advantages Disadvantages
Instant access to capital Not usually available for smaller firms
Saves time and resources Money received is less than the initial
debt owed – therefore profits are reduced.
Summary tables