3.1. Sources of Finance

  • Purpose of business finance
    • Capital expenditure
      • To purchase fixed assets: properties and equipment; intended for business operations
    • Revenue expenditures
      • Payments for daily operations (direct and indirect costs)
  • Internal sources
    • Personal funds – savings, family, friends
    • Retained earnings – income after taxation and dividends
    • Sale of assets – selling of dormant or non-performing assets (liquidation)
  • External sources
    • Short term (0-12 months)
      • Business angels
      • Debt factoring
      • Donations
      • Government grants and subsidies
      • Hire purchases
      • Leasing
      • Overdrafts
      • Sponsorships
      • Trade credit
      • Venture capitalists
    • Medium term (1-5 years)
      • Business angels
      • Government grants and subsidies
      • Hire purchases
      • Leasing
      • Loan capital
      • Sponsorship
      • Venture capitalists
    • Long term (>5 years)
      • Business angel
      • Debentures
      • Government grants and subsidies
      • Hire purchase
      • Leasing
      • Loan capital
      • Share capital (preferred stock vs. commons stock)
  • Types of sources
    • Government grants
      • Difficult to apply for grants, as governments seek benefits from their spent cash (since this is not repaid)
      • Businesses can gain capital easily
      • Governments can benefit from the boosted economy
    • Venture Capitalists
      • Individuals who invest large amounts of money in startups for shares
      • Has some control over the business to guarantee return of investment
      • Venture capitalists guide the businesses, in it for the money (for profit)
    • Business angels
      • Individuals who invest large amounts of money in startups for shares
      • Not as involved in the decision making processes of the business
      • Can be risky as business may fail or their equity might be bought out
      • Businesses can raise capital easily while retaining control
      • For altruism
    • Crowdfunding
      • Soliciting funds from the general public
      • Businesses have to find ways to attract funding (e.g. incentives)
      • Businesses may not receive anything
      • Businesses can raise capital at little cost and can raise more than needed
      • Funders can receive incentives or opt to give only a little money
  • Sources of finance and business strategy
    • Purpose of finance (why is the money needed?) – will determine how long the financing should be
    • Cost (how much will it cost?) – cost of investment and cost to finance, including opportunity cost
    • Amount required (how much should be bought/spent?) – large volumes require cheaper financing
    • Time (how long before we pay?) – period needed to earn enough to pay back loan
    • Status/size of firm (are we big enough for the loan?) – large companies can get better deals and easier processing/approval
    • Financial strength (are we credible?) – credit record and gearing level are strong indicators of financial health
    • External factors – state of economy, interest rates, etc. have an impact of loan availability

 

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