3.3.4 Financing growth A palace shirt A dark verb font Lasses teas Work out the following sources of finance: A palace shirt A dark verb font Lasses teas Refined patriot 3.3.4 Financing growth 3.3.4 Financing growth

Why do businesses need finance? Expansion Start-up costs Replace or upgrade machinery Relocation Meet short term cash flow shortages Purchase new stock In an examination always consider what the finance is needed for as this will help you justify an appropriate source. 3.3.4 Financing growth

Internal and External Sources of Finance From sources outside the business Share capital (equity) Share issues Stock market flotation Debt Overdrafts Loans Internal From within the business Reinvesting profits Sales of assets Businesses may have to use more than one source of finance. Consider: what it is needed for? how much is needed? the financial status of the business 3.3.4 Financing growth

Retained profit Profit kept within the business from profit after tax to help finance future activity Profit will either be retained, in which case it becomes part of total equity, or distributed as dividends A business with a corporate objective of growth is likely to want to maximise retained profit without alienating shareholders 3.3.4 Financing growth

Sale of Assets An asset is something that is owned by a business 3.3.4 Financing growth Sale of Assets An asset is something that is owned by a business Vehicles Land Machinery A business can sell off assets that it no longer requires Alternatively it may choose to sell off an asset and then lease it back

Sale of Assets Advantages Disadvantages Quick capital injection 3.3.4 Financing growth Sale of Assets Advantages Quick capital injection If no longer required does not affect operations Can lead to other efficiencies Can reduce overhead costs Disadvantages One off action Leasing can increase costs in long run Can cause speculation Money raised may be limited

What is the difference between an Ltd and a Plc? 3.3.4 Financing growth Share Issue Shares represent ownership of a company. If you hold one share worth £1 in a multi-billion £ company then you are a part owner Shareholders will receive a dividend (a share of the profits) and be given a voting right (one vote per share) The amount of dividend payable will vary year on year and depend upon Profit levels Company objectives Appropriate source for raising large amounts of finance Only an option for companies (Ltds and Plcs) What is the difference between an Ltd and a Plc?

Stock market flotation 3.3.4 Financing growth Stock market flotation Selling a percentage of your business to the general public in the form of shares. These can then be traded on a stock market, a place to buy and sell shares. Advantages Access to greater capital Increased public profile of the business Share option schemes to motivate staff Allows the owner to realise some of the value of the business whilst retaining control Disadvantages Costs involved in process Greater legal responsibilities Information is made available to competitors Might be vulnerable to unfriendly takeover

Equity capital can also come from two other sources 3.3.4 Financing growth Equity Capital Equity capital can also come from two other sources 1. Business Angel investors Wealthy individuals that are looking for an investment opportunity where they provide funding and expertise in exchange for a share of the business. 2. Venture Capitalists Similar to business angels, these are firms that provide investment for smaller businesses that they consider to have growth prospects. Visit Angels Den to find out more

Potential investors 9 10 8 12 13 7 11 6 1 End 2 3 5 4 14 15 26 25 27 The Dragons on “Dragons’ Den” invest money in businesses in return for a % equity. Can you name the Dragons? 9 10 8 12 13 7 11 6 1 End 2 3 5 4 14 15 26 25 27 28 30 29 24 23 18 17 19 20 22 21 16

Bank Loans Loan capital is when a lender provides capital (money) to a borrower, and the borrower agrees to repay the borrowed money with interest, over a period of time. Bank Loans – these are usually for a specific time period e.g. 5 years and carry a fixed rate e.g. 6% of the initial sum on a yearly basis. Banks may require security on the loan, known as collateral. This can be an asset of the business owner or the company e.g. house, delivery van, factory A shorter term source of finance may be a bank overdraft: Bank Overdrafts – an extension of credit from a bank. This allows firms to borrow money (go overdrawn) from their bank account. A bank loan needs to be approved! The Little Rascals - Bank Loan 3.3.4 Financing growth

Bank Loans Disadvantages Advantages Interest must be paid regardless of profit levels A firm normally provides security (collateral) against its assets Often more expensive than other forms of finance – a firm can be charged for early payment Advantages Quick and easy to secure Fixed interest rates allowing firms to budget Improved cash flow - vital for a small business The borrower retains ownership of the company

Bank Overdrafts Advantages Disadvantages Only borrowed when required allowing flexibility Only pay for the money borrowed Quick and easy to arrange No charges for paying off the overdraft Disadvantages The bank can call it in at any time Only available from your current bank account Interest payments tend to be variable – making it more difficult to budget Banks may secure the overdraft against the business’ assets 3.3.4 Financing growth

Debt versus equity Debt Equity You do not have to give up part of your business in shares Quick and easy to access Debts can be deducted from profit to lower tax However Interest has to be paid Your business or personal belongings e.g. house may be used as collateral Equity Does not have to be repaid Can bring in experience of the investor New shares can be issued for fresh investment However Could be vulnerable to takeover Costs time and money Investors will demand a share of profits in the form of dividends 3.3.4 Financing growth

Activities – Raising Finance 3.3.4 Financing growth Activities – Raising Finance State and justify an appropriate source of finance for the following purchases for a florist setting up as a sole trader Delivery Van Additional Stock Premises Advertisement in local paper How would your recommendations change if you were a Limited Company Why is a florist unlikely to secure the financial backing of a Venture Capitalist?

3.3.4 Financing growth Question time Business finance can come from either internal or external sources. Which two of the following are external sources of finance? Sale of assets Retained profit Bank loan Venture capital (2) Give one advantage of using retained profit to finance business growth. (1) Give one disadvantage of using sale of assets to finance business growth. (1) A business needs to borrow £150 000 to upgrade its fleet of delivery vans. It is considering borrowing the money from a bank. Explain one disadvantage of borrowing money from a bank. (3) State and justify one alternative method of financing the upgrade. (3)