3.1 Sources of Financing Chapter 18 Part 2

Evaluation of Internal Financing No direct cost to the business Does not increase the debt of the company No risk of loss of control of the company to another party No shares are sold to others New or unprofitable companies have few assets to sell to raise cash Growth will be constrained by limited cash resources

Loans VS Leasing Hire Purchase (A LOAN) Leasing Purchasing an asset over a period of time Example: buying car or equipment using loan Ownership Leasing A contract with a company to pay a fee but not actually acquire ownership of the item. Example: leasing a car, or equipment No Ownership

Debentures Debentures (Corporate Bonds) Bonds issued by a company to raise money and they are usually issued with a fixed rate of interest Savings Interest Rate to Depositors @ 1% Interest Loan @ 15% Interest to businesses Bank makes 14% Profit Bond @ 10% Interest to People People make 10% Interest vs 1% at the bank – 9% increase Business SAVES 5% on Loan Interest by NOT using the bank

Sales of Shares of Stock Corporations may sell additional shares of stock. Privately held corporations may sell additional shares of stock to their current stockholders. This does not introduce new owners & is called a Rights Issue. Rights Issue Existing shareholders have the right to purchase more stock at a discount in order to raise capital for the business.

Sales of Shares of Stock Can sell shares of stock to the wider public by “going public” Can raise substantial sums of money but introduces new shareholders. AIM – Alternative Investment Market A London based stock exchange designed to allow limited stock offerings to raise limited amounts of capital. Full Stock Exchange Listing Public Issue by Prospectus – advertises the business’s stock for sale on the stock market. This is an expensive undertaking.

Evaluation of External Financing Debt VS Equity Financing Debt Financing No shares are sold so ownership does not change or become diluted with additional shares of stock Loans and bonds will be repaid – so this is not permanent Lenders have not voting rights Interest on loans is paid before taxes / Dividends are paid after taxes are paid on profits Additional costs of interest payments Equity Financing Never has to be repaid Dividends do not have to paid to stockholders Ownership diluted by selling more shares of stock

Other Sources of Financing Grants Government agencies willing to fund businesses that will establish themselves in particular locations or create jobs. Economic Development Funds

Other Sources of Funding Venture Capital Capital invested in business start-ups or expanding small businesses that have good profit potential but cannot find funding from other more traditional sources. Shark Tank: (7 minutes) Shark Tank Episode

Financing Options Sole Traders & Partnerships VS Corporations Cannot raise money with sale of stock Unlikely to be able to issue a bond They CAN Bank Overdrafts (credit lines) Loans Trade Credit (credit from suppliers) Bank loans will be limited unless personally guaranteed by the owners personal assets.

Micro Finance Provides small capital investments (loans - $20) to impoverished entrepreneurs with no other means to access financing for their small businesses.

Recap Internal Sources of Finance External Retained Profits Sale of Assets Reductions in Working Capital Internal Share Issue (Sale of Stock) Debentures (Bonds) Loans Grants Sources of Finance (limited companies) Long Term Leasing Hire Purchase Loans Medium Term External Bank Overdraft (credit Lines) Bank Loan Creditors Debt Factoring (Selling A/R) Short Term

Factors that Influence Financing Choices What is financing needed for which affects the time period required to finance Cost Amount required Legal business structure and desire to retain control Size of existing borrowing Variable needs (seasonal sales)