1. Chapter 11
FINANCING A BUSINESS

2. Outline the ways in which share capital may be issued
LEARNING OUTCOMES
You should be able to:
Identify the main sources of finance available to a business and explain the advantages and disadvantages of each
Outline the ways in which share capital may be issued
Explain the role and nature of the Stock Exchange
Discuss the ways in which smaller businesses may seek to raise finance

3. The major sources of internal finance
Total internal finance
Tighter credit control
Delayed payment to trade payables
Reduced inventories levels
Long-term
Short-term
Retained profits
Figure Major internal sources of finance

4. Hire purchase agreements Securitisation of assets
The major external sources of finance
Preference shares
Ordinary shares
Bank overdrafts
Debt factoring
Total finance
Long- term
Short- term
Finance leases
Hire purchase agreements
Invoice discounting
Securitisation of assets
Borrowings
Figure Major external sources of finance

5. The risk/return characteristics of long-term funds
Borrowing
Preference shares
Ordinary shares
Figure The risk/return characteristics of sources of long-term finance

6. Loan capital and risk Lenders may reduce the risk of lending by
Requiring security (fixed or floating charge on assets)
Including covenants in the loan contract
Lenders may reduce the risk of lending by

7. Loan covenants Financial statements Other borrowings Dividend payments
May deal with such matters as:
Other borrowings
Dividend payments
Financial statements
Liquidity

8. Types of loan capital Term loans Loan notes Eurobonds
Convertible loans
Eurobonds
Mortgages

9. Finance leases Main benefits
Cost
Improved cash flows
Ease of borrowing
Flexibility
Figure Benefits of finance leasing

10. The hire purchase process
Supplier
Financial institution
Customer
Regular payments made over time (5)
H P agreement (1)
Asset delivered (4)
Asset purchased and paid for immediately (3)
Initial deposit (2)
Figure The hire purchase process

11. The securitisation process
SPV
Income from assets
Assets transferred
Asset–backed bonds issued
Interest paid on bonds

12. The debt-factoring process
Client business
Credit customer
Factor
Goods supplied on credit (1)
Customer pays amount owing to factor (4)
Factor invoices credit customer (2)
Factor pays 80% to client immediately (3)
Factor pays 20% balance to client (less fees) when credit customer pays amount owing (5)
Figure The debt-factoring process

13. Long-term versus short-term borrowing
Issues that should be taken into account include:
Flexibility
Refunding risk
Matching
Interest rates

14. Short-term and long-term financing requirements
Short-term finance
Long-term finance
Total funds (£)
Time
Permanent current assets
Fluctuating current assets
Non-current assets
Figure Short-term and long-term financing requirements

15. Common methods of share issue
Rights issue
Offer for sale
Bonus issue
Common issue methods
Placing
Public issue
Figure Common methods of share issue

16. Reasons for a rights share issue
Costs are lower when offering shares to existing shareholders
There is no dilution of control

17. The Stock Exchange
Secondary market
Primary market
Two important roles

18. Stock Exchange listing – advantages
Advantages for a business
Enables other businesses to be acquired by shares rather than cash
Shares valued in an efficient manner
Broadens investor base
Raises profile
Funds acquired at lower cost
Easier to raise funds
Can help attract and retain employees (share incentives)

19. Stock Exchange listing – disadvantages
Increased vulnerability to takeover
Close monitoring of actions and decisions
Increased regulatory burden
Cost (including management time)
Disadvantages for a business

20. Ownership of UK listed shares, end of 2012
Private non-financial companies
Insurance companies 10 %
Other financial institutions
Pension funds
Individuals
Unit trusts
Investment trusts
Public sector
Banks
Charities 5 50 15
Rest of the world 53 6 11 2 1
Figure Ownership of UK listed shares at the end of 2012

21. Distribution of AIM listed companies by equity market value50
100
250
200
150
No. of companies 82
126
144
232
174
141
108 39 13 6
Market value range (£m)
0–2
Over 1,000
500–1,000
250–500
100–250
50–100
25–50
10–25
5–10
2–5
Figure Distribution of AIM listed companies by equity market value Source: AIM Market Statistics, London Stock Exchange, November 2013.

22. Providing long-term finance for the small business
Business angels
Government assistance
Venture capital

23. Financing small businesses
Banks
57%
11%
21% 7% 4%
Partners and shareholders
Asset-based finance (for example HP, factoring and trade finance)
Venture capital
Other
Figure Financing small businesses Source: Cosh, A. and Hughes, A., British Enterprise: Thriving or surviving, Centre for Business Research, University of Cambridge, 2007.