Sources of Business Finance (Edexcel GCSE Business)

Source

Explanation

Pros

Cons

Overdrafts

• An arrangement with the Bank for business current account holders to spend more money than it has in their account 

• A limit is agreed and interest is charged only when a business ‘goes overdrawn’
• Offers significant flexibility and aids cash flow

• An overdraft may be ‘called in’ if the bank is concerned about a business's ability to repay what it owes
• Interest on overdrafts tends to be higher than on other loans

Trade credit

• An agreement is made with the business suppliers to buy raw materials, components and stock which are paid for at a later date (typically 30 to 90 days)

• Trade credit is usually interest-free
• A business can increase its stock without having to immediately pay for it which can significantly enable a positive cash flow if the stock is sold before payment becomes due

• Suppliers may prioritise delivery to customers who have the shortest repayment dates
• Cash needs to be carefully managed to ensure the business has the money available to pay its suppliers on the agreed date

Source

Explanation

Pros

Cons

Share capital

• Share capital is finance raised from the sale of shares in a limited company

• Large amounts of money can be quickly raised from wealthy investors
• Shareholders who buy a large number of shares may also bring and share expertise which can be beneficial to the business

• Shareholders are the owners of shares and they are entitled to a share of the company’s profit when dividends are declared
• Shareholders usually have a vote at a company’s Annual General Meeting (AGM) where they can have a say in the composition of the Board of Directors

Bank loans

• A sum of money is borrowed from the bank and repaid (with interest) over a specific period of time

• Bank loans are usually unsecured and are typically repaid over two to ten years
• Interest rates are fixed for the term of the loan so repayments are made in equal instalments - which helps with business planning

• Interest is payable and the business assets are at risk if the business does not make repayments as planned

Crowdfunding

• Crowdfunding allows businesses to access finance provided by a large number of small investors on online platforms such as Kickstarter

• The Business has to attain the target amount before any funds are released i.e they will not receive any funds even if they are just a few hundred £s short by the selected funding date
• Investors are often attracted by incentives such as a sample or early access to a product
• E.g. Flow Hive is a beekeeping system that was successfully funded on Indiegogo in 2015. The campaign raised $12.2 million from 38,470 backers

• Businesses need to provide a persuasive business plan to convince individuals to invest in their product as they will be competing with many other projects online

Retained profit

• The profit that has been generated in previous years and not distributed to owners is reinvested back into the business

• This is a cheap source of finance, as it does not involve borrowing and associated interest and arrangement fees

• The opportunity cost of investing the money back into the business is that shareholders do not receive extra profit for their investment

Venture capital

• Some specialist venture capital businesses or successful entrepreneurs can be approached to invest in higher-risk businesses 

• A business rejected as high-risk by banks may be able to access large amounts finance
• Venture capitalists often provide business advice

• Most venture capitalists demand a stake in the business and expect to have a say in how the business is run