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Finance powerpoint

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Finance powerpoint

  1. 1. An Introduction to Business “Finance”
  2. 2. What Do You Need to Know forYour Exam?  Define different sources of finance  Advantages and Disadvantages of different sources of finance  Purpose of different sources of finance Exam Q – Anne wanted to raise £60,000 of start-up capital from a venture capitalist rather than arranging a bank loan. To what extent do you agree with her? KEEP YOUR UNIT SUMMARY SHEET UP TO DATE!
  3. 3. What is Finance?
  4. 4. Definitions FINANCE – This is money SOURCES OF FINANCE – This is WHERE we get finance from
  5. 5. Why Do Businesses Need Finance? For starting up Everyday bill payments Businesses Expansion Take over bid need money for… Internal Growth Replace machinery/equipment
  6. 6. Why Do Businesses Need Finance?  Starting Up – Buildings, machinery, raw materials and office equipment  WORKING CAPITAL – Short term finance required for the day-to-day running of a business  Unforeseen Events – Sudden decline in sales, large customer fails to pay on time or pay expenses quickly
  7. 7. The purpose of finance “Different sources of finance have different implications for a business, so it is important that the most appropriate method of finance is chosen for the purpose that the business has in mind”
  8. 8. Sources of Finance Sources of Finance can be either: Internal External
  9. 9. Internal Sources of Finance INTERNAL SOURCES OF FINANCE – Finance which is raised internally, it does not increase the debts of the business. Examples: Retained profit Personal savings Sale of unwanted assets Sale and leaseback
  10. 10. External Sources of Finance EXTERNAL SOURCES OF FINANCE – Finance provided by people or institutions outside the business, creates a debt that will require payment. Examples: Loans Overdraft Shares Debentures
  11. 11. Time Periods for Finance Finance is generally considered to be either: MEDIUM LONG SHORT TERM TERM TERM UP TO 3 YEARS 3 – 10 YEARS OVER 10 YEARS
  12. 12. Short-term Finance  Short-term Finance is needed for the day-to-day running of a business and is usually for a period of up to 3 years  In order to understand short-term finance it is necessary to understand the concept of CASH FLOW
  13. 13. Cash Flow CASH FLOW – A business needs sufficient inflows of cash to finance its day-to-day outgoings.INFLOWS refers to OUTFLOWS refersmoney received by the to money paid out bybusiness the businessEXAMPLES: EXAMPLES: •Sales revenue •Purchases •Capital •Rent & Rates •Loans BUSINESS •Wages & Salaries •Grants
  14. 14. Why is Cash Flow Important? Think of a business as a bath without a plug… If the bath is ever empty the business is in TROUBLE – it There should has a CASH FLOW always be cash PROBLEM. available – so the bath is never empty! If this is not the case the business needs short-term finance to overcome this problem!
  15. 15. Sources of Short-Term Finance All commercial banks offer various methods of short- term finance for businesses:  Overdraft  Short-term Loan EXTERNAL SHORT-TERM FINANCE Other sources of Short-Term Finance:  Hire Purchase (External)  Trade Credit (Internal)
  16. 16. External Short-term Finance OVERDRAFT - The bank allows the business to draw more money from their bank account than they actually have in it. Advantages Disadvantages Very quick to arrange Only suitable for smaller amounts Only pay interest on Has to be repaid within amount overdrawn a short amount of time A good short term Interest or charges are solution to a cash flow paid problem
  17. 17. Continued… SHORT-TERM LOAN – An amount of money is borrowed from the bank, then repaid (with interest) over a set period of time (0 – 3 years).  Tends to be used to buy specific pieces of equipment or to purchase a particular consignment of raw materials in order to fulfil a contract  Not a safety net in the way an overdraft is
  18. 18. Continued… Advantages Disadvantages Easy and quick to set up Interest payable Small or Large amounts of If repayments cannot be money can be borrowed kept up, the business risks getting a poor credit rating or being made bankrupt Structured repayment term
  19. 19. Video As you watch the video think about why banks need to assess an individuals/businesses situation before agreeing to lend money. http://www.youtube.com/watch?v =2JwdIWjVHaU
  20. 20. Factors Influencing a Bank’sDecision to Lend Type of Purpose of the Purpose of the Past Trading Type of Past Trading Product? Finance? Finance? Record? Product? Record? Current Current Financial Financial Business Business Position? Position? Proposal? Proposal? Financial Financial Projections? Projections? Nature of the Nature of the Market/Sales Market/Sales forecast? forecast?
  21. 21. Banks Use this Information to…  Determine who qualifies for lending  Determine what interest rate they will lend at INTEREST RATE - cost of borrowing money (reward for savings)  What credit limit to set  Banks also use this information to determine which customers are likely to bring in the most revenue
  22. 22. Security SECURITY – Something that acts as assurance to a lender that it will get its money back if a business is unable to pay back money it has borrowed. If the business fails to repay the loan, the bank – as holder of the deeds – is legally entitled to sell the factory or office in order to recover any amount outstanding on the loan.
  23. 23. Video What are the advantages of purchasing household goods from Brighthouse? http://www.youtube.com/watch?v=2jy4JxV3vUE
  24. 24. Other External Short-term Finance HIRE PURCHASE – Pay for an item in instalments, to a hire company, over a set period of time. The item is being hired until the last payment is made. Advantages Disadvantages Large sum of money does High interest is often not have to be found at charged once Spread payment over a Item doesn’t belong to the period of time business until the end of the term Improved cash flow
  25. 25. Video What are the advantages of purchasing a sofa from DFS? http://www.youtube.com/watch?v =9c8UZJbtinl
  26. 26. Internal Short-term Finance TRADE CREDIT - Items are bought from suppliers on a ‘buy now pay later’ basis. Advantages Disadvantages Gives the business Can only be used to more cash to use in buy certain goods the immediate future Does not incur interest Bills usually have to be charges settled within 30,60 or 90 days
  27. 27. Medium-term Finance  Medium-term Finance is normally thought of as being for between 3 – 10 years. Purpose of obtaining medium term finance:  Replace expensive equipment  To expand  Convert persistent overdraft into formal medium-term loan
  28. 28. Sources of Medium-term Finance Various different forms of medium-term finance are available to a business:  Medium-term Loan  Hire purchase  Leasing EXTERNAL MEDIUM-TERM FINANCE
  29. 29. External Medium-term Finance MEDIUM-TERM LOAN - An amount of money is borrowed from the bank, then repaid (with interest) over a set period of time (3 – 10 years). The rate of interest charged is particularly important! The rate of interest payable on a medium-term loan depends on:  How much is borrowed  How long the money is wanted for  The security that is provided
  30. 30. Continued… Businesses have the option to choose either a variable rate or a fixed rate loan. VARIABLE RATE – interest varies with whatever decisions the Bank of England make with regard to interest rates. FIXED RATE – interest is fixed for the duration of the loan.
  31. 31. Continued… Advantages Disadvantages Fixed Rate: Fixed Rate: Know what repayment costs If the rate falls still have to pay are going to be the higher fixed rate Financial planning is easier Variable Rate: Variable Rate: If the rate falls business pays Don’t now what repayment the new lower rate costs are going to be Financial planning is more difficult
  32. 32. Continued… HIRE PURCHASE – Mentioned before - can also be medium-term finance. LEASING – Pay instalments over a set period of time to rent an item – business never actually owns the item!
  33. 33. Continued… Advantages Disadvantages Large sum of money does High interest is often not have to be found at charged once Spread payment over a Item doesn’t belong to the period of time business Improved cash flow Leasing company is responsible for maintenance of item
  34. 34. Long-term Finance  Long-term finance is usually thought of as being for periods in excess of 10 years.  This Finance is for securing the resources for long-term growth.
  35. 35. Sources of Long-term Finance For the long-term, a business essentially has the choice of raising finance by borrowing or through the issue of shares. Sources of Long-term Finance:  Long-term loans (External)  Issue of shares  Sale and leaseback (Internal)  Retained profit
  36. 36. External Long-term Finance LONG-TERM LOAN - An amount of money is borrowed from the bank, then repaid (with interest) over a set period of time (10 years +).  Used for expensive pieces of machinery  Loans for buildings – mortgages  Variable Rate or Fixed Rate  Fixed Rate – not fixed for whole length of the loan Advantages and Disadvantages as before!
  37. 37. Continued… ISSUE OF SHARES - A share in the business is sold to an individual or another business - also know as equity finance. This money then used to purchase new assets.  Shareholders are entitled to a dividend (share of company profits) RIGHTS ISSUE – When a company issues more shares.
  38. 38. Continued… This type of finance is only available to a company:  Private Company (Ltd) – restrictions on the transfer of shares and value not readily available as they are not traded in a market.  Public Company (Plc) – Shares are traded on the stock market. STOCK MARKET - A market where shares and debentures are bought and sold.
  39. 39. Continued… Advantages Disadvantages No need to repay the Need to pay the money invested shareholders a share of future profits Cheaper than a loan Original owners may lose control of the business Some businesses can raise Risky for the shareholder - large sums of money this the investment may be lost way if the business fails
  40. 40. Internal Long-term Finance SALE AND LEASEBACK – Asset is sold but then leased back – usually for a long period of time. Advantages Disadvantages Large sum of money is High interest is often created charged Business can operate as Item doesn’t belong to the normal after the sale business anymore Leasing company is No guarantee that lease responsible for will be renewed maintenance of item
  41. 41. Continued… RETAINED PROFIT – Profit retained for the purpose of using in the future. Advantages Disadvantages No need to pay interest on the Could have been invested money elsewhere, earning a higher profit The business may not have enough retained profit to meet its needs Shareholders may become unhappy if this means lower dividend payments
  42. 42. Other Sources of Finance Other sources of finance include:  Government Assistance  Venture Capital  Business Angles
  43. 43. Continued… Government Assistants falls into two categories – assistance with obtaining a loan and regional aid. THE SMALL FIRMS LOAN GUARANTEE SCHEME (SFLG) – Government provided security scheme which began in 2003, to enable small firms with little security to get finance.
  44. 44. Continued…  Targeted at smaller businesses  Not a loan from the government but from a bank  Bank will want to see the usual documents  Decision to lend lies with the bank!  Government provides 75% of the security via the Department for Business, Enterprise and Regulatory Reform
  45. 45. Continued… REGIONAL DEVELOPMENT ASSISTNACE (RDA) – Government financial assistance available if the business is located, or is prepared to locate, in certain areas of the UK.  Usually areas where traditional industries have been in decline  Business must safeguard and create jobs or grow so that it can compete more effectively at home or abroad  Available to small and large businesses
  46. 46. Continued… INCENTIVES: •Tax incentives •Sale of land or property at discounted rate •Reduced rent GRANTS: •Investment in equipment •Training or retraining •Research and Development
  47. 47. Continued… VENTURE CAPITAL – Individuals or firms who lend money, known as venture capital. A venture capitalist might agree to provide a certain amount of finance in exchange for a high % of the company’s shares and might adopt a “take it or leave it” approach. BUSINESS ANGELS – Individuals or firms who offer management advice as well.
  48. 48. A Business’s Choice of Finance The business’s choice of There are too many source of considerations…I don’t know finance which sources to choose!!! depends on several factors!
  49. 49. Continued…  The type of business – Sole traders and partnerships cannot issue shares  The amount of control desired – Becoming a partnership or company can weaken control  Security – A lack of security may mean that banks are unwilling to grant a loan  Existing levels of debt – If high banks will think twice about lending
  50. 50. Continued…  Internal Funds – If the business uses them for finance there will be no interest to pay; but once used the firm has no cushion to fall back on  Length of time – How long will it take to generate the funds to pay back investment  Current methods of finance being used – Inappropriate financial management will discourage the bank from lending
  51. 51. Recap… Short-term Medium-term Long-term Overdraft Medium-term Long-term Loan Loan EXTERNAL Short-term Loan Hire Purchase Shares Hire Purchase Leasing Debentures Trade Credit Retained Profit Retained profit INTERNAL Sale of Assets Sale and Leaseback
  52. 52. Continued… Type of business Length of Time Security Factors influencing the choice of finance Cash Flow Control Internal Existing Vs Debt External
  53. 53. What Do You Need to Know forYour Exam?  Define different sources of finance  Advantages and Disadvantages of different sources of finance  Purpose of different sources of finance Exam Q – Anne wanted to raise £60,000 of start-up capital from a venture capitalist rather than arranging a bank loan. To what extent do you agree with her? KEEP YOUR UNIT SUMMARY SHEET UP TO DATE!