Introduction The source of finance that is the issue of from where to get funds to start, develop or expand a business is very important for the future of the business. Success of business and its operations depends largely on choosing the proper sources of finance and the purposes for which the fund is sought. For this reason study of different available sources, their advantages, limitations in respect of cost, period of time, rate of return, usability of funds and outcome of the funding repayment etc are crucial to a business specially for corporate sectors.
And as such it is also important to understand how appropriate these sources are to the purpose of the business. Types of sources Business funding can be categorised as internal and external sources of business according to its relation with the business holders or the business itself. The fund could be available for use for a different period of time relating to its availability and need of purpose.
Regarding the time of its usable period and repayment it can be categorised as short, medium and long term sources of finance.
It is important to choose the appropriate source of finance for the purposes the finance is made. The details of sources that has been open to the business of a limited company, their advantages, risks involved etc has been discussed below: Short Term Funds that are available for a period of less than a year are called the short term sources. However, the main sources for the type remains the debts that is loans from the banks and other financial institutions. Short term loans are used to meet the day to day operations of business while there is difficulty for cash flow-for example.
Bank Loan In terms of finance bank is loan is the widest most flexible and better way of short term finance. Purposes such as working capital, production expenses for the goods that are ordered by the customer bank loan can be a good source for financing. |Advantages |Disadvantages | |It is easy to get, terms are flexible and can be repaid at any time. The disadvantages are its limitation of the amount, credibility and | |In reality the interests are calculated on daily product. So as soon|conditions of its usage etc. | |as the money is repaid there is no further cost. |It may not be possible to use the money properly. The cost is high. | |It can be used for any purposes that a business may come to need. |Too much borrowing can be dangerous as well. | | |There might be deadline to repay. | Overdraft
Business does not always receive money directly from the sales. Sometimes it has to sell on credit while it will definitely get the money after a period of time. But before that may has to pay a bill while there is no extra money for that. In this situation a business can arrange an overdraft facility with its bank. |Advantages |Disadvantages | |Easier to get, flexible. |High cost especially while the bank risks of its return. | |No charge when not availed. Cause extra burden to the business and may face a hefty bill if | |Good for short term usages |exceeded. | Trade Credit Many businesses buy things on credit while they have 28 days to pay the bill. In cases it can be extended for more time for example 6 months to one year. To the business this is a kind of loan and the business has the opportunity to pay it back on a suitable time and during the period it is cost free source of fund and help manage their finance in a better way and use it for their purposes and balance with their cash flow. Advantages |Disadvantages | |Cost free. |If not paid in time can be bad for its reputation and can cause | |Suitable payback time. In case of difficulty in repay, it can extend|penalty. | |time period. |Stock purchased on credit can be of higher price than the actual | |Helps manage the finance better way. |market price. | Leasing Most businesses need equipment or machineries for a short period of time.
There are two ways to arrange them. One is to go for purchasing and the other is leasing. If the company goes to purchase them it will cost them a lot then to their use and once the purpose is served they may not be of any use and will block the invested money. |Advantages |Disadvantages | |Better to lease machineries than to purchase them. It saves money |Cost of hiring is not always minimal. | |for reselling at a lower price. Risk of compensation when damaged. | |Quick to get machineries even for a short time and when needed | | |urgently. | | |No maintenance cost for the machineries hired. | | Credit Cards Credit card facilities are quite similar to the trade credit. The goods can be bought by the credit for a specific period of time until it gets the bill to pay it.
And once they get the bill they can either pay it in full or a sum of a minimum amount to pay to the credit card company. |Advantages |Disadvantages | |Terms and conditions are easier to get it. |High rate of cost if not paid within cost-free-time. | |If used within time limit its cost free. |Excessive use can lead misuse and risk of not being paid in time. | |Can be used for any purposes the business needs. | |
Customer Advance Sometimes a customer is willing to pay in advance for a future order. One reason for this is that the item might be out of stock but he needs it shortly, and customer wants to reserve it. This could result in a credit balance in the customer account. |Advantages |Disadvantages | |The fund is cost free. |Can be bad for company’s reputation if the item not supplied in | |Can be used to purchase row materials to fulfil the customer orders. |time. |No extra burden to build the ordered goods. |Can cause a full refund of the money. | Medium Term This are the finances used for one to five years term. Working capital, day to day business expenses are met by this kind of sources. Debentures A debenture is a document that creates a debt which can be made for a medium to long term corporate finance. The holder gets a fixed rate interest on debentures. |Advantages |Disadvantages | |Comparatively low cost.
And can be issued for bigger amount. |The company may be liable to issue shares of the company in cases to| |The company does not have to set aside any assets, income or |repay the convertible debentures. | |property in a form of guarantee to the debentures. |It also risks to pay the interest at a fixed rate even at the time | |Because the holders have no voting right it can’t influence the |when the company do not generate any profit. | |company decision. | |
Public Deposit Public deposit can be a good source to raise funds for a business for a medium term requirements. |Advantages |Disadvantages | |It is more convenient than raising money from banks or other |In general it cannot be written off. | |financial institutions. |Before getting any fund there may be a lot of procedures to be made | |Lower cost or interest rates. |that means more red tapism. |The end use of the fund is not committed as such can be used for any| | |purposes. | | Hire Purchase Hire Purchase is a method of acquiring assets without having to invest the full amount in buying them. When something is bought for a period of time in a condition such as the buyer will pay the cost of the price at an instalment basis as well as interest on the outstanding balance it is called hire-purchase. Advantages |Disadvantages | |In the long run when the money is paid the company gets ownership. |Until the end of the agreement the financer is the owner not the | |It gives flexibility for the company to budgeting because it knows |company. | |how much money it has to pay in each instalments and when to pay |There may be a need to make a down-payment. | |them. | | |It gives immediate use and control of the assets to the borrower. | |Instalments are smaller in comparing the total cost. | | Long Term Long term sources are the finances that are used or obtained for a term of above five years. Installation of large factories, expansion of business, buying new premises or lands, purchasing new companies are some of the purposes long term finances are needed. Some of the common sources of this category are discussed below. Share Capital
A share is a part of ownership of a company. A public limited company can issue shares to the members of public to raise funds for its expansion or construction of for the purposes of its day to day use of funds. |Advantages |Disadvantages | |For a large volume and long term of funds it is a suitable way for |The company will have to pay proportionate profit to the | |the company to go to the stock exchange and issue shares. shareholders | |The company is not liable to pay any interest to the share holders. |The company has to disclose a lot of information about its business,| |Limited liability is held by the shareholders thus the directors of |its purposes of raising the funds, usages to the public as a | |the company have greater control. |prospectus. It is subject to various regulations. | Personal savings
Personal savings are amounts of money that a business person, partner or shareholder has at their disposal to do with as they wish. If that person uses their savings to invest in their own or another business, then the source of finance comes under the heading of personal savings |Advantages |Disadvantages | |Good source to start a business. It will never have to give the |The equity providers will take a share of the company. |money back even if the business fails. |They will take a share of the profit as well. | |At the initial stage the entrepreneurs are the only source to | | |finance and push it. | | |The owners can help it grow with their limited efforts although. | | Retained Profit
This is the income made by the company but instead of paying it out to the shareholders it is retained for investment into the company. |Advantages |Disadvantages | |This can be a good source for the company to invest where the |The shareholders will get lower dividend when the profit is retained| |company has opportunities to grow or expand. |for company’s investment. |The funding is totally cost free. |For a company that is liable of previous loss the retained profit | |It helps funding in non profit areas like research and developments. |will be eaten up the finance gap. | |Usually the companies retain a portion of the profit to allocate for| | |such purposes. | | Venture Capital This is known as the private equity finance.
This looks to invest large sums of money in return for equity that is shares in the ownership. |Advantages |Disadvantages | |The finance made by this way is comparatively large. |Securing a deal can be complex. To draw details of plans, project | |It can bring in huge expertise in the business. |etc. | |Securing a venture capital makes it easier to get finance from other|Legal and other expenses are causing extra cost. |sources. | | Sales of Assets Companies usually have fixed assets. By selling some of them which are not used in production can be a good source of funds. |Advantages |Disadvantages | |Unused or surplus assets can be sold out in auction to make |In difficulty company may be forced to sell important equipments. |productive finances. |The money earned by selling the assets may not be adequate for new | |The production capacity can be increased by replacing the old and |installations. | |obscure equipments. | | |It reduces the business overhead. | | Government, Local Authority and Grants
The government, local authority often helps grow industries that is crucial for the society or the nation to boost up specific business. |Advantages |Disadvantages | |The terms and conditions are easier to get the fund. |Binding some legal obligations. | |Comparatively low cost or cost free. |May have specific purposes for use. | |Flexibility in repayments. | | sssssss
Cite this Finance and Business
Finance and Business. (2018, Jul 26). Retrieved from https://graduateway.com/finance-and-business/