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Sources of finance
These are how businesses get money to finance growth, to overcome working capital / cash flow
problems etc.
Choosing the right source of finance - Businesses need to consider a number of factors when deciding
what sources of finance to use:
External sources of finance are more expensive as you need to pay interest
To use retained profits you need to get agreement from shareholders
The source of finance chosen also depends on the time period and what you need the finance
for
Internal Finance: From inside the business e.g. directors - No time limit
Internal Sources - Retained Profit
Cheap and flexible
Technically profit is shareholders, so they need convincing its used effectively
Usually okay infrequently
Idea retained profit used to generate future profits and therefore used for purchase of fixed
assets
Opportunity cost needs to be assessed
Businesses need to be aware of their working capital and ensure that they have enough cash to
survive
Stock and debtor control – arranging appropriate credit terms
Liquidity – need to manage assets to ensure that the business has sufficient liquidity (ease of
converting assets to cash)
Stock needs to be valued correctly
Need to ensure are not holding excess stocks or excess cash
Loan Capital
Providers of loans = creditors
Four main types of loan capital:
o - Debentures – long term loan to the business at an agreed fixed % of interest
repayable on a stated date. Up to 25 years.
o - Mortgages – used to purchase property. Up to 25 years Long term loans –
provided by specialist organisations
o - Government assistance – selective and takes form of grants generally
2.2
Financial planning - Sales forecasting
-Consumer trends (they can be short lived, making it difficult to forecast, they
can be affected by changing tastes, demographics and globalisation)
-Economic Variables (for example change in real incomes, exchange rates, taxation
rise)
Sales revenue is given by (Sales volume x Price). Sales revenue can be hard to calculate if a
business has different products and offers promotional prices.
• Fixed Costs- costs which do not change with supply, includes rent
• VariableCosts- These costs change with supply, for example raw materials, fuel
Calculating - Total variable costs = variable cost per unit X no. of units produced
• TotalCosts- When the fixed and variable costs are added together
Break-even point= (Fixed Costs) / (Selling Price - variable costs per unit)
Contribution = (Selling price - Variable costs)
Total contribution can be used to calculate profit
Break-even Charts:
• It is a graphical representation of total costs against revenue. The point at which the lines
intersect is the break-even point
-The margin of safety is the amount which demand can fall before the company begins
making a loss
Purpose of Budgets
To plan - they help businesses control their finances as they plan expenditures over a
period of time
To control - help to ensure that businesses don’t spend more than they should
Incorrect allocations
External factors
Poor communication
These problems can be overcome by flexible budgeting
Some firms adopt zero budgeting to ensure allocations are not excessive
Advantages of Budgets
Disadvantages of Budgets
Training requirements – staff need to be trained to set budgets and manage them
Allocation of funds – managers may find it hard to allocate funds fairly and, in the
businesses, best interests
Short term vs. Long term planning – budgets usually only look at an annual plan
therefore may fail to take a longer-term view
Zero Budgeting
This is where the budget is set at zero and budget holders have to bid for capital and
justify the reasons why
These can be good for new businesses / new ventures
Variance Analysis
Adverse (or unfavourable) variances - when actual performance is poorer than budgeted
performance
Favourable variances – where variance represents a better performance than planned
Identification of the cause of a variance can allow a company to:
Sometimes a favourable and adverse variance may take, it is essential to therefore understand
the source of the adverse variance.
Business Liability
Unlimited Liability is where owners are liable for business debts, aka can have their personal assets
seized to clear the debt. Sole traders & Partnerships.
Limited Liability is where owners can only lose what they have invested in the business, due to the
process of incorporation. PLC & LTD.
-Owners capital
-Bank finance (loans and overdraft)
-Leasing
-Trade credit
-Share capital
-Bank finance (loans and overdraft)
-Angel or venture capital investment
-Peer to peer or crowdfunding
-Leasing
-Trade credit
Business Planning
Increases the likelihood of business success and is required in some finance applications such
as a bank loan. The business plan shows how the business will develop over time – vision for
the business and potential profitability.
Force owners take an objective, unemotional, critical overlook of the business idea
Outlines a road map and development of the business
An action plan which identifies critical tasks and set goals
Flag potential problems
Show the owner is cautious, responsible and credible – increase investor confidence
Cash flow is most important in the short term as it is the businesses ability to pay their
bills
Profit is more important in the long term
Businesses can be profitable and still experience cash flow problems
Opening balance
Total incomes
o Sale of goods
o Rental income
Total expenditures
o Materials
o Energy costs
o Wages
o Transport
Improve planning
More thorough market research
Diversifying the product portfolio
Improved decision making
Contingency funds
Use of sources of finance to avoid short term working capital problems
2.4
Production and Effeciency
Job Production- This is when a one-off item is produced such as a tailored suit
Cell Production- Setting up a small production line so items can be flexibly produced
Labour-Intensive Production - reliant on humans more labour forms a high % of total costs, but
adds value as needs met
Lean Production: Introduced by Toyota and aims to reduce the resources used in all
aspects of production aka space used, materials, stock, suppliers, labour, capital and time.
Raises Productivity
Reduces costs and cuts lead times
Reduces the number of defective products
Improves reliability and speeds up product design
Kaizen: Continuous improvement. Small changes add up to long term impact which
benefits the business.
Just in Time Production (JIT): Involves minimising or eliminating the amount of stock held by a
business. It reduces all the costs associated with stock holding
2.5
Legislation
Consumer Protection: These laws are designed to protect customers from being misled. For
example:
Sale of Goods Act (requires goods to be of the purpose advertised)
Trade Description Act (the good must do what is advertised)
Employee Protection:
These laws protect employees from being exploited by businesses. For example:
Minimum wage (means all workers are paid a decent wage)
Right to a contract of employment (better job security)
Environmental Protection:
These laws protect the environment from damage by businesses. For example:
Landfill Tax (heavily tax to discourage the use of landfills
Environmental Protection Act (risk assessments to be carried out by companies)
Competition Policy:
The Competition and Markets Authority was established to launch investigations into cartels, takeovers
and anti-competitive practises such as
Increased prices
Restricted consumer choice
Raise barriers to entry
Market share – collusion – cartels
Increases innovation
Reduces business costs – grow to exploit economies of scales
Increased efficiency
Slow down mergers or takeovers which may lead to business delays
May force sale of assets if mergers/takeovers lead to too great of held market share
2.5
Competitive Environment
Determinants of competitiveness: Not all markets are the same, different markets have
different market structures which are comprised of behaviour and characteristics of which are
listed below
The number and relevant size of business in the market – Some large markets may
have a large amount of small firms which compete with each other such as farmers,
where the market share of each participant is fairly small. Some markets there maybe a
few large firms or a single large firm – monopoly such as British Gas before it was
nationalised
The extent of barriers to entry – In some markets its easy for firms to setup and operate,
the barriers to entry for opening shops is quite low due to low costs and the amount of
knowledge required about the market is fairly low, however some markets such as the
drug industry patents and licenses may provide a barrier to entry for other firms, in
some markets the cost of starting are extremely large such as car manufacturing
The extent to which products can be differentiated – Some markets goods are
homogeneous where standards are to be conformed to, this the case for raw materials
and commodities such as steel and gold where there’s limited variation between firms
for
the
same goods. Some markets differentiation is as essential in branding where
differentiation is high the focus on non-price elements of the design mix are emphasised
The knowledge that buyers and sellers possess – Perfect knowledge is where buyers
know where to buy the best products for the best price and supplies know how to
maximise production and efficiency which is the case for some markets. Some markets
on the other hand there is some markets with imperfect knowledge which can provide
some firms with a competitive advantage, where knowledge is imperfect business will
put greater emphasis on the non-price elements of the design mix.
Degree of interrelationship- Some markets the behaviour, success and failure of other
firms has no effect on other market participants for example farming. Other markets
where there’s a decline in sales for one firm it can usually be attributed to an increase in
sales for another firm in that market
Legal Factors- Monopolies – Cartels and Collusion may limit the competitiveness of
other firms in that market.
Global Markets
o Largest markets – large potential for sales and profits
o Accessible due to the internet
o Large amounts of competition
o Have grown with the growth of globalisation and reduced barriers to trade
o Can allow for international branding and increased consumer confidence
o High amount of organisational and communication skills required
o Can exploit large scale Economies of Scale
National Markets
o Confined to national borders
o Limited consumer base
o Usually extremely high competition – UK car market
Regional Markets
o Can host monopoly – train services
o Able to more accurately meet needs and desires of consumers