IB Business Management 3.2.2 External Sources of Finance Notes

External Sources of Finance

1. When your business needs funds to expand, purchase equipment, or manage cash flow.
2. Where do you turn if internal resources aren't enough?
3. This is where external sources of finance come into play.

Share Capital: Selling Ownership in the Business

1. Shareholders become part-owners and may receive dividends as a return on their investment.
2. This is often referred to as having "equity" in the company.

When Is Share Capital Suitable?

1. Long-term investments: Ideal for funding major projects like expansion or research and development.
2. Limited companies: Only available to private or public limited companies, not sole traders or partnerships.

Types of Companies Using Share Capital

1. Privately Held Companies: Shares are not traded publicly, ownership is typically held by a small group.
2. Publicly Held Companies: Shares are traded on stock exchanges, allowing wider access to investors.

Pros and Cons of Share Capital

Loan Capital: Borrowing with Interest

1. Common forms include bank loans, mortgages, and debentures.
2. These types of financing are essential for businesses requiring significant amounts of money for investments or operational growth.

1. Bank Loans

1. Bank loans are typically repaid over terms ranging from 2 to 20 years, with regular repayment schedules.
2. The interest rate on a bank loan can be either fixed (unchanging) or variable (fluctuating with market conditions).
3. Banks often require collateral, such as property or equipment, to secure the loan.
4. This collateral can be seized if the borrower defaults on payments.
5. Bank loans are usually easier to secure for businesses with a strong credit history and financial stability.
6. Once agreed, the repayment terms are relatively inflexible, requiring businesses to commit to regular payments.

2. Mortgages

1. Mortgages can last for up to 50 years, making them ideal for financing large assets such as land or buildings.
2. The interest rate can be fixed or variable, allowing businesses to select repayment terms that suit their financial stability.
3. The purchased property acts as security, which means it can be seized if the borrower fails to make payments.
4. Remortgaging allows businesses to refinance their property to release additional funds, which can be particularly helpful for expanding operations.
5. Mortgages are often used by businesses that want to own fixed assets instead of renting.

3. Debenture

1. Interest rates on debentures are fixed, providing businesses and lenders with predictable financial terms.