Sources of Finance - AQALong-term finance

Personal savings

Personal savings is money that has been saved up by an entrepreneur. This source of finance does not cost the business, as there are no interest charges applied.

Venture capital

Venture capital is money invested by an individual or group that is willing to take the risk of funding a new business in exchange for an agreed share of the profits. The venture capitalist will want a return on their investment as well as input into how the business is run.

Share capital

Share capital is money raised by shareholders through the sale of ordinary shares. Buying shares gives the buyer part ownership of the business and therefore certain rights, such as the right to vote on changes to the business. This can slow down decision-making processes.

Advantages of share capital include:

• Share capital is a source ofpermanent capital – Shareholders cannot have a refund on their shares. Instead, if they want to sell their shares, they must find someone else to sell them to.
• There are nodividendsto be paid if the business has a poor year – Shareholders are not promised dividends every year, as dividends are only paid if the business has made sufficient money to pay all of its costs.

Disadvantages of share capital include:

• It dilutes control for thefounders – The more shares that are issued, the more shareholders there are who own part of the business. This results in the founders having less control. In order to have a majority stake in the business, the founders must hold more than 50 per cent of the shares.
• The business is vulnerable to takeover – As a business grows and sells more shares, it becomes vulnerable to the threat of a takeover. This is because the shares are sold publicly and if an individual or group buys enough shares, they can persuade other shareholders to vote for a new management team.

Bank loan

A bank loan is money lent to an individual or business that is paid off with interest over an agreed period of time. Usually this rate of interest is fixed. This means that the business knows in advance what the cost of borrowing will be and what monthly repayments will be required. This allows the business to plan ahead.

To get a bank loan, a business must apply to a bank. The bank then carries out credit checks to see the financial history and reliability of the applicant. The bank may require the business to secure its assets against the loan. This means that if the business is unable to repay the loan, the bank can demand the sale of the assets to raise money to pay back the loan. If a business does not have enough assets, a bank may require a guarantor to repay the loan if the business does not make its repayments on time.

Retained profit

When a business makes a profit, it can leave some or all of this money in the business and reinvest it in order to expand. This source of finance does not incur interest charges or require the payment of dividends, which can make it a desirable source of finance.

Crowdfunding

Crowdfunding involves a large number of people investing small amounts of money in a business, usually online. Commonly used crowdfunding websites include Crowdfunder, GoFundMe and Kickstarter.

Advantages of crowdfunding include:

• It acts as a form of market research. If people don’t invest, it means the business idea is not attractive or distinctive enough, indicating that the business is likely to fail.
• It provides opportunities for individuals to start up a business even if they don’t have access to other sources of funding.

Disadvantages of crowdfunding include:

• The business must be interesting. Crowdfunding is most successful when the business idea is appealing, interesting and innovative.
• It can be difficult to reach the funding target. Statistics from crowdfunding websites indicate that less than 33 per cent of businesses achieve their funding target.