Understand the implications of finance as a resource within a business 2
In this essay I will be discussing and understanding of where and how to access sources of finance for a business, and the skills to use financial information for decision making. Finance is essential for a business’s operation, development and expansion. Finance is the core limiting factor for most businesses and therefore it is crucial for businesses to manage their financial resources properly. Finance is available to a business from a variety of sources both internal and external.
LO1 – Understand the implications of finance as a resource within a business
Internal Sources of finance
Internal sources of finance are the funds readily available within the organisation. Internal sources of finance consist of:
• Personal savings
• Retained profits
• Working capital
• Sale of fixed asset
Personal Savings - This is the amount of personal money an owner, partner or shareholder of a business has at his disposal to do whatever he wants. When a business seeks to borrow the personal money of a shareholder, partner or owner for a business’s financial needs, the source of finance is known as personal savings.
Retained Profits - Retained profits are the undistributed profits of a company. Not all the profits made by a company are distributed as bonuses to its shareholders. The remainder of the profits after all payments are made for a trading year is known as retained profits. This remainder of finance is saved by the business as a back-up in times of financial needs and maybe used later for a company’s development or expansion. Retained profits are a very valued and no-cost source of finance.
Working Capital - Working capital refers to the sum of money that a business uses for its daily activities. Working capital is the difference of current assets and current liabilities (i.e. Working capital = Current assets – Current liabilities). Proper working capital management is also important as it is also a source of finance for a business.
Sale of fixed asset - Fixed assets are the assets a company that do not get consumed in the process of production. Some examples of fixed assets are land and building, machinery, vehicles, fixtures and fittings and equipment. Sometimes where the fixed asset is an extra and is abandoned, it can be sold to raise finance in demanding times for the business.
External Sources of finance
Apart from internal sources of finance, there are also external sources of finance. These are sources from outside of the business and they can either be:
Ownership Capital - The money invested in the business by the owner themselves is known as the ownership capital. It can be the capital funding by the owners and partners or it can be share bought by the shareholders of the company.
Non-ownership Capital - Unlike ownership capital, non-ownership capital does not allow the lender to participate in profit-sharing or to influence how the business is run. The main obligations of non-ownership capital are to pay back the borrowed sum of money and interest.
1.2 – The implications of the different sources
The main financial sources are banks, credit unions, private investors, and other income streams, such as money from stock shares or rented properties, etc. Bank - When people borrow money from a bank, they will need to pay a certain amount of interest on the principle; as well, they will be penalized for late payments or other infractions of the written contract between lender and borrower. Private Investors - With private investors, there will be a legal agreement between the buyer and the seller; however, sometimes, these agreements are simply verbal contracts. The implication of not having a written legal contract between both parties can be serious when one side fails to live up to his or her...