1.4

Question 1

what do commercial banks do?

Answer 1

distribute funds from savers to borrowers in an efficient manner providing liquidity in an economy

Question 2

what is liquidity?

Answer 2

cash

Question 3

what do consumers use banks as?

Answer 3

a safe store for their money and earn interest on their deposits

Question 4

what do banks do with money deposited to them?

Answer 4

lend it to other consumers and firms creating demand in the economy

Question 5

what do deposits in banks provide firms?

Answer 5

the finance required for capital investment

Question 6

what is credit?

Answer 6

the creation of money by banks that can be used to buy products by households and provide goods and services from firms

Question 7

is credit the money deposited by savers?

Answer 7

no

Question 8

what will banks often ask for?

Answer 8

collateral

Question 9

why do banks ask for collateral?

Answer 9

as security against a loan usually in the form of property or other assets

Question 10

what happens if the borrower fails to repay the loan?

Answer 10

the bank can seize the collateral to recover losses

Question 11

what can collateral lead to?

Answer 11

lower interest for borrowers

Question 12

why do unsecured loans have high interest?

Answer 12

because they don’t include collateral

Question 13

what is a bank loan?

Answer 13

a debt that a consumer/firm owes to a bank

Question 14

what is an overdraft?

Answer 14

borrowing extra money through your current account

Question 15

what are firms that have high levels of bank loans and overdrafts sensitive to?

Answer 15

interest rates and if they increase they have to pay more back

Question 16

what is interest?

Answer 16

a cost to a firm and affect on profit levels

Question 17

what happens if borrowing costs increase?

Answer 17

it is more expensive to invest in capital

Question 18

when do B2B transactions fall

Answer 18

as firms buy less capital goods and some may go out of business due to lack of demand for that good

Question 19

why may suppliers increase prices?

Answer 19

to compensate for their higher interest payments

Question 20

what do both risks and uncertainty deal with?

Answer 20

unknowns

Question 21

what are risks?

Answer 21

a measurable method where you can add a probability to quantify the degree of risk

Question 22

what is uncertainty?

Answer 22

a non-measurable method that is not quantifiable as the outcome is too unpredictable

Question 23

what are financial intermediaries?

Answer 23

a link between investors and savers

Question 24

give examples of financial intermediaries (4)

Answer 24

retail and investment banks
building societies
pension funds
insurance companies

Question 25

what is limited liability?

Answer 25

a legal structure that limits the extent of an economic loss to assets invested in a firm

Question 26

who has limited liability?

Answer 26

LTDs and PLCs

Question 27

what is unlimited liability?

Answer 27

when the owners are responsible for all of the debts of a firm; personal belongings might be given up to pay for the firm’s debts

Question 28

who has unlimited liability?

Answer 28

sole traders and partnerships

Question 29

how do firms decide on the most suitable method of finance?

Answer 29

amount needed? cost (interest and opportunity)? ability to pay the money back? time period? type of organisation

Question 30

what are the 3 key deciders on choosing a method of finance?

Answer 30

amount to pay back secured/unsecured loans time period

Question 31

what could be a factor when working out how much to pay back on credit?

Answer 31

interest rates which can be variable or fixed

Question 32

what is a secured loan?

Answer 32

any loan that requires the borrower to provide some form of security, they are easier to obtain as the lender has security and they are useful for larger amounts over longer periods of time

Question 33

what are unsecured loans?

Answer 33

a loan that doesn’t require the borrower to provide any form of security: they have high interest and are useful for smaller amounts over a shorter time period

Question 34

how does time period affect decision making of credit?

Answer 34

if the firm needs credit for longer a cheaper method may be chosen but if the firm only needs it for a short time a more convenient and expensive method may be chosen

Question 35

what is working capital?

Answer 35

the finance needed to keep the firm’s day to day business going, there must be enough of it to cover short term debts

Question 36

name 3 types of internal sources of finance.

Answer 36

sales of assets personal savings retained profit

Question 37

explain and evaluate sales of assets.

Answer 37

the sale of physical (machinery or property) or intangible (patent to a product) assets + quick way to make money + ethical/environmentally friendly way to dispose of unwanted assets - items sold may be needed in the future activities of the firm (opportunity cost) - may not make as much money as the cost of buying due to it being second hand

Question 38

explain and evaluate retained profit.

Answer 38

profit that is being reinvested into a firm, rather than being shared out as dividends + unexpected costs can be covered without any loans needed + no interest to be paid back on it - firms have to have been operating for at least one year - shareholder conflict may occur as they receive less dividends

Question 39

explain and evaluate personal savings.

Answer 39

money saved by the entrepreneur especially in cases of new firms to cover early expenses + banks are impressed if entrepreneurs can cover early costs + more likely to be accepted for loans as able to care for money - it can take a long time to save up as it can be quite high amounts of money needed - opportunity cost

Question 40

name 7 types of external sources of finance

Answer 40

online collaboration loans leasing venture capital ordinary share capital overdrafts trade credit

Question 41

explain and evaluate online collaboration

Answer 41

money invested through an online medium to firms + it can reach wider audience meaning quicker funding + information can be shared on the firm to grow reputation - investors usually only provide small amounts of funding - investors may have interest in other firms or may want something in return for investing

Question 42

explain and evaluate loans.

Answer 42

when a firm borrows a fixed sum of money for a fixed period of time making fixed regular repayments + can be sourced from many places and is easier to apply e.g bank, family friends + money can be gained quick potentially in order to start a firm - the lender will demand interest as their reward for lending the money - applications may be rejected if loan would be too risky

Question 43

explain and evaluate leasing

Answer 43

a method used by firms that need land, buildings or equipment which they are unable or unwilling to buy outright + more flexible and can be long or short term + the leasing company is responsible for maintenance costs - the firm never takes ownership of the item - the firm will pay more than the market value in the long term

Question 44

explain and evaluate venture capital.

Answer 44

money invested in a new firm by one or more individuals, who believe it will succeed, but will accept if it fails + advice and technical support may be gained + it is a possibility to gain it from exchanging a share - it is a long term source - investors may want equity (a share) or some control of the firm

Question 45

explain and evaluate ordinary share capital.

Answer 45

a method used by PLCs that is a long term finance raised by selling shares in a firm + no repayment or interest + PLC shares can be sold on the stock exchange - some control is lost by original owner and shareholders may want dividends resulting in less profit - AGM (annual general meetings) are a legal requirement

Question 46

explain and evaluate overdrafts.

Answer 46

a short term flexible loan where a bank allows a firm to operate with a negative bank balance + can be used to borrow a flexible amount for a short time + as soon as money is deposited it reduces the overdraft - a bank can cancel it at any time and request a full repayment - interest rates are variable

Question 47

explain and evaluate trade credit.

Answer 47

a short term source of finance offered when suppliers allow a time period before a repayment must be made + supplies can be used immediately + time is given to earn money to repay - credit will vary between suppliers - the credit can be changed at any time