U2- Sources Of Finance

Question 1

Why would an organisation need to borrow money? Give 3 reasons

Answer 1

To purchase new equipment

Move premises

To expand

Question 2

Give 5 sources that a larger organisation could obtain finance from

Answer 2

Issue of shares

Long term loans

Retained profits

Bank borrowing

Government assistance

Question 3

Describe ordinary (equity) shares

Answer 3

They are issued to the owners of a company and usually have a nominal value of £1

Question 4

How do ordinary shareholders put funds into their company?

Answer 4

By paying for a new issue of shares

Through retained profits

Question 5

How can ordinary shares be a source of finance?

Answer 5

By retaining profits instead of paying them out in the form of dividends the organisation has access to a low cost source of finance

Question 6

What is a long term loan?

Answer 6

It is a long term debt raised by an organisation for which interest is paid at a fixed rate

Question 7

What is a form of long term loans?

Answer 7

Debentures, normally containing provisions about the payment of interest and the eventual repayment of capital

Question 8

What are debentures with a floating rate of interest? (Long term loan)

Answer 8

They are debentures for which the rate of interest can be changed by the issuer , in accordance with changes in market rates of interest

Question 9

Describe the security of a long term loan

Answer 9

Security may take the form of either a fixed charge or a floating charge

Fixed is when security is relayed to a specific asset or a group of assets typically lands and buildings

Floating charge applies to certain assets of the company e.g. Stocks and is the lenders security in the event of a default payment

Question 10

What are the advantages of retained profits?

Answer 10

They do not cost anything because the company isn’t paying any interest on borrowing

It avoids additional costs as opposed to debentures

Avoids the possibility of a change in control of the business resulting from an issue of new shares

Question 11

Describe short term lending

Answer 11

May be in the form of an overdraft which a company should keep within a limit set by the bank, interest is charged on a daily basis

A short term loan for up to 3 years

Question 12

Describe medium term loans

Answer 12

Generally for a period of 3 to 10 years

May have a fixed or variable interest rate

Question 13

What are the PARTS factors a banker will consider when asked by a business customer for a loan?

Answer 13

P- purpose of the loan

A- amount of the loan

R- repayment

T- terms of the loan (short term?)

S- security (if required is the proposed security adequate?)

Question 14

Describe government assistance

Answer 14

The government may provide finance to companies in cash grants and other forms of direct assistance as part of its policy of helping to develop the national economy

Usually grants don’t need to be repaid

Question 15

Name 6 types of finance

Answer 15

Long term

Short term

Leasing

Hire purchase

Grant

Asset- stripping

Question 16

What is a lease?

Answer 16

An agreement between 2 parties

The lessor owns a capital asset but allows the lessee to use it. The lessee makes payments under the terms of the lease for a specified period of time

Leased assets are usually machinery but may also be computers and office equipment

Question 17

What are the 2 basic forms of lease?

Answer 17

Operating

Finance

Question 18

What are operating leases?

Answer 18

The period of the lease is usually short so the lessor can still go on and lease the equipment to someone else

The lessor supplies the equipment and the lessee is responsible for servicing and maintaining it

Question 19

What are finance leases?

Answer 19

They last for most or all of the assets expected useful life

The lessee is responsible for upkeep and servicing of the asset

The lessor must ensure that all the lease payments during the primary period pay for the full cost of the asset as well as providing the lessor with a suit wel return on the investment

Question 20

Why is leasing popular? Give 3 reasons

Answer 20

The supplier is paid in full at the beginning and has no further financial concern about the asset

The lessor makes a return on their investment out of the lease payments by the lessee

Finance leasing can be cheaper than a bank loan

Question 21

Describe higher purchase

Answer 21

It is a form of credit where payments are made in instalments

Similar to leasing however legal ownership of the goods passes to the higher purchase customer on payment of the final credit instalment

Higher purchase agreements usually involve a finance provider

Assets are paid for in instalments and eventually become the property of the business

Question 22

What is asset stripping?

Answer 22

Selling off unnecessary assets such as vehicles (usually fixed assets)

Question 23

What is a benefit of asset stripping?

Answer 23

Internal source of finance without incurring debt

Assets can always be leased back to aid cash flow

Question 24

What is the stock market?

Answer 24

A term used to describe the combination of buyers and sellers of stocks in companies that are traded using a stock exchange

It is one of the most important ways for organisations to raise money

Shares traded on the stock market can go up or down in value