Chapter 8 - Business finance Flashcards
(28 cards)
What are the 3 sources of financing?
- by ownership: debt & equity
- by duration: short-term and long-term
- by scope: external & internal
Debt holders face ____ risk, _____ returns
lower/lower
In structuring its finances, a business must have risk-return _____ desired by potential investors
trade-off
Equity holders face _____ risk, _____ returns
higher/ higher
What range does a business need for finance?
- immediate: pay wages and day-to-day expense
- short-term: pay for goods/ services bought on credit
- medium term: pay for an increase in inventory and receivables
- long term: pay for NCA
What are the 2 approaches to finance current assets?
- permanent current assets are financed by short-term credit
- permanent current assets and some fluctuating current assets are financed by long-term source
For financing current assets, permanent current assets are financed by short-term credit is _____profitable and ____ risky
more/ less
For financing current assets, permanent current assets and some fluctuating current assets are financed by long-term sources is _____profitable and ____ risky
low/ less
What are the risks to borrowers of short-term finance?
- renewal risk: short-term financing has to be continually renegotiated as the previous relationships or the various overdraft facilities expire
- interest risk: the fluctuation in short-term interest rate
What are the 3 characteristics of choosing short-term and long-term finance?
- aggressive business: more short-term finance than equity
- average business: matches its maturities
eg: permanent current assets are financed by long-term debt
eg: fluctuating current assets are financed by short-term trade credit and overdrafts. - defensive business: having little short-term finances and only some of the fluctuating current assets
If a business has more short-term finance than equity, it may return _____ profit but at _____ risk
higher/ greater
If a business matches its maturities, it has ____ risk and _____ return
less/ less
A defensive business will have ___ risk and ____ return
low/low
Usually, short-term finance is ____ than long-term finance due to the risks taken by lenders
cheaper
When will short-term interest rates be higher than long-term rates?
when the inverted yield curve appears (for the periods of economic recession)
What are the factors that should be considered when choosing the financing approach?
- willingness of suppliers
- extend of credit
- the risks of its industrial sector
If a business identifies a short-term surplus of cash, it should aim to invest in ___ term to earn a return
short
If the surplus is of a longer-term nature, it should be invested in _____ projects to increase shareholder wealth or returned to shareholders as dividends.
longer term
What are the benefits of financial intermediation?
- larger loan packages made by the combination of small amounts deposited by savers
- short-term savings can be transferred into long-term loans
- reduce search costs
- reduce risks of finding potential individual borrower
Name some types of banks in the UK and their roles
- primary banks: operating money transmission or clearing system
- secondary banks (made up of merchant banks and other banks): do not take part in the clearing system
- bank of England (UK - BOE): carry out monetary policy & ensure financial stability
The Monetary Policy Committee (MPC) decides on ____ rate to meet a target for overall ___ in the economy to achieve the aim of monetary stability
base (rate)/ Inflation
London Inter-Bank Offer Rate (LIBOR) is the rate for what?
The rate at which banks lend and borrow money among themselves.
____ take actions or reduce systematic risks in the UK financial system as a whole
The Financial Policy Committee (FPC)
What is the secondary objective of the Financial Policy Committee (FPC)?
FPC has a secondary objective to support the economic policy of the government
