Internal Sources Of Finance

Question 1

Why do new businesses need to raise finance?

Answer 1

To buy assets needed to operate business - vehicles, machines
To pay for promotion - let consumers know about the business
To buy raw materials fuel and components needed for business to start trading

Question 2

Why do existing business need to raise finance?

Answer 2

Buy assets, raw materials, components, machinery to increase sales
To invest in developing new products and promote them
To make the business more efficient eg training employees

Question 3

Examples of internal sources of finance:

Answer 3

Retained profit
Selling unwanted assets
Trade credit

Question 4

What is retained profit?

Answer 4

Profits kept for use as a source of fufture finance

Question 5

Selling unwanted assets

Answer 5

If an asset is no longer being used by the business it can be sold to raise finance. Sales and leaseback - when a business sells an asset and and then lease it back so they can still use it.

Question 6

What is trade credit?

Answer 6

A period of time which suppers allow customers before payment for supplies must be made.

Question 7

What is one advantage and one disadvantage of trade credit?

Answer 7

Improves cash flow position
Usually interest free
Large business - request more generous trade credit terms
A free source if finance
Not normally available to new customers
May miss out on early payment discounts
Only available for up to 90 days

Question 8

Advantages of selling assets

Answer 8

• money may be available quickly
• avoids interest charges
• reduces the risk of storage costs of holding large volumes of inventory

Question 9

Disadvantages of selling assets

Answer 9

Assets may not be available to business in the future
Sale and lease back requires future payments to use the assets
- should be done carefully to avoid disappointing customers if inventory runs low

Question 10

One advantage and disadvantage of retained profit

Answer 10

Advantage - avoids paying interest on a loan
Disadvantage - only available to profitable businesses
Owners receive less of the profits

Question 11

Advantages of internal sources of finance

Answer 11

• Internal finance is often free doesn’t involve the payment of interest or charges
• It does not involve third parties who may want to influence business decisions
• Internal finance can often be organized quickly and without significant paperwork
• Businesses that may fail credit checks can access internal finance sources more easily 

Question 12

Disadvantages of internal finance

Answer 12

There is significant opportunity cost involved in the use of internal finance e.g. once retained profit has been used. It’s not available for other purposes.

Internal finance may not be sufficient to meet the needs of the business

Using an internal finance method is rarely as tax efficient as many external methods