Business Studies in Action: HSC Course 3rd edition
Chapter summaries
Topic 2: Financial planning and management
Chapter 6 Management of funds
· A business cannot establish itself and thrive without funds to enable it to pursue its activities.
· Sources of funds can be either internal or external.
Debt
/ EquityExternal lenders
Short-term Other sources Long-term
borrowing borrowing
- overdraft - venture capital - mortgage
- bank bill - grant - debenture
- factoring - leasing
- trade credit / Internal lenders
- owners’ equity
- retained profits
· Internal sources - equity:
- Owners’ equity is the funds contributed by the owner or partners to establish and build the business.
- Retained profits (profits not distributed) are the most common source of internal finance.
Business Studies in Action: HSC Course 3rd ed. Chapman, Norris, Devenish and Merritt. Chapter summary Page 1 Page 1
· External sources - debt:
Business Studies in Action: HSC Course 3rd ed. Chapman, Norris, Devenish and Merritt. Chapter summary Page 1 Page 1
- Bank overdraft: allows the business to overdraw their account up to an agreed amount.
- Bank bills: a type of bill of exchange given for large amounts, usually over $50 000.
- Mortgage: a loan secured by the property of the borrower.
- Debentures: issued by a company for a fixed rate of interest for a fixed period of time.
- Leasing: a long-term source of borrowing that involves payment for the use of equipment that is owned by another party.
- Factoring: the selling of accounts receivable for a discounted price to a finance factoring company.
- Venture capital: funds supplied by private investors either to new businesses (seed capital) or to established businesses ready to expand or diversify.
· Financial considerations: match the terms and source of finance to business purpose and structure.
· Comparison of debt and equity finance:
Debt / Equity· Lenders have prior claim in the event of liquidation.
· Debt must be repaid by periodic repayments.
· Interest payments are tax deductible.
· Lenders usually require lower rate of return.
· Interest payments are fixed.
· Debt providers have no voting rights.
/ · Shareholders have a residual claim on
assets.
· No maturity date.
· Dividends are not tax deductible.
· Shareholders require higher return due to higher risk.
· Dividend payments are not fixed and
may be reduced through lack of
funds.
· Equity holders have voting rights.
· Debt finance is a liability to a business as it is money owed to external sources.
· Equity finance is the most important source of funds for companies because it remains in the business for an indefinite time.
· The capital structure is determined by the mix of debt and equity, and the proportion of each is known as leverage, or gearing.
· Leverage (gearing) is the proportion of debt (external finance) and the proportion of equity (internal finance) that is used to finance the activities of the business.
Business Studies in Action: HSC Course 3rd ed. Chapman, Norris, Devenish and Merritt. Chapter summary Page 1 Page 1