The best Choice of Finance (HL IB Business Management)

• Businesses must investigate and select a combination of sources of finance that are most suitable for their particular needs
    

A range of factors will affect the most suitable sources of finance for a business
 

Timescale

• Short-term sources of finance will be needed to meet unexpected costs or to pay bills and suppliers
  • These are likely to be relatively small amounts and are rarely needed beyond a year
• Longer-term sources of finance will be needed to fund the purchase of non-current assets such as buildings and other types of capital equipment
  • These are likely to be large sums that may be required for a significant period of time
    
    

Long-term and short-term sources of finance

 

Legal structure

• Sole traders, partnerships and small private limited companies usually have a more limited range of sources of finance as they are seen as a greater lending risk
  • Interest rates on loans are likely to be higher as these businesses tend to lend smaller amounts than public limited companies and are not in a position to approach specialist lenders
     
• Public limited companies are able to access a wide selection of sources of finance and are able to provide collatoral as security for lenders

 
Cost

• Interest payable on loans can add a significant cost to the use of some sources of finance
  
  • Variable interest rates change during the borrowing term which may make financial planning difficult
  • Fixed interest rates remain constant for the period of the loan and for this reason they are usually higher than variable rates
     
• Selling shares in public limited companies is an expensive process
  • Flotation is usually carried out by merchant banks which charge a premium price  for their specialist services
  • Selling shares through a rights issue may reduce the amount of share capital raised as they are usually sold at a discount to existing shareholders

 
Control

• Selling shares or raising venture capital can result in some loss of control for business owners
  
  • Smaller businesses may have to accept the terms of more powerful suppliers or business angels as they have little power to negotiate  

 
Purpose of the finance

• Certain sources of finance have narrowly focussed uses
  • A mortgage is the most appropriate type of lending to purchase land or property
  • Overdrafts are flexible and are best used for short-term working capital requirements

 
The level of existing debt

• • Highly geared businesses already make use of significant amounts of debt
  • Lenders and investors may be reluctant to provide further funds due to the level of risk the business presents
  • Businesses with a poor or no borrowing history may not meet credit score requirements and would be excluded from most types of credit