Sources of Finance

What are Sources of Finance

dollar symbol sources of finance

There are three different sources of finance, Short Term, Long Term and Medium Term. The most popular way of attaining funds for a business is through equity (money flowing into the business) with over 39% of businesses using this method, examples of this would be retained profit or capital from shares.

Short Term (30 days or less) Medium Term (less than 6 months) Long Term (6 months+)
Sale of assets, selling business assets, such as product stock or vehicles. Overdrafts Lease-Back, Selling company property, then leasing it back. similar to rent to own, however the business owned it previously, but sold it to use the cash. This is usually very extreme and would only happen when a company is becoming insolvent. Sometimes can be longer than 30 days. Sponsorship, sometimes sporting companies can sponsor businesses. Trade Credit, retrieving goods and delaying payment for up to 30 days, usually this is enough time to sell the finished product, so prevents bad cash flow. Debt Factoring, Selling debt to companies, for less than its worth, allowing them to chase up debtors. Can be instant Could be cheaper than perusing the debt. Could generate a bad reputation if they are harsh. Short Term Sources of finance usually are less than they are worth, and usually allow a business to continue trading and prevent insolvency. Family Loans, does usually not require payback for a long time. Returns can also be small. Donations Crowd Sourcing Government Grants Leasing Collateral. A Bank Loan Stocks and Shares Personal Finance Venture Capitalists Business Angels Generally they come to a business, rather than the other way around. Generally they do not inter-fear with the business. They may not want payback. Floatation requires $50,000 Mortgage Debentures/Bonds Very Long term Usually a significant amount of money Fixed rate of interest Reduces Collateral Interest is payable Companies may have invested interest Retained Profit You have to have money to make money. May cause insolvency Needs time to re-build prevents investment in other areas

Sources of Finance in IT

Some Sources of finance can be de-facto, because it is easier. examples would be the IT industry, it is easier to lease IT equipment because it can allow for no capital outlay, meaning that they do not have to pay in full to have the equipment, but can pay in instalments.

Peer-to-Peer Funding is also becoming increasingly popular, whereby companies borrow money from large businesses and cut out banks to save cost on interest.

Liquidity Ratios

There are different ratios that are used in business. A current ratio is a formula that shows the relationship between what the business has payable, and what they have as liquidity. It may be easier to think of current liability as current payables.

Formulas for Liquidity Ratios

The formula for the current ratio is

Current assets / current liabilities = current ratio

The current ratio shows if the company has enough potential cash to pay any debts that they owe. The current ratio is usually based off of a year and should be above or between 1-1.25, below this number would indicate that the business does not have enough cash to pay off its debts.

The acid test ratio is a stripped down version of the current ratio. It uses the most liquid assets. Why does it use the most liquid assets? The acid test ratio uses liquid assets, such as cash, receivables and short term investments, as they can be turned into cash instantly to pay off debts.

Cash + Short Term Investments + Receivables / Current liabilities

Working capital is the money used in a business for day-to-day processes, The formula is

Current assets - Current liabilies


Liquidity Ratios are another planning tool that a company can use to ensure that they are liquid, this is particularly useful for companies such as a bank, where their main asset is money, they can be sure to maintain a constant positive ratio. A company that deals with large amounts of stock, such as a supermarket or online shop, may be able to have a poor acid ratio as they have plenty of assets that are liquid, and can usually sell as soon as they need to.

liquidity ratios

The current and acid tests may be stored on a business balance sheet, which is a statement of the assets, liabilities and capital of a business at a particular point in time, It will detail the balance of income and expenditure over a given period and is sometimes presented in large business annual reports.