Sources of Finance

Sources of Finance

 

Off Balance Sheet Financing

Sources of Finance.In order to fully appreciate off balance sheet financing and the significance of fleet operations on the Balance Sheet of a business we should first consider the key ways in which client fleet operations could be funded.

Sources of Finance

Risk Capital

What risk could there be in providing a company with finance? Investors who buy a share in a business take the risk that they will lose the money they have invested if the company ceases trading. Sources of finance from shareholders are therefore known as risk capital.

The company never has to repay these sources of finance to the shareholders. If the company makes a profit it pays a dividend to the shareholders. A limited company can raise finance by selling additional shares in the business. This is dependent on the company’s reputation, general economic conditions etc. If the company’s reputation is poor, or the country is in recession it may be very difficult to sell additional shares. Types of share are as follows:

• Ordinary Shares: Once issued, shares can be traded privately or on an exchange, if the company is listed. They come with a right to vote at the company’s AGM and an entitlement to a share of dividends declared(which is variable and uncertain).They are however unsecured, meaning that they are last in the queue if the company goes bust and has to sell off its assets
• Preference Shares: Shares which are paid a fixed dividend. This dividend is paid at the discretion of the directors. If there is insufficient profit the dividend may not be paid. Preference dividends normally have to be paid before any dividend can be paid to holders of ordinary shares. Preference shareholders do not normally have a right to vote at company meetings.
  

  Loan Capital

  Long term finance can be raised in the form of loans as another source of finance. Interest is normally paid each year to the organisation that made the loan and at some point the loan itself must be repaid. Both of these conditions must be satisfied even if no profits are being made Sources of Finance

  Debentures

  A debenture is a document that describes a source of finance and the conditions attached to it. This usually involves an annual payment of interest to the holder of the debenture and repayment of the source of finance (or loan) at a date in the future. The owner of the debenture can sell it to another person at any time. Debentures are a long term liability.Sources of Finance

  Mortgages/ Secured Loan

  This is a transaction where assets are offered as security for a source of finance – typically called a mortgage or secured loan. If the borrower cannot make the required payments on the loan the lender could sell the assets to get their money back. Sources of Finance

  Bank Overdraft

  This is a source of finance that allows an organisation, or individual, to take more out of a bank account than is currently in the account. Interest is charged on a daily basis for the amount that is overdrawn. The interest rate may be high in comparison to other forms of finance Sources of Finance

  Credit Card

  This is an extremely expensive source of finance from a bank, Building Society or, nowadays, large retail organisations. To be avoided if at all possible or if used, to be managed very carefully. Sources of Finance

  Internally generated funds

  All the profits that are generated each year belong to the company’s shareholders can be very useful sources of finance. Only a proportion of the profit is distributed to the shareholders in most organisations. The remainder is retained in the business. Sources of Finance

  The sum of all previous years retained profits are known as reserves. The company does not have to repay these sums of money in the future.

  Other sources of finance

  Other sources of finance can also be generated internally in a business by changes in the way that resources are managed, for example:

  • Asset Funding Policy -a change in the way a business funds its assets could release sources of finance to be used in other areas e.g. lease or hire versus outright purchase.Sources of Finance
  • Sale and Lease-Back –if a company owns land or buildings which it occupies it could use this asset to raise finance. The asset would be sold to an organisation such as an insurance company. The sale document would allow the company to lease its own property back, at an agreed amount for a period of time. The money raised from the sale could be used within the business.Sources of Finance
  • Stock Levels -if stock levels of material or goods can be reduced then this can also be a valuable source of finance for use in the business.
  • Debtor and Creditor Control -delaying payment to suppliers retains cash in the business. Reducing the credit taken by customers increases the cash flowing into the business. Careful management of both debtors and creditors can release a source of finance to use in the business.
  • Factoring –If a company’s turnover is rising rapidly and/or it grants long credit to its customers it may have difficulty in financing its debtors. A factoring organisation offer their clients a debt financing service and will be prepared to advance cash to the client against the security of the client’s debtors. For example a factor may be willing to advance up to 80% of the invoice value in return for a commission charge, and interest will be charged on the amount of funds advanced.Sources of Finance