Revision NotesExam QuestionsPast Papers
GCSEBusinessEdexcelRevision Notes2. Building a Business2.1 Growing the BusinessSources of Finance for Growing Businesses

Sources of Finance for Growing Businesses (Edexcel GCSE Business)

Revision Note

Lisa Eades

Written by: Lisa Eades

Reviewed by: Steve Vorster

An Introduction to Sources of Finance

  • All businesses need finance in order to get started, allow them to grow and fund their continuing activity 

  • Finance may be needed for capital expenditure which is spending on fixed assets such as equipment, buildings, IT equipment and vehicles

  • Similarly, finance is required for revenue expenditure which is spending on raw materials or day to day expenses such as wages or utilities 

  • Businesses have different sources of finance available to them

    • When the finance comes from inside the business it is called an internal source of finance

    • When the finance comes from outside the business it is called an external source of finance

2-1-4-sources-of-finance-for-growing-businesses

The different types of internal and external sources of finance available to help businesses grow

Internal Sources of Finance

  • Internal finance comes from the owner’s capital, retained profit, or the sale of assets

Owner’s capital: personal savings

  • Personal savings are a key source of funds when a business starts up

    • Owners may introduce their savings or another lump sum e.g. inheritance money

  • Owners may invest more as the business grows or if there is a specific need e.g. a short-term cash flow problem

Retained profit

  • The profit that has been generated in previous years and not distributed to owners is reinvested back into the business

  • This is a cheap source of finance, as it does not involve borrowing and associated interest payments

  • The opportunity cost of investing the money back into the business is that shareholders do not receive extra profit for their investment

Sale of assets

  • Selling business assets which are  no longer required (e.g. machinery, land, buildings) generates a source of finance

  • A sale and leaseback arrangement may be made if a business wants to continue to use an asset but needs cash

    • The business sells an asset (most likely a building) for which it receives cash

    • The business then rents the premises from the new owners

    • E.g. In early 2023 Sainsbury’s announced that it is in talks to sell the prime retail property for £500m which will then be leased back to them by the new owners, LXi Reit

  • A business can also generate additional finance internally by managing its cash flow more effectively

    • They can negotiate extended payment terms with suppliers

    • They can incentivise customers to pay more promptly for credit purchases

The Pros & Cons of Using Internal Finance

Advantages

Disadvantages

  • Internal finance is often free (e.g. it does not involve the payment of  interest or charges)

  • It does not involve third parties who may want to influence business decisions

  • Internal finance can usually be organised very quickly and without significant paperwork

  • Businesses that may fail credit checks (necessary for a bank loan) can access internal finance sources more easily

  • There is a significant opportunity cost involved in the use of internal finance, e.g. once retained profit has been used, it is 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, e.g. loan repayments may be treated as a business cost and offset against tax bills

Examiner Tips and Tricks

Businesses that have been recently established or own few assets, as well as more established businesses that have made modest profits in recent years, will struggle to raise internal finance.

Weighing up the circumstances of the business is very important when justifying the best source of internal finance.

Carefully consider the financial information that is presented within the case study material and look for clues in the information provided, such as the personal circumstances of the business owner or the nature of the business itself.

Then make justified assumptions about the likelihood of a particular source of finance being suitable for the intended purpose.

External Sources of Finance

  • External finance is sourced from outside of the business

  • Two of the most common forms of finance include bank loans and share capital

    • Share capital for private limited companies (Ltd) is usually sourced by selling shares to family and friends, or private venture capitalists

    • Share capital for public limited companies (plc) is usually sourced by listing share on an initial public offering and selling them to investors through a stock exchange

An Explanation of the External Sources of Finance Available to Businesses

Source

Explanation

Pros

Cons

 Bank loans

  • A sum of money is borrowed from the bank and repaid (with interest) over a specific period of time

  • Bank loans are usually unsecured and are typically repaid over two to ten years

  • Interest rates are fixed for the term of the loan so repayments are made in equal instalments - which helps with business planning

  • Interest is payable and the business assets are at risk if the business does not make repayments as planned

Share capital

  • Share capital is finance raised from the sale of shares in a limited company

  • Large amounts of money can be quickly raised from wealthy investors (especially when becoming a public limited company)

  • Shareholders who buy a large amount of shares may also bring and share expertise which can be beneficial to the business

  • Shareholders are the owners of shares and they are entitled to a share of the company’s profit when dividends are declared

  • Shareholders usually have a vote at a company’s Annual General Meeting (AGM) where they can have a say in the composition of the Board of Directors

Examiner Tips and Tricks

Recently, some sources of finance, like bank loans, have been harder to access as interest rates have risen. When considering the best source of finance in your answers, acknowledge that businesses may find accessing these sources more challenging and expensive than in previous years. 

Last updated:

You've read 0 of your 5 free revision notes this week

Sign up now. It’s free!

Join the 100,000+ Students that ❤️ Save My Exams

the (exam) results speak for themselves:

    Test yourself

    Did this page help you?

    Previous:Public Limited Companies (plc)Next:Changes in Business Aims & Objectives
    Author
    Reviewer
    Lisa Eades

    Author: Lisa Eades

    Expertise: Business Content Creator

    Lisa has taught A Level, GCSE, BTEC and IBDP Business for over 20 years and is a senior Examiner for Edexcel. Lisa has been a successful Head of Department in Kent and has offered private Business tuition to students across the UK. Lisa loves to create imaginative and accessible resources which engage learners and build their passion for the subject.

    Steve Vorster

    Author: Steve Vorster

    Expertise: Economics & Business Subject Lead

    Steve has taught A Level, GCSE, IGCSE Business and Economics - as well as IBDP Economics and Business Management. He is an IBDP Examiner and IGCSE textbook author. His students regularly achieve 90-100% in their final exams. Steve has been the Assistant Head of Sixth Form for a school in Devon, and Head of Economics at the world's largest International school in Singapore. He loves to create resources which speed up student learning and are easily accessible by all.