Term
Internal Finance
What is internal finance?
Answer
Definition
Finance generated from within the business, such as retained profits.
Finance sources are generally categorized by where the capital originates, influencing obligations and ownership.
Understanding the core mechanisms of specific financing methods.
Contrasting the primary features of debt (Loans, Overdrafts) and equity (Share Capital) financing.
Short-Term Warning: Overdrafts offer flexible terms and immediate availability, but they often have high interest rates and should not be relied on long-term.
Summary comparison of characteristics for major internal and external finance options.
| Source | Advantages | Disadvantages | Term |
|---|---|---|---|
| Retained profits | No interest or repayments, flexible use | May limit dividends, limited if profits are low | Long-term |
| Debt factoring | Improves cash flow quickly | Reduces profit due to fees, may affect customer relationships | Short-term |
| Overdraft | Flexible, easy to access | High interest, risk of withdrawal by bank | Short-term |
| Loans | Fixed repayment schedule, larger amounts available | Interest costs, increases debt risk, may need security | Medium to long-term |
| Share capital | No repayment, reduces risk of bankruptcy | Dilution of ownership, shareholder influence | Long-term |
| Venture capital | Access to expertise, large sums possible | Loss of control, pressure for growth and exit | Long-term |
| Crowd funding | Good for start-ups, marketing benefits | Uncertain funds, possible small repayments or equity sharing | Variable |
What is internal finance?
Finance generated from within the business, such as retained profits.
Name two examples of internal finance.
Retained profits and debt factoring.
What is debt factoring?
Selling accounts receivable to a factoring company to get immediate cash.
What distinguishes external finance from internal finance?
External finance comes from outside the business, such as loans or share capital.
What is an overdraft?
A short-term borrowing facility allowing a business to withdraw more than its bank balance up to a limit.
How does share capital finance affect ownership?
It dilutes ownership as investors become part-owners.
What is a key advantage of venture capital?
Access to large sums of money and business expertise.
What is a disadvantage of loans?
They increase financial risk due to interest repayments.
Which source of finance is usually most flexible and cheapest?
Retained profits.
What factors influence the choice of finance source?
Business stage, urgency, cost, control preferences, and ethical considerations.