In the previous post we discussed the sources of business finance, in case you missed that click here to read more.
Here, we shall be talking about the merits and demerits of the sources of business finance we mentioned earlier. Before you set out to secure funding, you need to understand the advantages and disadvantages associated with it.
Read more on the source of business finance
First of all, taking a look at the internal sources of business finance
Personal Savings
The entrepreneur’s personal savings and other assets make a great source of capital because you already have them at your disposal, acquisition costs are minimal, and also, there is no interest involved. It is different from a bank loan or shares of external investors. The drawback is that if you engage your personal savings into a business venture, there is also a possibility that you lose is which only you will bear the loss. Some assets, such as retirement accounts, are safe from creditors and bankruptcy courts; placing such assets at risk may not be good for you, especially if you’re approaching retirement age and are running out of time to rebuild depleted accounts.
Retained capital
One advantage to retained profits or earnings is that there is capital available for growth. Improvements and expansion are expensive but necessary to remain competitive. Firms need to search for market segments within their industry that offer opportunities to capture market share. Identifying these areas takes time and resources as they need to identify which products and services will deliver exceptional value and fulfill the needs.
On the other hand, the prospects and constraints of the external sources of business finance are discussed below
Investors (outsiders)
Seeking the assistance a of a group of investors can help you raise startup or expansion capital for your business without placing all of the risk of loss on you alone (that is to say, at the time of liquidation, the liability is share among all investors). But looking on the other hand, the disadvantage is that you do give up a certain element of control to other people. Moreover, sharing the risk with others stipulates sharing the profits with others too.
Bank Loans
Banking institutions is another good source of funding. For small businesses, you are be able to secure a personal loan or line of credit, including bank overdraft; for larger operations, you may have to leverage assets, large equipment or inventory, using them as collateral to secure the loan. The advantage to borrowing the money is that it enables you to keep your cash on hand to use as operating capital or for personal survival in running a short-term financial activity of the business. The disadvantage is that you’ll have to pay interest on the loan which might be unnecessarily high for your operation. Furthermore, your payments will be due on time regardless of whether business is bad or good.
Debenture
Debentures is a type of finance that provides long-term funds to a company and including the rate of interest payable on debentures is, usually lower than the rate of dividend paid on shares. But looking at its shortfalls, The fixed interest charges and repayment of principal amount on maturity are legal obligations of the company. These have to be paid even when there are no profits. A company cannot raise further loans against the security of assets already mortgaged to debenture-holders.