Question 2: A small business owner is considering different options for financing a new production line. Using a table, compare and contrast the advantages and disadvantages of using a bank loan and issuing shares.

Answer:

As shown in the table, a bank loan offers a fixed cost of finance, but increases financial risk. A share issue provides no interest payments and reduces financial risk, but dilutes ownership and control. The best choice depends on the business's specific needs and risk tolerance.

Answer:

Trade Credit: Trade credit is credit extended by a supplier to a customer, allowing the customer to pay for goods or services at a later date (e.g., 30 days, 60 days). It is essentially a short-term loan from the supplier.

• Advantages:
• Flexible – no interest charges if paid within the credit period.
• Easy to obtain, especially for established businesses with a good credit history.
• Can improve cash flow.

• Disadvantages:
• Can be expensive if not paid within the credit period (interest charges).
• May damage the business's credit rating if payments are late.
• Can strain relationships with suppliers if payments are consistently delayed.

Bank Overdraft: A bank overdraft is a facility provided by a bank that allows a business to spend more money than it has in its account, up to a pre-agreed limit. It's a short-term loan.

• Advantages:
• Provides immediate access to funds when needed.
• Flexible – only pay interest on the amount actually borrowed.
• Can help manage short-term cash flow problems.

• Disadvantages:
• Interest rates can be high.
• Can be seen as a sign of financial difficulty.
• The bank can demand immediate repayment of the overdraft.

Comparison: Trade credit is essentially free financing if managed well, but it relies on the supplier's willingness to extend credit. A bank overdraft provides immediate access to funds but comes with interest charges. The choice depends on the business's cash flow needs, credit rating, and relationship with suppliers and the bank.

Answer:

Issuing Shares:

• Advantages:
• Access to a large amount of capital.
• No repayment obligation (unlike loans).
• Shareholders may bring expertise and connections.

• Disadvantages:
• Dilution of ownership – existing owners have less control.
• Shareholders expect a return on their investment (dividends).
• Can be time-consuming and expensive to issue shares.

Venture Capital:

• Advantages:
• Significant capital injection.
• VC firms often provide expertise and mentoring.
• Can be a good option for high-growth potential businesses.

• Disadvantages:
• VC firms expect a high return on investment.
• VC firms may want a say in the business's direction.
• Can be difficult to secure VC funding.

Bank Loan:

• Advantages:
• Retained ownership and control of the business.
• Interest payments are tax-deductible.
• Relatively straightforward to apply for (depending on creditworthiness).

• Disadvantages:
• Repayment obligation with interest.
• Requires a good credit history.
• May require collateral (assets to secure the loan).

Evaluation: The best option for Sarah depends on her circumstances. If she is willing to share ownership and has high growth potential, venture capital might be suitable. If she wants to retain control and has a strong credit history, a bank loan is a good option. Issuing shares is suitable if she is comfortable with diluting ownership and has a strong business plan to attract investors.