Financing for ProfitUnit -Four

Short Term or Working CapitalShort term or working capital is money spent

on business operations covering a period of a year or less . Working capital is used to purchase inventory and to pay daily operating expenses such as wages and salaries ,insurance premium ,rent and utilities.

“Capital raised for a short-term period to cover exceptional demand for funds over a short-period. A bank loan ,rather than a debenture , is an example of short term capital”

Example: Office Supplies , Various Expenses

Long term or Fixed CapitalThis is money used to buy fixed assets ,

which are long lived and (with the exception of land ) manufactured items that will be used to produce goods and services for several years.

Fixed capital is the amount of capital tied up in the capital assets of an organization.

Example – Purchase of land , machinery , transport , construction of buildings.

Short Term Capital Long Term Capital

Short Term Financial InstrumentsShort Term Instrument -a negotiable

instrument that matures in three months or less.

Promissory note : The first and most common. A promissory note is a short term financial instrument ,given by a debtor(called the promisor ) to a creditor (called the promisee ) as a legal and binding promise to pay a certain sum of money at a future date, usually with interest at a fixed rate.

Draft : A draft is an instrument completed by a creditor ordering a debtor to pay a specific sum of money.

Commercial paper : An unsecured promissory note of a large corporation used to borrow large amounts for short periods of time.

Check: A kind of draft used to make payments in financial transactions.

Types of check:

Cashiers check : is written by a commercial bank against its own money . Generally considered the safest kind of check, it may be purchased by giving the bank the amount to be paid plus a modest fee.

Certified check: is a depositor's own check that the bank certifies to be good.

Institutions and methods of short term financing

Trade credit : Materials , supplies, and merchandise inventories frequently purchased on trade credit .The debtor may pay for the items bought within a given time period, usually 30,60 or 90 days.

Key term : Cash discount- 2/10 ,n/30Borrowing from commercial bank:

companies that obtain working capital from commercial banks usually establish a line of credit, which is a maximum amount that a commercial bank agrees to lend to a business borrower if it has the funds available

Commercial finance company: A firm that makes cash loans to business borrowers securing the loans by such assets as trade credit accounts , inventory, or equipment.

Factoring company : A firm that buys a business’s open-book accounts and customarily absorbs losses if the debtors do not pay. Usually factors performs all billing and other bookkeeping activities on the accounts.

Sales finance company : A sales finance company, is a firm that provides short term capital to retailers ( and sometimes to wholesalers) by purchasing the installment sales contracts (promissory notes) that they have accepted from customers.

Consumer finance company: A company that lends money to final consumers on their promissory notes. These loan may be secured by the product the consumers intend to buy or by some other valuable items that they own.

Sources of long term capitalRetained earnings: are profits

reinvested in a company for improvements and expansion . depending , on its expected growth rate and long term capital requirements, a firm will retain some ( some times all) of its yearly profits for expansion.

Securities : A company can raise large sum of money selling shares of stock or debenture.

Securities can be 1.Equity securities 2. Debt securities

1.Equity securities : The word equity in this sense means ownership. Stock holders are the legal owners of a company. The purchasers gain the ownership of the company.

2. Debt securities: Debt securities are interest bearing promissory notes. Bond is the most common form of securities

Common stock Common stock , which all corporations

organized for profit must issue, is a security held by the corporation’s owners.

key terms :1.Common stock certificate: is a legal evidence

of corporate owner ship. It gives name, the number of shares owned and various data on the corporation it self.

2. Round lot : 100 shares of a stock or multiples thereof

3. Odd lot : Less than 100 shares of a stock4. Dividend : A portion of a company profits paid

to stock holders as a return for the risk that they take as owners.

5. Stock dividend :is a distribution of shares of the company’s stock or the stock that it owns in other firms

6.Pre-emptive right : is a shareholders right to purchase shares of a company’s new stock issues in proportion with the existing shares that he or she owns.

7.Warrant : is a document that conveys the preemptive right to existing stock holders.

8. Stock splits : A subdivision of shares already issued, done to decrease a stock’s high market price to an amount that more investors can afford to pay.

Preferred stock and typesPreferred stock: is a class of stock that has a prior or

senior claim on assets to that of common stock1.Participating preferred: This stock can pay an

additional dividend beyond its standard amount as specified by the corporation

2. callable preferred: The issuing company may require the holder to surrender these shares at a call price

3. Convertible preferred: This stock can be converted to common stock.

4.Cumulative preferred: Preferred stock on which the company must pay all dividends that are unpaid.

5. Non cumulative preferred : Preferred stock on which the unpaid dividends do not carry forward to the next year.

6. Adjustable preferred: The dividend rates on this variation change quarterly according to interest rates paid on U.S. treasury securities

Financing with BondKey terms:1.Debt Capital : Capital that a company obtains by

selling bonds2. Bond Indenture : is a blanket agreement between the

corporations and its bondholders that states the bond issue’s interest rate, maturity date, and other terms and conditions.

Types of Bond-1. Mortgage Bond : A bond secured by a claim against

a specific company asset, such as buildings or land.2. Equipment Trust Bond : A bond issued to finance

new equipment, the title to which is held by a trustee for the security of the bond holders.

3. Income Bond : A bond that pays interest only when the company’s earnings permit.

4.Debenture Bond : An unsecured bond, backed only by the firms general reputation.

5.Callable Bond : A bond that the issuing firm may call in and pay off.

6.Convertible Bond : may be exchanged for the issuing company’s common stock.

7.Serial Bond : One form of a bond issue that matures in lots or increments, either annually or semi annually, over several years.

8.Zero Coupon Bond : A non interest bearing bond sold at a deep discount and redeemed for face value at maturity.

Small Business and FranchisingLegal requirements for small business: 531

1.Zoning ordinances2. Local government approval3. Registration of name4.Internal revenue service formalities

5. Formalities of state revenue department

Considering factors in starting small Business

1. Experience2. Capital3. Location4. Lease5. Customer demographics6. Inventory management7. Competition8. Condition of business9. financial record

Sources of Financing1. Personal saving2. Credit from suppliers3. Manufacturer financing of equipment4. Commercial bank5. The small business administration6. Selling stock

7. Venture capital firms : is a company that buys stock in new firms that make products or services with strong profit potential.

Franchising Franchising ? A franchise is a license sold by one firm ( the

franchisor) to another (the franchisee) allowing it to produce and sell a product or service under specific terms and conditions-544

What does Franchising offer you ?1.National reputation2. National advertising and sales promotion

program3.Proved work layout refined for maximum

efficiency in minimum space4.Advice about site selection5.Assistance in negotiating leases and

purchase agreements for equipment and other items.

6.Blueprints and bill of materials for constructing the building

7.Training in how to manage the business for maximum profitability

8. An accounting system developed to meet the needs of this business and the reporting requirements of the parent company

Example :Coca-Cola- Global BeverageRC-Cola- Partex Beverage

What do you have to sacrifice ?1.Investment of a minimum amount of capital2. payment of a percentage of gross profits ( and

possibly a fixed fee) to the parent company at specified times

3.Payment of several additional items as required

4. Approval from parent company for choice of location; installation of any furniture and fixtures ; deviation from prescribed menu or inventory; purchase of disposables or inventory from anyone other than the parent company; pricing changes; involvement in any other business of a similar nature ; and even changes in prescribed hours of operation

5. Full involvement in management and daily operation

6.Personnel required to present a specified appearance

7.No members of owners family working in the franchise

8.Detailed accounting reports furnished to the parent company

9. Management techniques and methods of operation kept confidential

10.Minimum amount of insurance purchased as dictated by the parent company

11.shelf-life standards dictated by the parent company for perishable inventory

12. Minimum amount of money spent each year for advertising and sales promotion

13.Periodic training as required by the parent company at a specified location.