External Finance
External finance is sourced from outside of the business
The external sources of finance available to a business
Sources of external finance include family and friends,
banks, peer-to-peer funding, business angels, crowdfunding,
and other businesses
1. Family and friends
Small business owners approach close acquaintances to
invest in or lend money to a business
The Advantages & Disadvantages of Family and Friends as a
Source of Finance
:
Advantages Disadvantages
Usually a very cheap source of funds
Relationships
may be
May have ‘no strings attached (e.g. a
damaged if the
share of the business) and can be
finance is not
provided to the business on very
repaid
flexible terms
2. Banks
Banks provide several different kinds of loans to businesses,
e.g. a small business loan
The Advantages & Disadvantages of Bank Loans
Advantages Disadvantages
A business plan is
usually required to
access bank finance
Banks can be cautious
May offer both short term
about lending to new,
finance (e.g. overdrafts) and
untested businesses
long term finance (e.g. loans or
mortgages) if a business Interest (and often an
qualifies arrangement fee) is
payable
Banks are often keen to provide
free advice and guidance to Businesses must be
businesses that use their customers of the bank
services (i.e. hold a banking
account) to access
Small sums may be borrowed
some loans
from unsecured
For larger amounts,
businesses may need to
provide security to be
granted a loan
:
3. Peer-to-peer funding
Individuals with available savings pool it with others in a
peer investment scheme such as Funding Circle
The Advantages & Disadvantages of Peer-to-Peer Funding
Advantages Disadvantages
Loans can usually Borrowers are charged a small fee to
be made available access finance in this way and have to
to businesses pay interest in the same way as a bank
very quickly loan
Usually has ‘no The individuals who made the
strings attached money available in the first place
(e.g. a share of receive some of this interest as
the business) compensation
4. Business angels
Some individuals specialise in making investments in start-
up or expanding businesses e.g. Dragons Den investors
The Advantages & Disadvantages of Business Angels
Advantages Disadvantages
Business angels
tend to be more Finding the ‘right’ business angel
willing to take a risk (e.g. with appropriate
than banks experience, expertise or interest)
can be challenging
Angels often offer
advice and guidance Networking is vital when
to the businesses in entrepreneurs seek this kind
which they invest of investment
Investment is usually As business angels own a stake in
for a determined the business, they may be involved
:
period of time so in decision-making and will
owners regain shares receive a share of business profits
in the future
5. Crowdfunding
Crowdfunding is finance provided by a large number of small
investors on online platforms such as Kickstarter
The Advantages & Disadvantages of Crowdfunding
Advantages Disadvantages
Creates an organic
customer base and Businesses need to provide a
the platform persuasive business plan to
provides a form of convince individuals to invest in their
free marketing product as they will be competing
with many other projects online
A good credit
rating is not The potential for negative publicity if
required so new the project is not successful in
businesses that lack attracting enough crowdfunding
a trading record can capital
attract funding
Investors are often attracted by incentives
Examples of incentives include samples or early
access to a product
E.g. In November 2022, well-known Twitter
commentator Russ Jones published his long-
awaited book funded via Unbound, a crowdfunding
publisher
6. Other businesses
:
It may be possible for a business to access finance via a joint
venture with another business, such as a key customer or
supplier
Some large businesses buy shares in other companies as
an investment or with the intention of a takeover
E.g in 2018, Mike Ashley, owner of Sports Direct,
acquired a stake of just under 30% of Debenhams, a
troubled British high street retailer, to eventually take
over the company
The Advantages & Disadvantages of Finance from Other
Businesses
Advantages Disadvantages
Profits need to be
May provide access to business
shared between
processes and market knowledge
businesses
alongside finance
Decisions will usually
Can access large amounts of
need to be agreed by
finance
all businesses
Examiner Tips and Tricks
Recently, some sources of finance have been trickier to
access. When assessing external sources of finance in your
answers, acknowledge that businesses may find accessing these
sources more challenging and expensive than in previous years.
Many small to medium-sized businesses are often
undercapitalised in their early stages. This has restricted their
ability to grow.
Peer-to-peer lending, Crowdfunding and sources such as
:
Business Angels have been able to fill some of the gaps left by
changes in the banking industry.
Recognising that a business may not be able to achieve its
objectives due to an inability to borrow can be a useful evaluative
point.
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