Other sources of funds

Medium-term funds

It is usually accepted that medium-term finance is for a period of one to five years.

1. Hire purchase Under a hire purchase a)___ goods are hired to the user who has the option to purchase them at the end of the hiring period. The ownership of the good remains with the b)___. The funds for hire purchase are provided by specialized financial companies known as finance houses. The usual practice is for the finance company to give the full purchase price to the seller of the good and negotiate repayment c)___ with the buyer. Both the seller and the buyer d)___ the seller because the availability of hire purchase can e)___ buyers; the buyers because the use of the good is immediately available, and not dependent on the accumulation of the necessary capital.

2 Leasing and hiring At first sight leasing and hiring appear to be different terms used to describe the f)___ situation, namely that a business does not own an item of capital equipment but pays to use it for g)___ period of time. This definition describes hiring. A business will lease equipment that it needs for a longer period of time. Under a leasing agreement a finance company will purchase a specific item of equipment for use by a business. The equipment h)___ the property of the finance company but the business has the sole use of it for which it pays an agreed rent. The agreement may be for a given period of time or for the life of the equipment. The terms of each agreement will vary. Specialized equipment might have a maintenance clause. The company leasing it will i)___ maintenance to avoid problems arising from inexpert handling. Where the technology to maintain a piece of equipment is generally available maintenance is more likely to be the responsibility of the j)___, that is the business leasing the equipment.

Advantages of leasing

• Leasing can help preserve the k)___of a business.

• A time lease can give the business the opportunity of keeping abreast with a changing technology.

• Like fixed interest loans the leasing payments are constant and are charged against the income of the business before tax is calculated. This l)___ the cost of leasing to the business and gives it some protection against fluctuations in interest rates.

• A servicing agreement may be both an advantage and a disadvantage to the business. A lease might state that servicing must be done by m)___ firms or their own engineers. The cost of such servicing can be high in that the leasing agreement creates a monopoly. To be offset against this are clauses that guarantee substitute equipment during the repair period.

• Like all fixed financial obligations, the burden becomes n)___ in real terms during a time of inflation.

Disadvantages of leasing

• It is a fixed obligation on the business which may be too great in a recession.

• Should the equipment become o)___ before the expiry of the lease it may affect the profitability and competitiveness of the business.

• The business has to forgo the advantages of owning the equipment.

In psychological terms, ownership may convey prestige and an impression of stability. In financial terms, assets bought during a profitable time of trading can be a security for loans in less profitable times.

Short-term funds

Funds are generally considered to be short term if they are for less than one year. A bank overdraft is an arrangement between the business and its bank to draw more money from the current p)___ to an agreed limit, than is deposited in it. An overdraft has the advantage of being q)___ and, as the amount of money on which interest is paid is reduced with each deposit, can prove a cheap form of finance. Against this is the ease with which the bank can withhold overdraft facilities. This could r)___ serious cash flow problems for a business which had come to rely on its overdraft.

The owner of a small shop selling consumer durables holds a limited amount of stock, chiefly for display purposes, and buys only when there is a firm order from a customer. The customer does not pay until the purchase is delivered. The capital available to the owner is adequate to cover these transactions for most of the year. Christmas brings a sharp increase in orders. The owner of the shop finances the Christmas trade with an overdraft. The maximum length of time for which it is needed is two months and during that period there is a steady inflow of payments, thus reducing the overdraft.

Trade credit can also be viewed as a short-term s)___. The purchaser does not have to pay for the goods immediately and during that time has the use of the money. No formal interest is paid but the sacrifice of cash discount has the same effect.

2. Comprehension check.

Say if the following statements are true or false. Correct the false ones.

1. On expiry of the hiring period goods being hired by purchasers can become their property.

2. To name the full purchase value of a good and discuss pay back terms is the duty of finance house.

3. Maintenance clause is typical both of leasing and hiring agreements.

4. A bank overdraft can be a cheap form of finance for a business.

5. Servicing a loan is a fixed charge on the business.

6. The major advantage of a usual trade credit is an immediate payment for the goods.

3. Read the text again more carefully. Make a list of key words from each paragraph.

Discussion

Work in pairs.

Using the key vocabulary that you have made in the previous task, discuss what you have learnt about leasing and hire purchase.

Writing

A small business intends to increase stock levels in anticipation of a seasonal increase in demand. The owner wants to know the relative advantages and disadvantages of financing the purchases by cash, trade credit or a bank overdraft. Write a paragraph advising the owner on the best course of action.

Reading

1. Read text 19 using your dictionary to help with new words.

Text 19