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The most important source of long-term finance for a limited company is usually that raised from shareholders, the owners of the business. Share Capital is raised through the sale of shares to individuals or institutions, who in return for their investment receive interest in the form of a dividend, which constitutes a share of the profits made by the business. In addition the shareholder may be able to make a Capital Gain on their investment by selling their share holding at a latter date. Dependent on the type of Share, the shareholder will also have certain voting rights. There are two main types of Share, the Ordinary Share and the Preference Share and these are each considered below:
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The majority of Share Capital will be raised through the issue of Ordinary Shares. Ordinary Shareholders, are the legal owners of the business, and are entitled to full shareholder voting rights at meetings - the Annual General Meeting (A.G.M.), or at Extra-Ordinary General Meetings (E.G.M.s). They are entitled to receive returns out of the companies profit, in the form of Dividends. Unfortunately dividends are not guaranteed on ordinary shares, and are dependent on the performance. Thus if the business has had a particularly poor year, the Directors of the company may decide that a dividend is not paid to the ordinary shareholder. There is considerable risk involved in being an Ordinary Shareholder / Owner of a business, particularly if the business is declared insolvent, however in good years the dividend, and potential Capital Gain may be high enough to justify this risk. |
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Are designed for investors who do not wish to take the degree of risk associated with being an ordinary shareholder. They offer a guaranteed dividend, although this fixed level of return can potentially be less than that received by an Ordinary Shareholder. Preference Shareholders are not strictly owners of the business and therefore have limited voting rights, in comparison to the Ordinary Shareholder. |
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A major source of long-term finance for a business is retained income, profit, which is not distributed to the shareholders in the form dividends at year end, but instead retained within the business. The amount of profit retained by the business over the years can be seen in the Profit & Loss Reserve on the companies Balance Sheet. One of the advantages of this form of internal finance is that it costs far less when compared to external sources of finance which will normally require additional interest. Further, the business is not answerable to any additional external financial institution for the use to which they put such funds.
Finance which is generated through external borrowing over the long-term is often referred to as Loan Capital. This can take many forms which include :
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| Debentures |
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Debentures are normally associated with limited companies. A business will offer potential investors the opportunity to invest in the company through the purchase of debentures which are divided into units, similar in principle to shares. The investors, called debenture holders, are deemed as creditors to the business and not owners, and will receive interest payments from the company until, at an agreed date, the loan is redeemed, paid back in full. Most debentures are Secured, in that the holder of the debenture will have claim over either specified assets of the business should the business default on interest payments, or claim over general assets of the business up to the value of the debenture loan. |
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| Mortgages |
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A Business may take out mortgages to purchase assets such as land and buildings. The land and buildings concerned are the security for the loan, should the business default on repayments, fail to back repayments. If the value of the land / buildings concerned increases during the period of the mortgage, or the mortgage incorporates a period of fixed interest - and interest rates rise, this reduces the real cost of borrowing for the business. |
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| Venture Capital |
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Venture Capitalists offer capital, normally £100,000 plus, to business ventures which other financial institutions / investors might consider too risky. Usually the Venture Capital firm will require shares in the business and influence in the running of the company at a strategic level, to protect their investments, normally in the form of a non-executive position on the board. Their aim is to see the value of their shares in the business grow, so that at some latter date they may sell their interests in the business at a profit. Often this may involve the business being floated on the stock-exchange. A great source of detailed information on Venture Capital in the UK can be found on-line at the British Venture Capital Association site. In addition you can visit 3i one of Europe's Leading Venture Capital Companies. |
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| Business Angels |
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'Business Angels' are private investors, who invest directly in private companies in return for an equity stake and perhaps a seat on the company's board. Investments are normally in the region of £10,000 to £100,000. The main motivation for the Business Angel is the potential capital gain from their investment. However many Business Angels also invest to help businesses they believe in, and play a part in the entrepreneurial process. It is often the case that the Business Angel is, or was, involved in running their own business venture, and the company can gain from their experience. Further information on Business Angels can be sought at the British Venture Capital Association site. |
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Another great example of Venture Captial / Business Angles at work can be found in the popular Dragons Den BBC programme, click here to visit the programmes website.
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