Using the textbook, Strayer Library, and the Bachelor of Business Administration Library Guide, examine and explain two sources of outside equity financing and two sources of debt financi
Please respond to the following:
- Using the textbook, Strayer Library, and the Bachelor of Business Administration Library Guide, examine and explain two sources of outside equity financing and two sources of debt financing, that are available to entrepreneurs. Next, describe the source or sources you would use if you were creating a new company. Explain your rationale.
Chapter Thirteen Cash: Lifeblood of the Business
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Money as the Key Idea
Money is an accepted medium of exchange.
Three purposes for money.
To facilitate exchanges of unlike assets, such as your labor for a grocer’s food.
To measure the value of things, both tangible and intangible.
To keep track of wealth.
What makes money “money” is the belief users have about the information contained in the money.
Profits are not money.
Profits are information useful in predicting when and how much money you may collect.
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Cash and Cash Equivalents
Cash is money that is immediately available to be spent.
Businesses use a concept called cash equivalents which are assets that may be turned into cash within a few days.
Currency is a familiar form of cash: bills and coins.
Demand deposits make up most of the non-currency cash.
Marketable securities are stocks and bonds representing either ownership or debt of public firms and government issued debt.
Commercial paper and short-term debt are two forms of short-term financing by issuing a note for cash to another company – issued to be paid to the bearer of the note and fully transferable.
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The Importance of Cash Management
The process of controlling how much and when money will come into and go out of the business is referred to as cash flow management.
Cash flow management is:
Having enough cash available to meet business needs.
Ability to quickly obtain cash from a variety of sources.
Understanding how (and when) cash is used by your business.
Monitoring accounts receivable for late payments and providing motivation for prompt payments.
Using prompt payment discounts when cheaper than borrowing.
Cash flow management is not:
Keeping large sums of cash on hand at all times.
Obtaining all cash from business operations.
Assuming that all sales and expenses happen instantly.
Trusting customers to pay when the bill comes due.
Providing lengthy credit terms without charging interest.
Allowing large sums to “sit” in non-interest-paying accounts.
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Money In/Money Out – Just How Important Is It?
A firm must manage the timing of the receipt of cash to the timing of the need to expend cash.
This is called the cash-to-cash cycle or the operating cycle.
You create a payable when you buy on credit and customer’s promises to pay are receivables.
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Figure 13.3: Cash-to-Cash Cycle – Many Vendors, Few Customers
A construction firm has irregular, large cash receipts while expenses are smaller consistent amounts.
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Figure 13.4: Cash-to-Cash Cycle – Few Vendors, Many Customers
A restaurant has frequent small cash receipts while expenses are less frequent but in larger amounts.
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Planning Cash Needs The Sales Budget: Forecasting Sales Receipts
The key to cash planning is the cash budget, which needs a sales forecast.
For many small businesses, the sales forecast is the cash receipts forecast – each with its own pattern of sales and cash receipts.
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Planning Cash Needs The Cash Receipts Budget
Understanding and predicting the patterns of cash flows begin when you prepare a cash receipts budget.
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Table 13.2B: Cash Receipts Budget
Once the pattern of cash collections is understood, the numbers may be converted into a cash receipts budget.
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Planning Cash Needs Forecasting Cash Disbursements
A similar approach is used for the forecasting of cash disbursements into a cash disbursement budget.
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Table 13.4: Cash Budget
The Chapter 12 budgets and the cash budget combine to make the comprehensive budget.
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Planning Cash Needs The Comprehensive Budget: the Pro Forma Cash Flow Statement
The statement of cash flows is essentially the cash flow budget, but with cash flow placed into the categories of cash from operations, cash from investing, and cash from financing.
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Managing Cash Flows
Cash only comes from three sources.
By selling the products/services and collecting cash from customers, called cash flow from operations.
From investments such as stocks, bonds, land, buildings, or equipment, called cash flow from investing.
Through financing, either for ownership or in the form of a loan.
Protect cash from embezzlement, skimming, or phony disbursements.
Effective separation of duties is effective.
Run credit checks periodically.
Identify opportunities to steal and investigate budget variances.
Conduct a formal audit and adopt a formal statement of ethics.
Provide coaching but terminate employees not meeting standards.
Provide education about the economies of your business to employees.
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Steps to Take for Effective Cash Flow Management
Review your cash needs on a set schedule.
Arrange a business line of credit or revolving loan before you need it.
Obtain a business credit card.
Collect your receivables – do not become an interest-free bank.
Plan and schedule your payments.
Use online collections and payments.
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Increasing Cash Inflows and Decreasing Cash Outflows
Taking deposits and progress payments.
Offering discounts for prompt payment.
Asking for your money.
Take on paying noncore projects.
Factoring receivables.
Make wise purchase decisions and avoid waste.
Trade discounts.
Employee noncash incentives.
Use of temporary agencies.
Consignment and barter.
Control timing of paying out cash.
Negotiation of terms with suppliers.
Timing purchases.
Gaming of the payment process.
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Controlling Cash Shortages
One cause of cash shortage is a growth trap.
Due to increased sales, you need more labor, more materials, more factory space, and more warehouse space – all require money.
Strategies to handle cash shortfalls, by frequency of use.
Use personal money.
Borrow.
Adjust scheduled purchases.
Adjust scheduled payments.
Try to collect money due.
Sell investments.
Sell receivables.
Lay off employees.
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Appendix: Reconciling Bank Balances with Company Book Balances
Key to managing your daily cash flow is knowing how much cash is available at that moment – the bank’s available balance may not be true.
To get a more realistic number, you need to reconcile the differences between bank and book balances.
The company book balance is the sum of the company’s internal accounting record of all transactions that affect cash.
Your books show a credit card purchase on the day of sale, while the bank will not receive the payment for up to three working days.
The bank ledger balance is the amount that recognizes all transactions that affect the balance – still not a true measure.
The key measure is called the bank available balance, which is the actual cash value of the account and can vary from ledger balance.
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Appendix: Company and Bank Cash Balances
Deposits of cash, electronic transfers, and cash withdrawals result in immediate changes in the available balance.
Checks, drafts, and automated clearinghouse payments result in receipts or disbursements of money only after some delay.
Some banks allow customers to overdraft by paying a check when the available balance is not sufficient to cover the check amount.
Two reasons to reconcile the bank balance and the book balance.
The bank knows information you cannot know – service charges, direct payments, interest, nonsufficient funds (NSF).
You know information the bank cannot know – value of checks written and mailed, and deposits mailed or made after bank closing.
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Appendix: Reconciling – a Two-Step Process
Add (subtract) to the bank balance those things you know the bank does not know.
Add (subtract) to your book balance those things the bank knows that you do not know until you receive the bank statement.
The corrected bank balance and the corrected book balance will be identical.
Accepting credit card payments causes significant differences because:
Your business records the gross amount of the sale, while the credit card provider deposits the sale amount less the service fee.
You show the sale deposited on the sale date, while the provider takes up to three working days to actually deposit money to your account.
Credit card clearing services reduce the amount deposited, or will charge back the amount in the event of fraud or customer challenge.
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Appendix: Reconciling Serves Four Purposes
It gives you a way to estimate the bank’s available balance for the purpose of managing your cash flows.
Regular reconciliation identifies any mistakes made by either the bank or by your own bookkeeper – and they do happen.
It checks the accuracy of both the bank and business records, providing an accurate statement of the value of cash the firm holds.
A reconciliation lets you know about items on the bank statement that would not otherwise be included in the accounting records.
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End of main content.
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Accessibility Content: Text Alternatives for Images
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Money In/Money Out – Just How Important Is It? – Text Alternative
This cash-to-cash cycle is depicted at a flow chart in the form of a loop with cash leading to purchases on the right side, then to the product or service at the bottom, then back up to sales on the left side and back around to cash. The cycle is also color-coded.
At the top of the cycle is a large green cash symbol, the beginning and the end of the cash-to-cash cycle. Cash flowing out, in red, leads to purchases. These purchases are payables to vendors for labor, materials, and overhead, all in red.
The next step of the cycle, depicted in black, takes the labor, materials, and overhead and turns that into the product or service, depicted in a symbol at the bottom of the cycle. The outflow from this process, also depicted in black, turns the corner heading back up to sales.
The last part of the cycle is depicted in green as it represents cash coming back into the company. Sales, in the form of receivables from customers is turned back into cash, entering the cash symbol at the top of the flow chart in green.
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Planning Cash Needs – The Sales Budget: Forecasting Sales Receipts – Text Alternative
This table shows the fourth quarter sales budget for Red Jett Sweets, showing monthly breakdowns for October, November, and December; quarter four totals and finally a column for January numbers.
The budget includes all revenues resulting in gross sales, less three expenses to product net sales revenue.
Revenues list unit sales, sales price, cash sales and credit card sales. The three expenses include credit card fees, spoilage and over production, and sales tax collected.
Gross sales for each month are $8,778, equally split between cash sales and credit card sales, for a fourth quarter total of $26,334 in gross sales.
After deducting the credit card fees, spoilage and over production, and sales tax collected, net sales revenue for October and November are $8,014, while December’s is $5 higher due to less spoilage and over production that month. Fourth quarter net sales revenue is $24,048.
The January projections show a price increase to $2.94 and are projecting slightly higher unit sales at 3,000. This also increases gross sales a bit from $8,778 to $8,828 and net sales revenue from $8,014 to $8,060.
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Planning Cash Needs – The Cash Receipts Budget – Text Alternative
This spreadsheet has ten columns and nine rows.
Columns include month of sale, gross sales, cash sales which are 75% of total sales, credit sales which are 25% of total sales, prompt pay discount which is 2% of 25% of credit sales collected, a column each for cash collected on accounts receivables in October, November, and December, cash collected on accounts receivables in January and the final column is cash collected on accounts receivables in February.
In each of the months August through December, gross sales are $8,778, with cash sales comprising 75%, or $6,584 and credit sales of $2,195 and each month shows $11 in prompt pay discounts.
In October, cash collected on accounts receivable was $110 for sales made in August (5% of customers), $1,536 on sales made in September (70% of customers), and $538 on sales made in October (25% of customers) for a total of $2,184 collected on accounts receivable for the month. Add this to $6,584 of cash sales for $8,768 total cash collected from customers for the month. The balance of accounts receivable if $1,756 for the month.
This same pattern is repeated for the months of November and December and into January and February of the next year.
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Table 13.2B: Cash Receipts Budget – Text Alternative
In this cash receipts budget for the fourth quarter, each of the three months in the quarter (October, November, December) show total sales to be $8,778.
From that total is subtracted credit sales, which are 25% of gross sales, or $2,195. Doing so leaves $6,583 in cash sales.
Added to this is cash collected on accounts receivables in the amount of $2,184. This amount is figured by taking 25% of the current month’s credit sales, less the prompt pay discount, plus the amounts due from the previous two months’ credit sales. So for the October amount, it equals (.25 multiplied by 2,195 multiplied by 0.98) plus 1,646.
This amount, $2,184, is added to cash sales of $6,583 for total cash receipts of $8,767. The same is true for the other two months, November and December.
The fourth quarter totals are: total sales of $26,334, less credit sales of $6,585 for cash sales of $19,749. Adding the cash collected on accounts receivable of $6,552 provides a total of cash receipts for the fourth quarter of $26,301.
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Planning Cash Needs – Forecasting Cash Disbursements – Text Alternative
This cash disbursements budget for Red Jett’s Sweets’ fourth quarter lists all cash paid to vendors each month for October, November, and December. The table also provides monthly cash disbursements and total disbursements for the quarter.
There are eleven instances of cash paid to vendors each month.
$88 is paid to credit card providers each month for a quarterly total of $263. Sales tax paid to Texas total $615 per month, for a total of $1,845. Raw material used in production total $2,029 each month for a quarterly total of $6,87. Salaries and wages are the largest monthly expense at $4,141, totaling $12,423 for the quarter. Payroll taxes and benefits total $358 per month, for a total of $1,075 for the quarter.
Rent is $1,000 per month, and $3,000 for the quarter. Website and marketing is $100 each month and $300 for the quarter. Telephone charges are $110 per month and $330 for the quarter. Transportation is $343 each month, totaling $1,029 for the entire quarter. Insurance amounts to $167 per month and $501 for the quarter. Finally, legal and accounting charges are $35 per month, and a quarterly total of $105.
Total cash disbursements each month total $8,986, and quarterly total is $26,957.
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Table 13.4: Cash Budget – Text Alternative
The beginning cash balance in October is $3,995 and adding cash receipts of $8,767 gives total cash available as $12,462. Less cash disbursements of $8,986 provides a forecast balance of $3,476. The next line states the desired minimum balance is $5,000, leaving a shortage of negative $1,524. In October, borrowings equal $3,000 and added to the forecast balance, gives an ending cash balance of $6,476.
November’s beginning cash balance is $6,476 to which is added cash receipts of $8,767 for total cash available of $15,243. Less cash disbursements of $8,986 leaves a forecast balance of $6,257. The desired minimum balance is $5,000, leaving an excess of $1,257. There are no borrowings or repayments in November, so the ending cash balance is the forecast balance of $6,257.
December’s beginning cash balance is $6,257 and added to that is cash receipts of $8,767 for total cash available at $15,024. Less cash disbursements of $8,986, leaves a forecast balance, and an ending cash balance of $6,039. December had an excess of cash of $1,039 with no borrowings or repayments.
The fourth quarter totals start with a beginning balance of $3,695 (October’s beginning balance) and add cash receipts of $26,301 for total cash available of $42,730. Less cash disbursements of $26,957, leaves a forecast balance of $15,772. The desired minimum balance is $15,000, leaving an excess of $772. The ending cash balance for the quarter is $6,039, which is December’s ending balance.
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Planning Cash Needs: The Comprehensive Budget: the Pro Forma Cash Flow Statement – Text Alternative
The cash flows statement for the fourth quarter of Red Jett Sweets’ begins with cash received from customers in the amount of $26,301.
The first section is cash paid to vendors, including credit card providers, sales tax paid to Texas, raw material used in production, salaries and wages, payroll taxes and benefits, rent, website and marketing, telephone, transportation, insurance, and legal and accounting totaling $26,957, leaving a net cash flows from operations of negative $656.
There was no cash flow from investing activities and no purchase of equipment.
In the cash flow from financing activities, there was no investment by owners or cash paid on loans, but there was $3,000 of cash received from borrowing, giving net cash flow from long-term financing activities at $3,000.
The beginning cash balance was $3,695 and there was a net cash increase of $2,344 ($3,000 minus $656 of negative cash flows from operations), gives an ending cash balance of $6,039.
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Chapter Fourteen Small Business Finance: Using Equity, Debt, and Gifts
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Sources of Financing for Small Businesses
The number one source is from the owners themselves.
Other major sources include family and friends, credit cards, trade credit, banks, and other commercial lenders.
Less used sources include grants, angel investors, government programs, community financiers, stock sales, and venture capital.
Sources of financing are either debt, equity, or gifts.
Debt can take many forms of debt equity, such as borrow money from banks, agencies, governments, or individuals.
When you sell part of your business, the money received is equity capital.
Assets or money donated without obligation to repay is a gift resulting in gift equity.
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Financing with Equity
Personal equity.
The amount you contribute depends on your personal worth.
Not all personal wealth is easily available.
You need to know the amount and type of wealth you have.
Outside equity.
Outside equity is money from selling part of your business to people not involved in the business, called outside equity investors.
This is only possible if the business is organized as a partnership, a corporation, or a limited liability company (LLC).
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Financing with Debt
Debt is a claim on the value of a business’s asset but unlike equity, debts are legally enforceable to pay back.
Secured debt provides a lender with the right to seize specific assets if the loan is not paid.
Unsecured debt does not give the lender the right to seize any specific asset.
Lenders must use court action to collect unpaid unsecured debt.
Though debt is easier to obtain than equity, avoid it if possible.
There are repayment obligations.
Lenders can enforce payment regardless of your ability to pay.
The amount of debt financing you can raise is limited by your personal wealth, your business’ wealth, and your debt history.
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Financing with Gifts
Few are able to obtain gift funding for a start-up.
Available to a few established businesses with several years of successful operations.
Even then, a small business will get a grant if, and only if, the business operations meet some desirable societal goal.
Virtually all gift financing comes either from governments or private foundations.
Few foundations exist to support small business and none exist to specifically provide start-up or working capital funding.
Remember that gifts come with strings attached – ev
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