Why businesses need finance
Finance is money a business raises to meet its needs, and businesses need it both to start up and to keep running. Start-up capital pays for the one-off items needed before trading begins, such as premises, equipment, initial stock, and initial marketing.
Before you start
Make sure you're comfortable with these topics first:
Method
- Read the scenario and decide whether the business is starting up or already trading, since this changes which costs apply.
- List every cost mentioned and classify each as a one-off start-up cost or a continuing running cost.
- Distinguish capital expenditure (assets that will be used for more than one year, e.g. equipment, premises, vehicles) from revenue expenditure (day-to-day costs consumed within the year, e.g. wages, rent, stock).
- Add the relevant costs together to find the total finance needed, showing each line of the calculation.
- Explain why the business needs this finance now, linking the reason to the specific cost, for example needing 5,000 pounds for stock so it has goods to sell from day one.
- For an evaluate-style question on whether a business has raised enough finance, compare the total cost figure to the amount raised and state a supported judgement.
Worked example
Amara is opening a sandwich shop. Before she can open, she must buy a fridge and display counter for 4,200 pounds, pay a shopfitter 2,800 pounds to renovate the unit, and buy her first batch of ingredients and packaging for 900 pounds. She also wants to keep 1,500 pounds in reserve to cover her first month's rent and wages while sales build up. Calculate the total start-up finance Amara needs.
- List the one-off start-up costs: fridge and counter 4,200 pounds, shopfitting 2,800 pounds, initial ingredients and packaging 900 pounds.
- Add the equipment and shopfitting costs: 4,200 + 2,800 = 7,000 pounds.
- Add the initial stock cost: 7,000 + 900 = 7,900 pounds.
- Add the working capital reserve for the first month: 7,900 + 1,500 = 9,400 pounds.
- State the total: Amara needs 9,400 pounds in start-up finance before she can open.
Practice questions
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Q1What is the difference between start-up capital and working capital?Show answer
Answer: Start-up capital is the one-off finance needed before a business begins trading, e.g. premises, equipment; working capital is the ongoing finance needed to cover day-to-day running costs once trading has begun, e.g. wages, stock, rent.
Q2Give one example of a start-up cost for a new hairdressing salon.Show answer
Answer: For example, buying salon chairs and mirrors, or renovating the premises.
Q3Why might a profitable business still need extra finance?Show answer
Answer: Because its cash may be tied up in stock or unpaid customer invoices, or it may need finance to expand, so being profitable does not guarantee it has enough cash available when it is needed.
Q4A start-up needs 6,000 pounds for equipment and 2,000 pounds for its first order of stock. Calculate its total start-up finance requirement.Show answer
Answer: 6,000 + 2,000 = 8,000 pounds.
Q5State one reason an established business, not a start-up, might need finance.Show answer
Answer: For example, to buy new machinery to expand production, or to cover a cash-flow shortfall while waiting for customers to pay.
Q6Is buying a delivery van a capital expenditure or a revenue expenditure? Explain your answer.Show answer
Answer: Capital expenditure, because a van is a fixed asset that will be used in the business for more than one year, rather than being consumed within the year.
Q7What term describes finance needed to cover the gap between paying suppliers and being paid by customers?Show answer
Answer: Working capital.
Exam-style questions
Written in the style of a GCSE Business exam paper, with a full mark scheme.
A new gym needs to buy fitness equipment costing 18,500 pounds, pay a deposit and first month's rent of 3,200 pounds, and spend 1,300 pounds on signage and initial marketing. The owner also wants to keep 4,000 pounds in reserve as working capital for the first two months. (a) Calculate the total one-off start-up cost, before the working capital reserve. (2 marks) (b) Calculate the total start-up finance needed, including the working capital reserve. (2 marks) (c) State one reason the owner should keep a working capital reserve rather than spending all of her finance on fixed assets. (2 marks)
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Assess whether a new business is more likely to fail because it has too little start-up finance or because it has too little working capital.
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See real GCSE Business past-paper questions, with official mark schemes →
Free printable worksheet
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