Chapter-8

Sources of business
finance
Meaning, nature and Significance of
Business finance;-
The creation and distribution of goods and
services to meet societal demands are the
focus of business. For a variety of
operations, businesses need money. Thus,
finance is referred to as a company's
lifeblood. Business finance is the amount of
money a company needs to run its many
operations.
A company cannot operate if sufficient
funding is not made available to it.
Sometimes the entrepreneur's original
investment is insufficient to cover all
of the business's financial needs. As a
result, a business owner must seek
for additional sources of funding to
meet their needs. Therefore, a key
component of managing a corporate
organization is determining the
different sources of funding and
doing a thorough assessment of the
financial demands.
The stage at which an entrepreneur
decides to launch a firm is when they
require money. Some money is
required right away, for example, to
buy furniture, equipment, and other
fixed assets.
In a similar vein, certain money are
needed for daily operations, such as
buying raw materials and paying staff
salaries. Additionally, the business
requires funding as it grows.

Ownership Basis:-
The sources can be divided into "owner's
funds" and "borrowed funds" according to
ownership. Owner's funds are those
contributed by the business's owners, who
could be a solo proprietor, partners, or
stockholders. It comprises capital as well as
profits that are reinvested in the company.
Over the course of the business's existence, the
owner's capital stays invested in the enterprise
for a longer period of time and is not subject to
reimbursement.
This type of financing serves as the foundation
for owners' acquisition of management control.
The two main ways that owners might get their
money are through the issuance of stock
shares and retained earnings.
Conversely, "borrowed funds" refer to money
obtained through loans or borrowings. The
references

loans from commercial banks, loans from

financial institutions, debentures, public
deposits, and trade credit are all examples of
ways to raise borrowed capital. These funding
sources offer money for a predetermined
amount of time under specific terms and
circumstances, and it must be paid back at the
end of that time. The borrowers pay a set
interest rate on these money. Because interest
must be paid even in cases of low earnings or
loss, it can occasionally place a significant
strain on the company. In most cases,
borrowed money is given in exchange for
certain fixed assets.

Sources of finance:-
A company can raise money in a number of
ways. Every source has distinct qualities that
need to be fully comprehended in order to
determine which is the most effective way to
raise money. No single source of funding is
ideal for every organization.
The source to be used may be chosen based on
the circumstances, goal, expense, and risk
involved.
For instance, long-term finances may be
needed if a company want to raise money to
cover fixed capital requirements. These funds
may be borrowed or held. In a similar vein,
short-term sources might be used if the goal is
to satisfy the daily demands of company.

Trade Credit;
The credit given by one merchant to
another for the acquisition of products
and services is known as trade credit.
Trade credit makes it possible to buy
materials without having to pay for
them right now.
Such credit is recorded in the buyer's
records as "accounts payable" or
"sundrycreditors." Business
organizations frequently utilize trade
credit as a source of short-term
funding. It is given to clients with a
respectable level of goodwill and
financial status. The amount and
duration of credit are determined by a
number of variables, including the
seller's financial standing, the volume
of transactions, the purchasing
company's reputation, the seller's
payment history, and the level of
market competition.Additionally, a
business may give various clients
varied credit terms.
MERITS;-
The following are some of trade
credit's key benefits:
{1 }Trade credit is a continuous and
convenient source of funding;
 (ii) Trade credit may be easily
accessible if the seller is aware of the
creditworthiness of the customers;
(iii) Trade credit must be used to
boost an organization's sales;
(iv) Trade credit may be used to
finance an organization's desire to
raise inventory levels in order to meet
an anticipated increase in sales
volume in the near future
(v) Trade credit does not impose any
charges on the firm's assets while
providing funds.
Limitations
Trade credit as a funding source has
several restrictions, which are as
follows:
(i) The availability of simple and
adaptable trade credit
 facilities may encourage
excessive trading, increasing
the firm's risks;
(ii) Trade credit can only
generate a certain amount of
funds;
(iii) On average, it is a more
expensive source of funding
than the majority of other
sources.
the Public Deposits:-
Public deposits are those that are
collected directly from the general
public by organizations. Interest
rates on public deposits are often
greater than those on bank
deposits. Filling out a certain form
is how everyone who wants to
deposit money into an
organization does it. The
organization acknowledges the
debt by issuing a deposit receipt
in exchange. Public deposits can
cover a company's short-term and
medium-term financial needs. The
organization benefits from the
deposits as well as the depositor.
Deposits to the business are less
expensive than bank borrowings,
even if the depositors receive a
greater interest rate than banks
do. Businesses often accept public
deposits for a maximum of three
years.
The Reserve Bank of India
oversees the acceptance of
deposits from the general
population.
MERITS ;-
The benefits of public deposits are
as follows: (i) the process of
obtaining deposits is
straightforward and free of
restrictive terms, unlike those
typically found in loan
agreements; (ii) the cost of
borrowing money from banks and
other financial institutions is
typically higher than that of public
deposits; and (iii) public deposits
typically do not impose any
charges on the company's assets.
The assets may be pledged as
collateral for debts obtained from
other lenders;
(iv) Because the depositors lack
voting rights, the company's
authority remains unaltered.
LIMITATION:-
The following are the main
restrictions on public deposits:
(i) It is typically hard for new
businesses to raise money
through public deposits;
(ii) It is an unreliable source of
funding because people might
not respond when the
business needs money;
(iii) (iii) It can be challenging to
collect public deposits,
especially when a large
amount of deposits is needed.
Issue of Shares;-
Share capital is the money raised
via the issuance of shares. A
company's capital is separated
into little pieces known as shares.
Every share has a notional worth.
For instance, a business may issue
one million shares, each worth ten
rupees, for a total of ten million
rupees. A shareholder is the one
who owns the share.
There are two kinds of shares that
a business typically issues. These
are preference shares and equity
shares.
Preference share capital is the
money raised by issuing
preference shares, whereas equity
share capital is the money raised
by issuing equity shares.
Equity Shares
An essential source for a business
to raise long-term capital is Eq u i
t y s h a r e s i s t h e m o s t.
Since equity shares signify a
company's ownership, the money
produced via the issuance of
these shares is referred to as
owner's funds or ownership
capital. The establishment of a
business requires equity share
capital. Instead of receiving a set
dividend, equity stockholders get
payments based on the
company's profitability.
Since they get what remains after
all other claims on the company's
revenue and assets are satisfied,
they are known as "residual
owners."

have been resolved.

They take on the risk of ownership
together with the profit. However,
their responsibility is capped at
the amount of money they have
invested in the business.
Additionally, these shareholders
have the ability to vote and take
part in the company's
management.
DEBENTURES;-= are a type of
long-term debt instrument that
companies can use to raise
capital. When a company issues
debentures, it is acknowledging
that it has borrowed a certain
amount of money and promises to
repay it at a future date.
Debenture holders are considered
creditors of the company and are
paid a fixed amount of interest at
regular intervals. Before issuing
debentures, companies must get
the issue rated by a credit rating
agency to assess the company's
creditworthiness and the
perceived risk of lending.
Companies can issue different
types of debentures, including
zero-interest debentures, where
the return to the investor is the
difference between the face value
and the purchase price.
MERITST;-
The following are some benefits of
using debentures to raise money:
(i) Investors seeking fixed income
at lower risk like it; (ii) Debentures
are fixed charge funds that do not
share in the company's profits; (iii)
Debenture issuance is appropriate
when sales and earnings are
comparatively steady;
(iv) Since debentures do not grant
voting rights, financing through
them does not reduce equity
shareholders' control over
management; (v) Because interest
payments on debentures are tax
deductible, financing through
debentures is less expensive than
financing through preference or
equity capital.
Limitations;-
There are various restrictions on
using debentures as a source of
funding. They are provided as
follows:
 (i) Because debentures are fixed
charge instruments, they
permanently reduce a
company's earnings. A higher
risk arises when the
company's earnings fluctuate;
(ii) redeemable debentures
have provisions for repayment
on the designated date, even
during times of financial
difficulty; (iii) E a c h c o m p a
n y h a s c e r t an i n
borrowing capacity. Debenture
issuance limits a company's
ability to borrow further
capital.

Commercial Bank:-
Talking Commercial Banks
Commercial banks play an important
role since they offer money for a
variety of uses and durations. Banks
provide loans to businesses of all
sizes in a variety of methods,
including cash credits, overdrafts,
term loans, bill buying and
discounting, and letter of credit
issuance. A number of variables,
including the firm's characteristics
and the level of interest rates in the
economy, affect the interest rate that
banks charge. The loan is paid back in
installments or as a single payment.
Credit from banks is not a steady
source of money. Even while banks
have begun to provide longer-term
loans, these loans are often taken out
for medium- to short-term terms.
Before a commercial bank would
approve a loan, the borrower must
put a charge on the company's assets
or offer some security.
Advantages
The following are some benefits of
borrowing money from a commercial
bank:
(i) Banks help businesses in a timely
manner by giving them money when
they need it.
(ii) Business secrecy may be
preserved since the data that
borrowers provide to the bank is kept
private; (iii) Obtaining a bank loan
does not involve formalities like
prospectus issuance and
underwriting. As a result, this is a
simpler way to raise money; (iv) Bank
loans are a flexible way to raise
money since they can be paid back in
full when money is not needed and
can be adjusted to meet company
demands.
The limitations
The following are the main
restrictions on commercial banks'
ability to provide financing:
Banks conduct thorough
investigations into the company's
operations, financial structure, etc.,
and may also request asset and
personal security. (i) Funds are often
accessible for brief periods of time,
and their extension or renewal is
unclear and challenging. This makes
it challenging to obtain a loan; (iii) In
certain instances, banks set
challenging terms and conditions for
loan approval. For instance, it may be
made difficult to conduct regular
commercial operations by placing
limits on the selling of mortgaged
items.
Institutions of Finance
To support commercial organizations,
the government has set up a variety
of financial institutions around the
nation (see Box E). Both the federal
government and the states have
formed these entities. They support
conventional financial institutions like
commercial banks by offering both
owned and loan capital for long- and
medium-term needs. These
organizations are also known as
"development banks" since they seek
to advance a nation's industrial
growth. These organizations not only
offer financial aid but also carry out
market research and offer managerial
and technical support to those who
operate the businesses. When
substantial finances for a longer
period of time are needed for an
enterprise's development,
reorganization, and modernization,
this kind of funding is thought to be
appropriate.
Advantages
The following are some benefits of
using financial institutions to raise
money:-i) Long-term loans from
financial institutions are not

supplied by commercial banks; (ii) In

addition to supplying money, several
Several of these organizations provide
commercial businesses technical
guidance and consulting services;
(iii) Getting a loan from a financial
institution improves the borrowing
company's standing in the capital
market. As a result, such a business
may readily raise money from other
sources as well;
(iv) The loan does not prove to be a
significant strain on the firm because
it may be repaid in manageable
installments;
(v) Even in times of depression, when
there are no other sources of funding,
the monies are made accessible.
Limitations
The main restrictions on obtaining
capital from financial institutions are
listed below:(i) When making lending
decisions, financial organizations
adhere to strict guidelines.

The process takes a long time

because of too many formalities, and

costly; (ii) Financial institutions

impose certain limitations on the
borrowing company's powers, such as
limitations on dividend payments; (iii)
Financial institutions may appoint
their nominees to the borrowing
company's board of directors, reining
in the company's authority.