Chapter 8 Sources of Business Finance | class11th | ncert quick revision notes Business Studies

Notes Class 11 Business Studies Sources of Business Finance

1. Business Finance It refers to capital funds and credit funds invested in the business.

According to BO Wheeler, “Finance is thai business activities which is concerned with acquisition and conservation of capital fund in meeting the financial needs and over all objectives of business enterprise.”

The financial needs of a business can be classified into two categories.

(i) Fixed capital requirement
(ii) Working capital requirement

2. Classification of Sources of Funds

(i) Period Basis On the basis of time period, a business finance can be classified in three categories.

(a) Long Term Finance Funds which are required to be invested In a business for a long period of time, that is more than five years are known as long term finance.

(b) Medium Term Finance The finance required by business enterprises for more than one year but less than five years is known as medium term finance.

(c) Short Term Finance The finance required for a short period upto one year is known as short term finance.

(ii) Ownership Basis On the basis of ownership, the sources can be classified into ‘owner’s fund’ and ‘borrowed fund’,

(a) Owner Fund It refers to the funds contributed by owners as well as the accumulated profit of the company this fund remains with the company and it has no liability to return this fund. e.g., equity shares, retained earnings.

(b) Borrowed Fund It refers to the borrowing of the firm. It includes all funds available by way of loans or credit

(iii) Source of Generation Basis Another basis of categorising the sources of funds can be whether the funds are generated from with in the organisation internal or from external sources.

3. Sources of Finance Companies can raise finance from the following methods.

(i) Retained Earning Retained undistributed profits after payment earning refers to of dividend and taxes. It provides the basis of expansion and growth of companies.

(ii) Features of Retained Earnings

(a) Cushion of security
(b) Funds for new and innovative projects
(c) Medium and long term finance
(d) Conversion into ownership fund

4. Trade Credit It refers to an arrangement whereby a manufacturer is granted credit from the supplier of raw materials, inputs spare parts etc. The supplier allow their
customers to pay their outstanding balance, with in a credit period.

The availability of trade credit depends upon

(i) Nature of the firm
(ii) Size of the firm
(iii) Status or credit worthiness of the firm

5. Factoring Factoring is a financial service’under which factor renders the following services

(i) Discounting of Bills of Exchange When goods are sold on credit then a supplier generally draws bills of exchange upon customers who are required to accept the same.

(ii) Providing Information Regarding the Creditworthiness of Prospective Clients Factors collect detailed information regarding the financial history of different companies which can used by the financier who may lend money to these companies.

6. Lease Financing Leasing is a contract between lessor and lessee. whereby the lessor permits the lessee to use the asset acquired by the lessor in return of a payment called rent.

Lessor is called the owner of the assets and lessee hires the assets by paying rent. With leasing contract the lessee can use the assets without investing a high amount of fund for buying it.

7. Public Deposits Public deposits refers to unsecured deposits invited from the public. A company wishing to invite public deposit places an advertisement in newspapers. Any member of the public can fill up the prescribed form and deposit money with the company. Different features of public deposits are

(i) Unsecured
(ii) Finance of working capital
(iii) Time period
(iv) Simple procedure to raise
(v) Repayment

8. Commercial Papers Commercial paper is a source of short finance. The commercial paper was introduced in India for the rust time in 1990. It is an unsecured promissory note issued by public or private sector company with a fixed maturity period, which varies from 3 to 12 months. Since these are unsecured that is why these are generally issued by companies having a good reputation.

9, Issue of Shares Share is the smallest unit in which owner’s capital of the company is divided. A share may also be defined as a unit of measure of a shareholder’s interest in the company.

According to Companies Act, a public company can issue two types of shares.

(i) Equity shares
(ii) Preference shares

10. Equity Shares Equity shares is a common security issued under permanent or owner’s fund capital. Equity shares are the most important source of raising long term capital.

In Companies Act permitting companies to issue two categories of equity shares.

(i) Equity shares with equal rights.
(ii) Equity shares with differential rights as to divided.

11. Preference Shares Preference shares are those shares which get preference over equity shares in respect to

(i) The payment of dividend.
(ii) The repayment of investment amount during winding up.
Different features of preferences shares are
(i) Fixed rate of dividend
(ii) No security
(iii) Voting rights
(iv) Hybrid security

12. Debentures Debentures are common securities issued under borrowed fund capital. Debentures are instruments for raising long term debt capital. Debentures are called creditorship securities because debenture holder are called creditors of a company.

Different features of debentures are

(i) Borrowed fund
(ii) Fixed rate of interest
(iii) Compulsory payment of interest
(IV) Security
(v) Redeemable
(vi) No, voting right
(vii) Appointment of trustee

13. Commercial Banks Commercial banks occupy a very important position as they provide funds for different purposes and different periods. Firms of all sizes can approach commercial banks. Generally, commercial banks provide short and medium term loans but now-a-days they have started giving long term loans against security.

14. Financial Institutions Public financial institutions are referred to as lending institutions. development banks or financial institutions, After independence the Government of India realised that for economic development of a country only commercial banks are not sufficient. There must be financial institutions to provide financial assistance and guidance to industries and business enterprises.

15. International Source of Finance After the new economic policy of liberalisation or globalisation. the doors of foreign companies and investors were opened to invest In the Indian companies. After 1991. the Indian companies tap international sources of finance for both debt and equity. The main securities used by Indian companies to tap international sources of finance are given below

(i) Loans from Commercial Bank!’;
(ii) International Agencies and Development Bank
(iii) International Capital Market

(a) GDR
(b) ADR
(c) lDR

The businessman must keep in mind the following factors

(i) Cost involved
(ii) Financial capacity of the firm
(iii) Form of business organisation
(iv) Time period
(v) Risk involved
(vi) Control
(vii) Flexibility
(viii) Claim over the assets
(ix) Tax benefits