BUSINESS STUDIES | Class 11 Commerce Tution : Sayar Ghosh | 9163915421

Business Studies | Class 11

Ch 7 : Sources of Business Finance

Important Questions :- 2 / 4 / 6 Marks

1. What is business finance? Why do businesses need funds? Explain

Ans: Finance is the life blood of a business. Business Finance refers to the money
required to run the business.
Business needs finance for three reasons mainly:
● Fixed Capital Requirements: In order to start business, funds are
required to purchase fixed assets like land and building, plant and
machinery, and furniture and fixtures. This is known as the fixed capital
requirement of an enterprise.
● Working Capital Requirements: The financial requirements of an
enterprise do not end with the procurement of fixed assets. No matter
how small or large business, it needs funds for its day-to-day operations.
This is known as working capital of an enterprise which is used for
holding current assets like stock, bill receivable, current expenses etc.
Therefore, a business needs funds to meet its fixed as well as working
capital requirements.

2. List sources of raising long-term and short-term finance.

Ans: Long-term financial resources are:
● Equity Shares
● Retained earnings
● Preference shares
● Debentures
● Loans from financial institutions
● GDR, ADR, IDR

Short-term financing sources are:

● Trade credit
● Public Deposits
● Banks
● Inter Corporate Deposits (ICD)
BUSINESS STUDIES | Class 11 Commerce Tution : Sayar Ghosh | 9163915421

3. What Preferential Rights are enjoyed by preference shareholders. Explain.

Ans: Preference shareholders have the following preferred rights:
● Preference in Dividend: They receive dividends at a fixed rate, and dividends
on these shares are paid before dividends on equity shares.

● Preference in Repayment: When a corporation closes, preference shares are

paid out first, followed by equity shares.

● Excess Profits: Preference shares have the right to partake in any excess
profits that remain after equity shares have been paid.

● Preference in case of dissolution: They have the preference over equity

shareholders in the share capital refund in the event of company dissolution.

4. What is the difference between GDR and ADR? Explain.

Ans: The difference between GDR and ADR is:

Basis GDR ADR

Meaning A GDR is a negotiable
instrument or an instrument
that can be traded freely in
various foreign capital
markets.
This instrument is like a regular
stock which is purchased and
sold in American markets.

Stands for Global Depository Receipt American Depository Receipt

Issued by These are issued by Indian It is issued by American

enterprises in order to raise businesses and can be traded on
capital from foreign investors. American stock exchanges. Only
American citizens are eligible to
receive it.

Traded on It is traded on foreign stock Only be traded in US stock

exchanges. exchanges.
BUSINESS STUDIES | Class 11 Commerce Tution : Sayar Ghosh | 9163915421

5. Explain trade credit and bank credit as sources of short-term finance for
business enterprises.

Ans: Trade Credit It refers to the extension and provision of credit by one trader to
another for the purchase of goods and services, or other supplies without on the
spot payment.

This is generally used by organisations as short term financing. The terms of trade
credit may vary from person to person based on past records and from industry to
industry based on industry norms.

❖ Merits :
➢ A continuous and a convenient source of funds.
➢ It is readily available if credit worthiness is known to the seller.
➢ It helps in increasing the inventory levels in case of increase in sales
volume.
➢ While providing funds, It does not create a charge on assets of the firm.

Limitations
➢ Fulfils only limited financial needs.
➢ There can be chances of over-trading.
➢ Costly in comparison to few other sources.

Bank Credit
A loan provided by a bank to a business firm is known as bank credit. The bank's
interest rate on the loan is usually determined by the current interest rate in the
economy. To secure the loan, the borrower may mortgage assets with the bank.

❖ Advantages
➢ Secrecy of business is maintained.
➢ An easier source of finance as formalities of issuing of prospectus and
underwriting is not required.
➢ Bank credit gives the borrower flexibility because the amount of the
loan can be increased or decreased depending on the borrower's
business demands.
BUSINESS STUDIES | Class 11 Commerce Tution : Sayar Ghosh | 9163915421

❖ Disadvantages
➢ Generally, the funds are available for a short period of time and renewal
becomes a difficult process and is uncertain.
➢ The company may have to keep assets as security as the banks ask for
security assets before issuing such loans.
➢ Sometimes, the terms and conditions imposed by the banks are quite
difficult.
➢ Banks' terms are frequently highly restrictive; for example, a bank that
has provided a loan may limit the borrower's ability to sell commodities
mortgaged to it.

6. Discuss the sources from which a large industrial enterprise can raise capital for
financing modernization and expansion.

Ans: The following are some long-term funding options:

● Equity shares: These shares represent a company's ownership capital.

These shareholders are known as equity shareholders, and they have a say in
the management and benefit from higher returns when profits are higher. They
are also known as the company's owners, or residual owners because
payments to them are provided only after external debts or claims have been
paid.

● Retained earnings: Before paying out dividends to shareholders,

companies often keep a portion of their income. These undistributed profits
are referred to as retained earnings since the money is kept for future use.

● Preference shares: As the name suggests, these shareholders are the

ones who hold a preferential position in respect to getting a fixed rate of
dividend before any dividend for the equity shareholders, and receiving the
capital at the time of liquidation just after the payment to the creditors of the
company.
BUSINESS STUDIES | Class 11 Commerce Tution : Sayar Ghosh | 9163915421

● Debentures: Debentures are long-term debt capital raising financial

instruments employed by companies. They signify that a corporation has
borrowed a particular amount of money, which it will eventually repay to the
holders of debentures. They have a predetermined rate of return and a
stipulated time for debt payback. Debenture holders are called the creditors of
the company.

● Bank and other financial institution loans: Businesses can borrow

funds from banks and financial institutions for a certain period of time in
exchange for a defined periodic payment known as interest. The repayment
period for such a loan is predetermined and announced at the time of loan
approval.

7. What advantages does the issue of debentures provide over the issue of equity
shares?
Ans: Debentures are long-term debt capital raising financial instruments employed
by companies. They signify that a corporation has borrowed a particular amount of
money, which it will eventually repay to the holders of debentures. They have a
predetermined rate of return and a stipulated time for debt payback. The Debenture
holders are also termed as the creditors of the company.

Advantages of debentures over equity shares :

● No dilution of ownership: The issuance of equity shares signifies a

dilution of a company's ownership. Because equity shareholders own specific
shares of the corporation and have voting rights, this is the case. Debenture
holders, on the other hand, have no ownership rights in the corporation. That
is, they do not have any voting rights or ownership in the company. Rather,
they are only entitled to a set amount of money as compensation. As a result,
BUSINESS STUDIES | Class 11 Commerce Tution : Sayar Ghosh | 9163915421

debentures do not affect the firm's ownership structure. As a result, issuing

debentures is preferable to issuing stock shares for a company.

● Tax deductible expense: A company must incur significant fees to issue

shares. Furthermore, it must provide non tax-deductible dividends to its
stockholders. On the other hand, a firm can deduct interest paid to its
debenture holders from its taxable income. As a result, issuing debentures is
cost-effective for a company.

● Fixed Interest: Debentures have a set interest rate. This means that
regardless of profit, the company is only required to pay a predetermined
interest rate to its debenture holders. A corporation that issues shares, on the
other hand, is required to pay dividends to its shareholders, which vary
according to profit— that is, the larger the profit, the higher the dividends

8. Discuss the financial instruments used in international financing.

Ans: Three types of financial instruments are commonly used in international

financing:

● GDRs (Global Depositary Receipts): These are receipts issued by depository

banks against a firm's shares, such as those issued by an Indian company
abroad to raise foreign money. Global Depository Receipts are generally
denominated in US dollars. These are convertible to shares at any time. They
can be listed and traded on any stock exchange outside of the United States.

● ADRs (American Depository Receipts): These are receipts issued by firms

domiciled in the United States. They are typically traded in the same way as
any other security on the market. However, such trading is limited to the
securities markets in the United States. Furthermore, ADRs are only available
to nationals of the United States.
BUSINESS STUDIES | Class 11 Commerce Tution : Sayar Ghosh | 9163915421

9. State various sources of short and medium term funds.

Answer: Short term sources include - trade credit, banks.Middle term credit sources
include loans from banks, public deposits, loans from financial institutions.

10. Name two sources of funds under owner’s fund.

Ans: Equity shares and retained earnings

11. Who are called the owners of a company?

Ans: Equity shareholders are called the owners of the company.

12. Which deposits are directly raised from the public?

Ans: Public deposits.

13. What is the status of debenture holders?

Ans: Debenture holders are creditors of the company.

14. Name the two Indian companies which have raised money through issue of
GDRs.
Ans: WIPRO and Reliance

15. What are retained earnings?

Ans: A company generally does not distribute all its earnings amongst shareholders
in the form of dividend. A portion of the net earnings may be retained in the business
of ruse in future. These are called retained earnings.

16. What are public deposits?

Ans: Public deposits are the deposits raised by organizations directly from the
public.

17. What is debenture?

Ans: A debenture is a document or certificate, which is issued under the common
seal of the company, acknowledging its debt to the holders at given terms and
conditions.
BUSINESS STUDIES | Class 11 Commerce Tution : Sayar Ghosh | 9163915421

18. Why preferences are given to preference shares?

Ans: They are given some preferences because they are not given voting rights.

19. Why is equity share capital called ‘Risk Capital’?

Ans: Equity shareholders get return only when profits is left after paying interest on
debentures and fixed return on preference shares. Therefore, it is called risk capital
as it bears maximum risk.

Important Questions :
Features of Owners Fund & Borrowed Fund
Merits and Demerits Equity Shares.
Advantages of Retained Earnings.
Short Notes on Public Deposits.
Advantages and Disadvantages of Debentures.

DIFFERENCE BETWEEN - (From Book)

● Owners Fund v/s Borrowed Fund
● Equity Shares v/s Preference Shares
● Shares v/s Debentures
● Public Deposits v/s Loan from Commercial Banks