Source of Finance

Sources of Finance

Ownership Creditorship Internal Loan

Captial Securities Financing Financing

Equity Retained Commercial

Debentures
Shares Earnings Bank

Preference
Depreciation Trade Credit
Shares

Factoring

Advances

Commercial
Papers

Public
Deposits
Ownership Securities

The term ‘ownership securities,’ also known

‘capital stock’ represents shares.

Meaning of Share
A “share” represents a part of capital in a company.
A share may be defined as one of the units into which the
share capital of a company has been divided.

The person holding the share is known as a shareholder.

Types of Shares 1. Equity Share
2. Preference Share

Equity Share
Equity shares, also known as ordinary shares or
common shares represent the owner’s capital in the
company. The holders of these shares are the real
owners of the company.
 Features of Equity Share

Permanent capital
Claim on Income
Claim in assets
Right to control
Voting right
Pre-emptive rights (Right to purchase new share)
Limited liability
Pros/ Merits of Equity Share

Permanent capital
No fixed burden for payment
Borrowing base(Improve borrowing limits)
 In case of profits, equity shareholders are the real
gainers
 Cons/ Demerits of Equity Share

Risky
Over capitalization
Uncertainty and irregularity of income
Possibility of capital loss
More Costly in prosperous periods
 Preference Share

Preference share are those which carry the following

preferential rights over other class of share:
A preferential right in respect of dividend.
 A preferential right as to repayment of capital in case
of winding up of the company in priority to other
classes of share.
Types of Preference Share

Cumulative Preference Shares

Non-Cumulative Preference Shares
Redeemable Preference Shares
Irredeemable Preference Shares
Participating Preference Shares
Non-Participating Preference Shares
Convertible Preference Shares
Non-Convertible Preference Shares
Features of Preference Share

Claim on income & assets

Fixed dividend
Maturity
Participation feature (Extraordinary Profit)
Convertibility
Voting rights (can vote on resolution which affects the rights
attached to his preference shares like- winding up the company)
Hybrid form of security (includes some features of equity and
other debt financing)
Pros/ Merits of Preference Share

Long-term capital
Payment of a dividend is not a legal obligation
Limited voting rights
Cushion for debenture holders
Don’t have direct charge against the assets
Fix rate of dividend
Cheaper than Equity
Cons/ Demerits of Preference Share

Commitment to pay dividend

Higher fixed cost
Reduce the claim of Equity Share
Loss of tax benefits (Preference Share dividend is not a
deductible expense while calculating tax while interest is a
deductible expense.)
Pave the way to insolvency
CREDITORSHIP SECURITIES

The term ‘creditorship securities’, also known

as ‘debt capital’, represents debentures and
bonds.
Debentures

A debenture is a promissory note issued by a

company as an evidence of a debt due from
the company.

According to the Companies Act, the term

debenture includes “debenture stock, bonds
and any other securities of a company whether
constituting a charge of the assets of a
company or not.”
Features of Debentures

Interest rate
Face value
Maturity
Claims on Income (have also priority over stockholder )
Claims on assets
Control
Merits of Debentures

Provide a long-term funds

Lower interest rate
Interest on debenture is a tax deductible
No dilution of control
Trade on Equity
Redemption is possible with the availability of
funds
Demerits of Debentures

Fixed burden of Interest

Debt financing increase the risk perception of
investors
Cost of raising finance due to high stamp duty
Not good in case of unstable income
Types of Debentures

Simple/ Naked/ Unsecured Debenture or Secured/ Mortgaged

Debenture
Bearer or Registered Debenture
Convertible, Non-convertible and Partly convertible
Redeemable or Irredeemable Debenture
Zero Coupon Bonds
First Debentures and Second Debentures
Guaranteed Debentures (guaranteed by third parties)
Collateral Debentures (issue in favour of a lender of money)
Loan Financing

Commercial Banks
Commercial banks are the most important source of short-term capital.
They provide a variety of loans to meet the specific requirements of a
concern. For example:
Loans
Cash Credits
Overdrafts
Purchasing & Discounting of bills
Loan Financing…

Trade Credit
Trade credit refers to the credit extended by the suppliers of
goods in the normal course of business.

Advances
Some business houses get advances from their customers
and agents orders and this source is source of finance for
them. It is cheap source of finance.
Loan Financing…

Commercial Papers
Commercial paper represents unsecured promissory notes issued by
firms raise short-term funds.

Public Deposits
Under some regulation companies can accept public deposits, which is
also a source of finance.

Factoring
Factoring is a form of financing in which a business (client) sells its
receivables to a third party called factor (Financial institution/ financing
company) at a discounted price.
Internal Financing/ Self Financing

Internal financing means arraigning funds from inside the company.

3.4.1 Retained Earnings or Ploughing Bank of Profits

Under this technique of financial management under which all profits of
a company are not distributed amongst the shareholders as dividend,
but a part of profits is retained or reinvested in the company.

3.4.2 Depreciation as a Source of Funds

Depreciation is simply a book entry having the effect of reducing the
book value of the asset and the profits of the current year for the same
amount. Depreciation is an operating cost there is no actual outflow of
cash. That cash is to be reinvested in the firm again.
Trade on Equity

Trading on equity occurs when a corporation uses bonds,

other debt, and preferred stock to increase its earnings
on common stock.

For example, a corporation might use long term debt to

purchase assets that are expected to earn more than the
interest on the debt.
Additional Important Points
Additional Important Points
• Venture Capital
Accel Partners invested in:
Flipkart,
Book My Show,
Myntra,
CommonFloor.
• Angel Investors
Sanjay Mehta invested in :
OYO Rooms,
FabAlley,
OrangeScape
• Private Equity (P/E)
Justdial funded by Sequoia Capital and SAP Ventures
• Seed Fund
• Crowdfunding
• Love Money (capital extended by family and/or friends)
• Business Incubators
• Govt. Grants & Subsides
• Loan Syndicates
Additional Important Points
• External Commercial Borrowings (ECB)
Power Finance Corporation ($100 million)
Commercial vehicle maker SML Isuzu raised $20.89 million
• Leveraged Buyout – LBO
In 2000 Tata acquired Tetley UK with the help of LBO.
Tata – Cours
• ADR
Wipro issued ADR in 2000
Vedanta Ltd in 2015
• GDR
Reliance Infrastructure Ltd
GAIL
L&T Ltd.
• Foreign Direct Investment
• Foreign Institutional Investors
• QIPs
• IPO