Sources of Capital/ Finance

Sources of Capital/ Finance

• Many alternatives open for financing a company.

• Raising funds depends on factors like:

– Nature of business to be financed
– Creditworthiness of the borrower
– Market condition at the time of borrowing
– Alternate sources of capital

• Diverse sources of capital: Promoters

Investment, Shares, Debentures, Public Deposits,
Financial Institutions, Commercial Banks etc.
Promoters
• Main source of financing

• Extend necessary funds from their own resources

• Otherwise borrowing from their own friends/

relatives/ banks at their personal security and
responsibility.

• Funds reimbursed after the incorporation of the

company by raising funds through sale of shares
and debentures.
Shares
• Sources of finance for fixed capital sold to public to
raise equity funds.
• Different kinds of shares- preference, equity and
deferred- providing choices to different classes of
investors according to their likings and financial
strength.
• An investor averse to taking risk will prefer
preference shares at a fixed rate of dividend.
• A risk taking investor for fluctuating profits prefers
equity shares.
• Deferred shares are the ones taken by founders,
promoters, directors.
Shares (Contd.)
• Except preference shares, earnings on other types
of shares vary.
• Raising of capitals thru sales of shares poses great
problem to new emerging companies with no
trading record.
• Equity funds can also be obtained by retaining a
portion of the earnings available for the share
holders (Retained Earnings) – undistributed profits
of equity capital.
• Payments of dividends at the discretion of
directors, not a legal obligation; nor deductible
charges/ expenses for IT calculation.
Debentures
• Source of finance for fixed capital
• A bond/ certificate acknowledging the money
lent by a bondholder to the company. It states
the amount, rate of interest and the maturity
period.
• Debentures issued against the securities of
assets.
• Fixed rate of interest to the bond holders
(creditors of the company) irrespective of profits
of the company.
Debentures (Contd.)
• Payment of interest being a legal obligation is
treated as an expense for IT calculation.

• Preferred by investors not liking to tie up their

fate with the company fortune.

• An ungoing company with enough steady

income and assets can attract such investors.

• A new company with fluctuating income?

Public Deposits
• The term 'public deposit' implies any money
received by a company through the deposits or
loans collected from the public.
• The rate of interest payable by the company on
public deposits is lower than the interest on
loans from banks and other financial
institutions. Such an interest is a tax deductible
expense.
• No legal obligation; deposited money can be
withdrawn at anytime at the slightest sign of
depression or any other reason.
Financial Institutions/ Commercial Banks
• Financial institutions grant loans on a longterm
basis
• In India, we have many such financial institutions in
the post-independence era. (eg. IFCI, ICICI)
• These institutions lack flexibility in granting loans.
• Commercial banks play an important role for short-
term financing
• Commercial banks averse to long-term financing
• Banks have come forward with term lending
innovations with the growing needs of the
economy.
Owned Capital Vs Borrowed Capital
Owned Capital (Shares)
Contributed by shareholders/ owners of
the company
Proprietors of the company
Get dividend based on the profits
Rate of dividend may vary based on the
profit
Generally non-refundable except in case of
liquidation/ bankruptcy
No dividend payable bears any interest
against the company incase of default
Contributors have full control over
management
Borrowed Capital (Loans, Debentures)
Contributed by lenders of the company
Creditors of the company
Get interest at an agreed rate irrespective
of profit
Rate of interest is fixed
Refundable at the expiry of credit term
No interest paid has further interest in case
of default payment.
Lenders have no control/ say in the
management