Inter - I Year - Commerce - Sources of Business Finance - Meaning - Nature - Significance - Classification of sources of funds - Factors determining the choice of sources of finance

1. UNIT -8
SOURCES OF BUSINESS FINANCE – 1
Dr. K. THULASI KRISHNA, Ph.D.
AP MODEL SCHOOL & JUNIOR COLLEGE,
KANEKAL, ANANTHAPUR – Dist.,
A.P., INDIA
• tkk2007@gmail.com

2. Meaning of Business Finance
• Business finance involves a set of administrative
functions in an organisation which relate with the
arrangement of cash and credit so that the
organisation may have the means of to carry out
its objectives.

3. Nature of Business Finance (Or)
Types of Capital Required for Business
• The financial needs of a business organisation can be
classified in to two types namely, fixed capital and working
capital.
A) Fixed Capital Requirements:
• The capital that is required to buy fixed assets is called
fixed capital.
• Fixed assets like land, buildings, plant and machinery,
furniture, etc., are needed to carry on production
operations or to render services.

5. B) Working Capital Requirements:
• The capital that is required to meet day-to-day
expenses is called working capital.
• It is helpful to hold current assets like raw material,
bills receivables, etc. and to meet expenses like
salaries, wages, rent and taxes.
• The requirement for fixed and working capital
increases with the growth and expansion of business.

6. Significance of Business Finance (Or)
Need for Business Finance
• i. The business requires finance to
purchases fixed assets like land, buildings,
plant, machinery, furniture, etc.
• ii. It requires finance to meet day-to-day
expenses like payment of wages, carriage
expenses, purchase of raw material, etc.
• iii. A business requires finance for growth
and expansion activities.

7. • iv. Business finance is needed to diversification activities in
business.
For example, Reliance doing multiple businesses like Petrol,
Electronics, Telecommunications, etc refers to diversification.
• v. Without the required finance, organisations cannot survive for
long run.
• vi. Sufficient business finance is essential to meet its liabilities.

8. Classification of Sources of Funds
On the Basis of Period On the Basis of Ownership On the Basis of Generation
Long-term finance Owner’s funds Internal sources of funds
Medium-term finance Borrowed funds External sources of funds
Short-term sources of finance

9. On the Basis of Period
• Based on period, sources of funds can be classified into
3 ways namely, long-term, medium-term and short-term
finance.
Long-term finance:
• The long-term sources fulfill the financial requirements
of an enterprise for a period exceeding 5 years and
include sources such as shares, debentures, long-term
borrowings, and loans from financial institutions.
• Such finance is required for the purchase of fixed assets.

10. Medium-term finance:
• Where the funds are required for a
period of more than one year but less
than 5 years, medium-term sources of
finance are used.
• These sources include borrowings
from commercial banks, public
deposits, lease financing and loans
from financial institutions.

11. Short-term sources of finance:
• Short-term funds are those which are required for
short duration, i.e., a period not exceeding one year.
• Trade credit, loans from commercial banks, cash credit,
commercial papers, etc., are some of the examples of
short-term sources.

12. On the Basis of Ownership
Based on the ownership, the sources can be classified into 2
types namely, owner’s funds and borrowed funds.
Owner’s funds: The funds that are provided by the owners of
an enterprise like sole trader, partners, or shareholders of a
company.
• It also includes the profits reinvested in the business. These
funds give rise right of control of management of the business.
• Example: Issue of equity shares, Retained earnings.

13. • Borrowed funds:
• It refers to the funds raised
through loans or borrowings.
Example: Loans from commercial
banks, loans from financial
institutions, issue of debentures

14. On the Basis of Generation
Based on generation, the sources of funds can be classified
into 2 types namely, internal, and external sources.
• Internal sources of funds: The funds that are generated
within the business are called internal sources.
Example: Retained earnings, collection of bills receivables

15. • External sources of funds: These include the sources that lie outside an
organisation such as shares, debentures, public deposits, borrowings from
commercial banks and financial institutions, money lenders, etc.

16. Factors Determining the Choice of
Sources of Finance
• i. Cost: The cost of procurement and utilisation
of funds should be considered while deciding
about the sources of funds.
• ii. Financial strength and stability of operations: The
financial strength and stability of operations shall
be considered to find out the ability to repay the
principal amount and interest on the borrowed
amount.

17. iii. Form of organisation and legal status:
• The form of business organisation and status influence the choice of
a source for raising fund.
• A partnership firm cannot raise fund by issue of equity shares like a
joint stock company.
iv. Purpose and time period:
• If the funds are required for short-term needs, short-term sources
or medium-term sources can be approached.
• For long-term finance, sources such as issue of shares and
debentures are more appropriate.

18. v. Risk profile:
• Business should evaluate each of the source of
finance in terms of the risk involved. For example,
there is a less risk in equity as the share capital
must be repaid only at the time of winding up.
• But a loan on the other hand, has to be repaid
within a specified time along with interest.
• Hence, proper care has to be taken before selecting
the choice of a source of fund.

19. vi. Control:
• A particular source of fund may affect the control and
power of the owners on the management of a firm. Issue
of equity shares may dilute the control as they enjoy
voting rights.
vii. Flexibility and ease:
Strict rules, detailed investigation, and documentation in
case of borrowings from banks and financial institutions
may influence the choice of source of fund.

20. viii. Tax benefits:
• The selection of source of finance may also be
considered based on the tax benefits.
• Payment of dividend on shares is not tax deductible
while the payment of interest on debentures is tax
deductible. Hence, due care must be taken.

21. Thank you for your attention