SourceOfFinance

Source of Finance Overview

Introduction to Finance

• Finance is the provision of money at the right time.

• Essential for all enterprises regardless of size (big, medium, small).

• Often referred to as the "life blood" of an enterprise.

Importance of Finance

• Setting up a business: Necessary for initial investments.

• Day-to-day operations: Required for ongoing expenses.

• Expansion: Funding needed to grow the business.

• Research: Financing necessary for development of new products.

• Special situations: Such as decline in sales necessitating financial support.

Classification of Financial Sources

1. By Period

• Long Term: More than 5 years (e.g., equity shares, preference shares, loans).

• Medium Term: More than 1 year but less than 5 years (e.g., loans from banks, public deposits).

• Short Term: Less than 1 year (e.g., trade credit, factoring).

2. By Ownership

• Owners Fund (Equity): Includes equity shares and retained earnings.

• Borrowed Funds: Includes debentures and loans.

3. By Source of Generation

• Internal Sources: E.g., equity share capital, retained earnings.

• External Sources: E.g., loans from banks and financial institutions, public deposits, debentures.

Long Term Financing

Definition and Usage

• Sources that fulfill long-term financial needs (over 5 years).

• Used for:

  • Financing fixed assets.

  • Company expansions.

  • Increasing operational facilities.

  • Large scale project constructions.

  • Acquisitions of other companies.

Sources of Long Term Finance

• Shares:

  • Equity Shares: Shareholders share profits and losses, viewed as real owners.

  • Preference Shares: Holders receive fixed dividends with priority over equity dividends.

• Debentures: Represent borrowed capital; debenture holders are creditors with fixed interest returns.

• Retained Earnings: Profits not distributed as dividends, used for further investment activities.

Medium Term Financing

Definition and Examples

• Sources fulfilling financial needs for more than 1 year but less than 5.

• Sources include:

  • Loans from Banks: Medium-term loans (2-4 years) for fixed assets and expansions.

  • Loan from Financial Institutions: Government-established institutions that provide affordable long-term loans.

  • Public Deposit: Money received from public deposits or loans.

Short Term Financing

Definition and Purpose

• Funds required for daily operational expenses, typically for less than one year.

• Also known as Working Capital Finance.

• Purposes include:

  • Purchasing raw materials.

  • Paying wages.

  • Covering utility charges (water, electricity).

Sources of Short Term Financing

• Trade Credit: Credit allowed by suppliers for manufacturers or traders.

• Short Term Bank Loans: Funds advanced by banks, repayable in a specified short term.

• Factoring: Selling accounts receivable to third parties to meet liquidity needs.

• Commercial Paper (CP): Short-term, unsecured promissory notes from companies with good credit ratings.

Modern Sources of Finance

Overview of Unconventional Sources

• Startups and businesses are increasingly using unconventional funding sources.

• Key sources include:

  • Angel Investment: Funding from experienced individuals in exchange for equity; often involve personal networks.

  • Venture Capital (VC): Investment in high-risk emerging companies for high returns, often in tech sectors.

  • Private Equity (PE): Investments in non-publicly traded companies or buyouts that lead to delisting.

Angel Investment

• Provides needed capital for startups from seasoned investors.

• Funding may be a one-time or ongoing injection.

• Example: Sanjay Mehta has invested in startups like OYO Rooms and Fab Alley.

Venture Capital (VC)

• Focused on seed and early-stage companies with growth potential.

• Aimed at high returns from innovative firms, especially in tech.

• Example: Food Panda was funded by Rocket Internet.

Private Equity (PE)

• Involves investments in private companies or public company buyouts.

• Funded by retail and institutional investors, focusing on new technologies.

• Example: Justdial funded by Sequoia Capital and SAP Ventures.