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Corporate Finance
Finance
The word ‘Finance’ is derived from Latin word ‘finis’ means "a payment in settlement, fine or tax." And also it is
derived from French word ‘finaunce’, means "end, ending; pardon, remission; payment, expense; settlement of a debt".
Finance means management of money. In the human body require blood and management of blood requires heart.
Same as in the human life require money for everything. For collection of money and utilization of money require proper
knowledge, skills, science and management of money. These all things are known as finance, so every human must know
the concept of finance.

Definitions
• “Finance is the provision of money at the time it is wanted”.
• “The act of providing the means of payment” _____ Encyclopedia Britannica
• “Finance is management of the monetary affairs of human beings or organizations.”
• “Finance is a term broadly describing the study and system of money, investments, and other financial instruments.”

From the above definitions, it cleared that finance means art and science of money management. It includes capital,
investment and funds. Finance provides money for purchase goods and services and payments of debts. Money not
everything, for achieving anything require money. So money is an instrument or means for achieving everything in
human life. Basically finance relates collection of money and utilization of money as per the requirement or achieving
some objectives.
Henry Ford rightly said, “Money is an arm or leg. You either use it or lose it.” The Sanskrit saying “arthah-sachivah”
which means “Finance reigns supreme”, from this statements finance has significance for human and organization.

Features
1. Provision: Money require for every purpose of human and business, Human or organization not raise immediately
when required, so make the provision of money before required. Human require money before birth, during the life
and after the death. Before birth means for delivery expenses, during the life means for the satisfying the various
wants and after death for required funeral purpose. Business organization require money for starting business,
purchase of fixed assets and goods, payments of salary and wages employees, payment of production expenditure,
administrative expenditure and marketing expenditure. Even after closing the accounting year. Money require to
payment of interest, taxes to government and profits to owners. Money also require after closing of business for
payment of liabilities. So business requires proper provision of money.
2. Key to all: Finance is most important part of any human and business. Without finance business cannot do anything.
It is the supreme controlling factor of the organization. Finance provides money for other functions of organization
(purchase, production, marketing and general administration). So Finance is the central theme of business
organization.
3. Measurement: Finance concerned with measurement of assets of the organization. It provides value for every factor
of the organization. By the finance, we know the cost of capital expenditure and profitability of business factors. It
concerned with cash or business transactions which are ultimately expressed in terms of money.
4. Facilitates cooperation: In the organization total work divided into various departments. The every department of
the organization directly linked with finance department. It creates mutual understanding and formal relationship
between various departments. The success of organization depends upon the team work. Finance considers

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 circulating body system of economic body (business). By the mutual understanding & formal relationship facilitates
cooperation and coordination in the organization.
5. For Particular period: Finance arranged for particular period and as per the requirement. It may be for short term
(less than 1 year), medium term (more than 1 year and up to 5 years) and long term (more than 5 years)
6. Satisfying needs: Finance provide money for satisfaction of various needs of the human and organization. Long
term finance use for fixed capital requirement and short term finance use for working capital needs of the
organization. It also provides money for the payment of expenditure, taxes to government, returns to investors,
liabilities and expansion of business.
7. Encourage other activities: Finance encourages other activities of the human and business. It provides money as per
requirement on particular time. It creates control on the utilization of funds and other assets. Due to control other
department encourage for higher efficiency, so finance considered key determinant of the success of business.
8. Type:
a) Personal Finance: When financial activities used by any individual person for satisfying own needs, it is
known as Personal Finance.
b) Public Finance: When financial activities used by central government, state government and public body for
satisfying public needs & social welfare of society, is known as Public Finance or Government Finance.
c) Business (Corporate) Finance: When financial activities used by business for satisfying business needs, is
known as Business Finance. It is business activity concerned with acquisition and utilization of capital funds
satisfying financial needs and overall objectives of business enterprise. It is a planning, collecting, utilizing,
controlling and administering of financial activities of business.

Corporate Finance
In the Sole Trading Concern, Joint Hindu Family Business and Partnership firm are owned, managed and
controlled by the owners. These are expert in business knowledge and they have little bit knowledge regarding financial
activities. They raised maximum funds from the owned sources. These organizations finance not consider financial
management or corporate finance. But in the Joint Stock Company ownership and management are separate from each
other. Company appoints he experts for managing financial activities, that time Business finance considered Corporate
Finance. It deals with financial matters of corporate organization. Corporate finance includes planning, raising, investing
and monitoring of finance in order to achieve the financial objectives of the company.
Definitions
• “Corporation finance deals primarily with acquisition and use of capital by Business Corporation.”_______ Henry
Hoagland
• “Corporate Finance is the process of matching capital needs to the operations of a business.”

From the above definitions, it cleared that Corporate Finance related with raising capital funds, for satisfaction of
various requirement of the company. It is the study of capital, financial and investment decision making with the main
aim of maximizing capital market shares value and returns for shareholders entailing greater capital accumulation and
greater capital formation generally resulting in greater wealth for the corporate entity. It also includes financial
planning, capital formation, money market, capital market, share market, financial institutions, and foreign capital
market. It aims at mobilization of funds at a lower cost and use of these funds in the most profitable activities.

Scope (5 A’s) / Decisions of Corporate Finance / Functions of Chief Financial Officer

In the corporate organization the functions of the Chief Financial Officer or Finance Manager can be explained in terms
of the following decisions.

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1. Anticipation / Forecasting of Financial Requirement Decision: Forecasting of finance means projection of financial
needs of business. Corporate finance estimates the funds with consideration of fixed & working capital. Organization
requires the finance for particular period for satisfying different needs before forecasting the finance. CFO analysis
the each & every factor relate to the financial requirement of the organization. It includes financial needs, duration
funds, sources of funds, timing of supply of funds and other factors.
2. Acquisition/ Financing Decision: The provision of funds required at the proper time is one of the primary tasks of
finance manager. Company access to capital market to fulfills its financial needs. It is concerned with decisions of
how much funds are to be raised from which long term source, i.e. by means of shareholders’ funds or borrowed
funds. Shareholders’ funds include share capital, reserve and surplus and retained earnings, whereas, borrowed
funds include debentures, long-term Bank loans and public deposits. The finance manager first calculates the
requirement of funds and as per the requirement considered various capital investment proposal and select the best
source for the organization. This decision known as financing decision of corporate finance. This decision affects by
various factors such as cost of raising funds, risk, floatation cost, cash flow position, fixed operating cost, control
consideration, return on investment, trends of capital market, tax rate, flexibility, Regulatory Framework, etc.
3. Allocation/ Investment Decision: This decision regarding utilization of funds. This comprises decisions relating
investment in both fixed and current assets. Long term assets or fixed assets such as Land & Building, Plant &
Machinery, Furniture & Fixtures, Tools and Equipment, etc. The decision regarding long term assets or fixed assets
are known as Capital Budgeting. Organization also require short term assets or current assets such as Cash, Cash at
Bank, Sundry Debtors, Bills Receivables, closing stock or Inventory, Prepaid Expenses, etc. The investment decision
regarding current assets known as Working Capital Management. Corporate finance provide the guidelines to the
organization regarding efficient use of various funds, maintain balance between fixed assets and current assets and
provide maximum returns to its owners.
4. Appropriation/ Dividend Decision: The framing of dividend policy is another important function of finance manager.
The dividend involves the determination of the percentage of profits earned by the enterprises which is to be paid
its shareholders. The dividend policy depends on earnings, cash flow position, shareholder preferences, tax
provisions, legal provisions, trends in capital market, stock market reactions and requirement of the company.
5. Assessment/ Checking and Analysis (Auditing): Organization conduct the analysis of various financial statements
which helps in improving techniques of financial control. In this function finance manager verify the forecasting,
financing, investment and dividend decision. If plan not successful, he undertakes corrective action for achievement
of goals. For assessment purpose CFO use various techniques such as ratio analysis, BEP analysis, standard costing,
stock valuation methods, depreciation methods, pricing methods, PV factor method, LPP method, ABC Costing, etc.

Importance
1. Helps in Decision making: Finance is a central theme of any organization. There are several decisions made or
prepared based on availability of finance from various sources. Every activities of the business require finance. When
a business has got to begin a brand new project, it must give consideration to whether or not it would be financially
practical and if it would yield expected profits. Whereas investing in an innovative new venture or perhaps a brand
new undertaking, your business must see countless things such as availability of budget, enough time taken for
finalization, and more. Thereafter considering various factors an appropriate decision has to be made accordingly.
2. Helps in Capital Raising for a project: Once an organization has decided to start new project, there is an utmost
importance of corporate finance to raise capital. It can be collected by issuing equity shares, preference shares,
debentures, bonds, taking financial loans from the banks and more. All of this is can be managing proper ways of
corporate finances.
3. Helps in Research and Development: Corporate Finance is required for Research and Development. Today, a
company cannot survive without continuous research and development. The company has to go on making changes
in its old products. It must also invent new products. If not, it will be getting automatically thrown out of the market.
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 The research and development depend on innovations, market analysis, customer survey, competition level, etc.
There is an importance of corporate finance in all these activities as financial support is always a backbone for it.
4. Helps in smooth running of business firm: The corporate finance use the various financing method and technique
for conducting the business smoothly. It is also provide working capital to business for paying day-to-day expenses,
advertising, sales promotion, distribution, etc. All the wages to employee’s would-be paid timely, financing
installments would-be paid on timely basis, new / repair for existing plants and machinery, research and
development for new / existing products, payments to raw materials suppliers, distributors, advertising,
promotional campaigns can be done timely. A company cannot run smoothly without finance.
5. Coordination: It is the supreme controlling factor of the organization. Finance provides money for other functions of
organization such as purchase, production, marketing and general administration. In the organization total work
divided into various departments. The every department of the organization directly linked with finance
department. It creates mutual understanding and formal relationship between various departments. The success of
organization depends upon the team work. Finance considers circulating body system of economic body (business).
By the mutual understanding & formal relationship facilitates cooperation and coordination in the organization.
6. Promotes Expansion and Diversification: Expansion means to increase the size of the company. Diversification
means to produce and sell new products. Modern machines and modern techniques are needed for expansion and
diversification. Finance is needed for purchasing modern machines and modern technology. Finance Manager uses
the financing and investment decision for this. So, Corporate Finance promotes expansion and diversification of a
company.
7. Managing Risks/ Challenges: The Company has to manage several risks such as sudden fall in sales, loss due to
natural calamity, loss due to court case, loss due to strikes, loss due to lockdown, etc. The company needs finance to
manage these risks. For some of the high risk areas you can buy some best insurance plans.
8. Replace old Assets: Plant and Machinery are the main assets of the company. They are used for producing goods
and services. However, after some years, these assets become old and outdated. They have to be replaced by new
assets. Finance is needed for replacement of old assets. That is, finance is needed to buy new assets.
9. Payments of Returns: The Company has to pay dividends to the shareholders and interest to the debenture holders,
bondholder, banks, etc. on their investment. It also has to repay the loans. Finance is needed to pay dividends and
interest.
10. Payments of Tax/Fees: There are many government agencies such as Income Tax authorities, Sales Tax authorities,
Registrar of Companies, Excise authorities, etc. The company has to pay taxes and duties to these agencies. Finance
is needed for paying these taxes and duties.

Conclusion: There is an importance of Corporate Finance in overall operation, growth of your business. You can appoint
finance consultants or advisers for assisting business owners as well as people by providing them with most important
insight with marketing research as well as financial solutions. This helps companies to make appropriate choices of
expand any business; as well as survive in a competing markets eventually. This means, that management of corporate
finance is important for survival and growth of any organizations.

Capital Requirements
When a business entrepreneur/ promoter conceive an idea of setting up a business enterprise and then verify
the idea of business. After satisfaction with the feasibility of the project, take step for starting the project. The first step
is to forecast the financial requirement to start and run the business. In the step entrepreneur take all precautions and
frame the Financial Plan. It is assessment of financial requirement and arranging sources of capital. It involves the
determination of both long-term and short-term financial objectives, formulating financial decisions and development of
procedure in implementing the firm’s policies. For proper financial planning entrepreneur can take advice from financial
consultants or advisers. It includes the fixed capital requirement and working capital requirement.
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Fixed Capital
Company collects finance for different purpose and requirement of business. When company collects finance for
long term period (more than 5years) and invests this money in permanent assets of business is known as fixed capital.

Definitions
 “Fixed capital also circulates the circulation time is much longer.”_______ Karl Marx
 “This is money which is used to purchase assets that will remain permanently in business and helps it to make
profit.”
 “Fixed Capital is a portion of the total capital invested in the fixed assets (Land and Building, Plant and
Machinery, Furniture and Fixtures, Tools and Equipment, Patents, Copyrights, etc.) that stay in business almost
permanently or at the very least circulates and more than one accounting period.”
From the above definition it is cleared that fixed capital means money investment in fixed assets which is used for
long term basis. It is required for establishment of business and helps the production. The decision regarding fixed
capital is also known as capital budgeting.
Initial planning of fixed capital requirement is made by company’s promoters. For this they first prepare a list of
fixed assets required for the business and cost of these assets is estimated. They collect information price of various
fixed assets then prepare the fixed capital requirement of new firm. In recent years, estimating fixed capital requirement
has assumed great importance particularly because of modern industrial process which requires increased use of heavy
and automated machineries. Company obtains funds for the purchase of fixed assets from capital market. Funding can
come from issue of shares, debentures, bonds or obtaining even long term loans.

Factors Affecting Fixed Capital Requirement

1. Nature of business: - The nature of business determined the amount of fixed capital requirement as follows,
Nature Requirement of capital
Manufacturing and Public Utilities More
Trading Company Less
Service – Transport, Electricity Supply, Hotels More
Manufacturing and Public utilities require huge amount of investment in land & building, plant &
machinery, tools & equipment, patents, copyrights, etc. Hence they require more fixed capital compare to other.

2. Size of Business: - Size of business also affect amount of fixed capital. Size may be measured in terms of scale of
operations.
Size Requirement of capital
Large Scale Manufacturing Company More
Small Scale Manufacturing Company Less
Large Scale Trading Company More
(Departmental Stores, shopping mall)
Small Scale Trading Company (Retailers) Less

3. Type of Product Manufactured: - Product is anything offers by seller or manufacturer to the market. Product is
sellable outcome of series of production sources. Every product has different utility in that aims satisfy the end-
users needs. The amounts of fixed capital also depend upon type of product manufactured.
Type of Product Requirement of capital
Industrial Goods More
(Machineries, Tools, Equipment)
Consumer Goods Less

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 4. Method of Production: - Company use different types of methods for manufacturing product. This method also
affect requirement of fixed capital.
Method of Production Requirement of capital
Large and Complex (Involves many processes) More
Small and Simple (Very few processes) Less

5. Methods of Acquiring Assets: - It is a specific way adopted to take possession for using fixed assets for business.
Lease is a contract by which one person grants possession of some of his property especially land, building or
machinery to another for a certain period of time. For acquiring fixed assets use any following method as per
their business requirement.
Method of Acquiring Assets Requirement of capital
Rental/ Lease Less
Old Assets Less
Installment/ Loan/Hire Purchase Less at beginning
On Cash (Direct Purchase) More

6. Arrangement of Sub-contract: - In large scale organization outsourcing the sub-contract to another company
and minimizes the expenditure of production. By this method company minimize the fixed capital requirement
of business. E.g. Automobile industries outsourcing the sub-contract of sound system, glass work and others.

7. Government Subsidy/ Acquisition of assets on concessional rate: - For the promotion of regional level growth,
the government may provide land & building, materials at concessional rates. Plant & Machineries and Tools &
Equipment may also be made available on installment basis, due to this reduce the requirement of fixed capital.

8. International Conditions: - This factor is very significant particularly in large organizations carrying on
international level. For example: Companies expecting war may decide to invest large funds to expand fixed
assets before there is shortage of materials.

9. Trend in Economy: - If the future of the company is anticipated to be bright, it gives green signal to business
entrepreneur to carry sorts of expansion of business firm. In that case, large amount of funds are invested in
fixed assets so as to reap the benefits in future.

10. Population Trend: - When the population is increasing at high rate, certain manufactures find this as an
opportunity to expand business. So company must increase requirement of fixed capital. E.g. automobile
industry – without gear car, battery bas car., Electronic Goods Manufacturing Industry – CFL to LED

11. Consumer Preference: - Industries providing goods and services which are in good demand will require large
amount of fixed capital. For example Mobile phone manufactures as well as mobile network providers, Cable
network also enter into internet network

12. Competitive Factor: - This factor also affect requirement of fixed capital. As per the competition increase the
requirement of fixed capital. If one of the competitor’s shifts to automation or new technology, the other
companies in the same line of activity, will be followed them. E.g. Automobile industry, Telecom industry,
Mobile Industry, Electronic Industry, Education, Hotel Industry, Aviation Industry etc.

Working Capital
Company collects finance for different purpose and requirement of business. Company collects finance
purchasing fixed assets and working assets for the business, the requirement of fixed assets known Fixed Capital and

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requirement of working/ current assets known as Working Capital. It is portion of total capital which represents surplus
current assets over current liabilities.

Definitions

 “The excess of current assets over current liabilities” _____ Gerestenberg

 “The sum of current assets is working capital.” ________ J.S. Mill
 “Working capital means current assets.” _______Mead, Baker & Mallot
 “Working capital refers to a firm investment in short term assets – cash, short term securities, account receivables
and inventories.” ______Western & Brigham
 “Working Capital is the amount of funds necessary to cover the cost of operating the enterprises”. ______ Shubin,

From the above definition, it is cleared that working capital means which capital required for company for day to
day activities of business. It is the amount of funds necessary to cover cost of operating enterprise. This capital relate to
daily business of the organization. It ensures the financial solvency of business. This capital daily changed, so it also
known as variable capital or circulating capital. It is used for purchase raw material, conversion of raw material into
finished goods and these finished goods sell in market. The decision regarding the working capital is known as working
capital management. Normally these decisions are taken by middle and lower level management.

Two View Points

1. Gross Working Capital: - It is equal to the value of current assets. It is the amount of funds invested in the various
components of current assets. It is considered all current assets. It is a general and quantitative concept. It has a
broader approach. It provides a more objective basis of determining the type and amount of financing. It is used in
financial management and suitable for joint stock companies. This view is supported by authors, viz., J.S. Mill,
Western & Brigham, Field, Baker, Malott and Mead. They argue that if the fixed assets constitute fixed capital
logically current assets should be taken to mean the working capital.

Gross Working Capital = Current Assets

2. Net Working Capital: - It is the difference between current assets and current liabilities. It is a specific and
qualitative concept. It has a narrow approach. The concept of net working capital enables a firm to determine how
much amount is left for operational requirements. It is used in accounting and suitable for sole traders and
partnership firms. This view is supported by authors, viz., Lincoln, Saliers, Hoagland, Gerstenberg and Stevens. They
argue that this view helps the investors and creditors to judge the financial soundness and margin of protection. The
surplus can be relied upon to meet contingencies.

Net Working Capital = Current Assets – Current Liabilities

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Cyclical flow of Working Capital
Working Capital cycle (WCC) refers to the time taken by an organization to convert its net current assets and
current liabilities into cash. The cycle starts with the purchase of raw material and other resources and ends with the
realization of cash from the sale of finished goods. Company purchased the various fixed assets for the business and
then purchased the raw material for production either on credit or on cash. These raw materials are converted into
finished goods with help of plant & machineries and labors. These finished goods sale in the market to the customers
with profit on cash or credit. Company collected cash from market. It is a complete the cycle of working capital.

Cash

Sales Raw
Materials

Finished
Goods

Factors Affecting the Working Capital Requirements/ Determinants of Working Capital

1. Nature of Business: - Firm’s working capital requirements are basically related to type of business it conducts.
Nature of Business Requirement of Capital
Manufacturing Company & Public Utilities
Luxurious products More
Essential products/Continuous flow of cash Less
Trading Company / Merchandising Firm More
Service Company
Financial (Bank, insurance) More
Other (Transport) Less
Public utility undertakings like Electricity, Water Supply, Bus Transport and the Railways need very
limited working capital because they offer cash sales only and supply services, not product, and such as no funds
are blocked in inventories and receivables. Generally trading/ merchandising and financial firms require
relatively large amount of working capital as compared to manufacturing units, because they maintain huge
stock-in-trade, account receivables and liquid cash.

2. Size of Business: - There is direct link between working capital and size of business. Large scale organizations
require more working capital compare to small scale organizations.

3. Volume of Sales: - The volume of sale also affect requirement of working capital. The volume of sales and size of
working capital are directly related with each other. If the volume of sale increases, increase the amount of
working capital and vice versa.

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4. Production Cycle: - Production cycle is the time span between the receipt of raw material and their conversion
into finished goods. It is a process of converting raw material into finished goods.
Production Cycle Requirement of Capital
Longer Period (Textiles) More
Smaller Period (Automobiles) Less

5. Business cycle: - Business cycle means upward and downward swing of economy. Upward swing of economy is
boom and downward swing of economy is recession. In boom period, increase demand of product in the
market, so organization increases the production level means require more working capital. In the recession
period, decline the demand of product in market, that time company minimize the production. In these
situations company reduced the working capital. In Recovery period company requires to invest money in the
marketing activities, also means require more working capital.

6. Terms of Purchase and Sales/ Credit Policy: - Credit policy of a concern means how firm deal with their debtors
and creditors. Concern purchase on credit and sells its products/service on cash require less working capital. If
the concern buy its requirements for cash and allow credit to its customers will require more working capital
since huge fund will be tied up in debtors or receivables
Terms of Purchase and Sales Requirement of Capital
Cash Purchase & Credit Sales More
Credit Purchase & Cash Sales Less

7. Credit control: - Credit control includes the factors such as volume of credit sales, terms of sales and collection
policy from the debtors. Company applies two types of credit policy.
Credit Control Effect Requirement of Capital
Liberal Credit Policy High credit sales, less More
collection, high bad debts
Conservative / Tight Credit Policy Lower credit sales, more Less
collection, less bad debts

8. Availability of Raw Material: - If organization use raw material which is available on seasonable or with irregular
basis that time company require to maintain huge stock of raw material, so require more working capital. The
organization make use of raw material which is available throughout the year that time company not require to
maintain huge stock of raw material, so require less working capital.

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 9. Growth and Expansion: - In Growth and Expansion Company increase the production and sales, for these
purposes require more working capital.

10. Management Ability: - Management abilities also affect the requirement of working capital. Proper
management creates coordination and cooperation between purchase, production, marketing and distribution
of goods. Proper management minimizes the requirement of working capital.

11. Level of Competition: If the market is competitive then company will have to adopt liberal credit policy and to
supply goods on time. Higher inventories have to be maintained so more working capital is required. A business
with less competition or with monopoly position will require less working capital as it can dictate terms
according to its own requirements.

12. External Factors: - The external factors also affect the requirement of working capital, if financial institutions
and banks easily provide the finance to business, that time require less working capital.

Capital Structure
The basic concept of finance is capital. Company can collect capital from different sources, i.e. owned capital or
borrowed capital or both. The scientifically arrangement of various sources of finance as per the requirement of the
business is known as capital structure.

Definition
• “It is a financial mix; it includes proportion of different securities raised by organization for long term.”

• “Capital Structure refers to the combination /composition of long term funds comprising mainly shares holder
funds, long term loans and debentures.”

• “Long term sources of funds employed in business enterprise.” ___ R.H. Wessel

• “A mix-up of various sources of funds in desired proportion.”

• “A Firm’s capital structure is the relation between the debt and equity securities that makes up the firms of its
assets.” ____ John Hampton

From the above definition, it is cleared that capital is the ratio of different securities used by the organization for
capital collection. It include mainly long term sources of capital such as equity shares, preference shares, debentures,
bonds and long term loans. It is collection pattern or ratio of owned capital and borrowed capital. It affects the
profitability and financial risk of the organization. While deciding the capital structure the company considers the
profitability, flexibility, capacity, solvency, and control factors of the business.

Principles of Capital Structure

1. The ratio of ‘debt to equity’ should always be geared to the degree of stability of earning. It means company raise
more amount from the borrowed funds compare to owned funds, but consider stability of business.
2. The capital structure must be balanced with adequate ‘equity cushion’ to absorb the shocks of the business cycle
and to afford flexibility. It means changes of business cycle easily covered by company.

Components/ Parts of Capital Structure

A. Owned Capital: - Owned Capital consists of the amount contributed by owners as well as the profits reinvested
in the business. It does not create any obligations regarding payment of return as well as repayment of capital. It
is issued in the initial stage of the company. Company provide dividend as a return on owned capital. The
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 dividend rate always fluctuates. It is repayable at the time of winding up of the company. The owned capital
providers are known as Shareholder/Owners/Members of the company. The owner enjoys voting rights as well
as management rights. It is collected by issue of Equity shares, Preference Shares and Retained Earnings.

a. Equity share Capital: -Those shares do not enjoy any preference in the payment of dividend and
repayment of capital at the time of winding up of a company is known as Equity shares. It is a basic
source of finance. Every company must raise capital by issue of equity shares. Equity shareholders are
real owners of the company. They enjoy all membership rights such as voting and management. They
get dividend at fluctuating rate depending upon the profits.

b. Preference share Capital: -preference shares enjoy preference in the payment of dividend and
repayment of capital at the time of winding up of the company. They do not carry normal voting rights.
They get dividend at fixed rate.

c. Retained Earnings: - An existing company can generate finance through its internal sources. It is
cheapest and simplest source of finance. A company earns profit by the transactions. The whole profit is
not distributed into owners as a dividend; retain some part of profit as a saving for provision of future.
This saving is known as retained earnings. The policy of using such retained profit in the business is
known as ‘Self-financing’ or ‘Ploughing back of Profit’. The management can convert this retained profit
into permanent capital which is known as ‘Capitalization of Profit’. By issuing bonus shares to the
existing equity shareholders at free of cost.

B. Borrowed Capital: - Borrowed capital consists of the amount raised by way of loan or credit. It creates fixed
obligations regarding payment of return and repayment of capital at a particular period. This capital cannot use
up to dissolution of business; it was repaid after specific period. They get fixed rate of interest on their
investment. They not bear risk of the organization. It is safe and temporary capital of the organization. They are
creditor of the organization. They not enjoy any voting and management rights in the organization. It collects by
issue debentures, bonds and obtains loans from financial institutions.

a. Debentures: - Debenture is a document issued by a company as an evidence of a debt due from the
company with or without a charge on the assets of the company. It is one of the capital market
instruments which are used to raise medium or long term funds from public. Debenture holder gets
interest as return on investment. They are considered creditors of the company.

b. Bonds: - A bond is an interest bearing certificate issued by a government or business firm, promising to
pay the holder a specific sum at a specified date. It is a formal contract or written promise to repay
borrowed money with interest on particular date. The maturity period of bond is more than debentures.
The bond holders are creditors of the company.

c. Long Term Loans: - After independence Indian government establish various banks and financial
institution for long term finance as well as short term finance to business such as IFCI, IRBI, ICICI, IDBI,
LIC, GIC, UTI, SIDBI, EXIM Bank, TDCI and others. Commercial banks also provide long term finance to
business sector.

Capital Structure = Equity Share + Preference Share + Retained Earnings + Debenture + Bonds + Long Term Loans

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