SOURCES OF FINANCE

BY:
ANUJA RASTOGI
 SOURCES OF FINANCE
The business requires three types of finance
namely:
1. Short term finance
2. Medium term finance
3. Long term finance
 Short term finance
• Short term financing means financing for a
period of less than 1 year.
• The need for short-term finance arises to
finance the current assets of a business like an
inventory of raw material and finished goods,
debtors, minimum cash and bank balance etc.
• Short-term financing is also named as working
capital financing.
 Short term finance
• Short term finances are available in the form of:
1. Trade Credit
2. Bank credit
 Loans and advances
 Cash credit
 Overdraft
 Bill Discounting
3. Fixed Deposits for a period of 1 year or less
4. Advances received from customers
5. Factoring Services
 Trade Credit
• Trade credit refers to credit granted to
manufactures and traders by the suppliers of
raw material, finished goods, components,
etc.

• This type of credit does not make the funds

available in cash but it facilitates purchases
without making immediate payment.
 Bank Credit
• Commercial banks grant short-term finance to
business firms which is known as bank credit.
• When bank credit is granted, the borrower
gets a right to draw the amount of credit at
one time or in installments as and when
needed.
• Bank credit may be granted by way of loans,
cash credit, overdraft and discounted bills.
 Loans
• When a certain amount is advanced by a bank
repayable after a specified period, it is known
as bank loan.

• It is credited to a separate loan account and

the borrower has to pay interest on the whole
amount of loan irrespective of the amount of
loan actually drawn.
 Cash Credit
• Banks allow the borrower to withdraw money
up to a specified limit. This limit is known as
cash credit limit.
• Initially this limit is granted for one year, but
can be reviewed and extended for another
year. However, if the borrower still desires to
continue the limit, it must be renewed after
three years.
 Overdraft
• When a bank allows its depositors or account
holders to withdraw money in excess of the
balance in his account up to a specified limit, it
is known as overdraft facility.
 Discounting of Bills
• Banks also advance money by discounting bills
of exchange, promissory notes. When these
documents are presented before the bank for
discounting, banks credit the amount to
customer’s account after deducting discount.
• A bill of exchange is a document acknowledging
an amount of money owed in consideration of
goods received. It is a paper signed by the
debtor and the creditor for fixed amount
payable on a fixed date.
 Factoring services
• Factoring is a financial transaction and a type
of debtor finance in which a
business sells its accounts
receivable (i.e., invoices) to a third party
(called a factor) at a discount.
•  A business will sometimes factor its
receivable assets to meet its present and
immediate cash needs.
 Customers’ Advances
• Sometimes businessmen insist on their customers to
make some advance payment. It is generally asked
when the value of order is quite large or things
ordered are very costly.
• Customers’ advance represents a part of the
payment towards price on the product (s) which will
be delivered at a later date.
• Customers generally agree to make advances when
such goods are not easily available in the market or
there is an urgent need of goods.
 Medium term financing
• Medium term financing means financing for a period of 3 to 5
years.
• Medium term financing sources can in the form of one of them:
• Preference Capital or Preference Shares
• Debenture / Bonds
• Medium Term Loans from
– Financial Institutions
– Government, and
– Commercial Banks
• Lease Finance
• Hire Purchase Finance
 Debentures

• If a company needs funds for extension and

development purpose without increasing its
share capital, it can borrow from the general
public by issuing certificates for a fixed period
of time and at a fixed rate of interest. Such a
loan certificate is called a debenture.
• Debentures are offered to the public for
subscription in the same way as for issue of
equity shares.
 Lease finance
• The owner of an asset gives another person, the right to
use that asset against periodical payments.
• The owner of the asset is known as lessor and the user is
called lessee.
• The periodical payment made by the lessee to the lessor is
known as lease rental.
• Under lease financing, lessee is given the right to use the
asset but the ownership lies with the lessor and at the end
of the lease contract, the asset is returned to the lessor or
an option is given to the lessee either to purchase the asset
or to renew the lease agreement.
 Hire purchase finance
• HP is a financing solution suitable for
businesses wishing to purchase assets without
paying the full value immediately.
• The customer pays an initial deposit, with the
remainder of the balance and interest paid
over a period of time.
• On completion, ownership of the asset
transfers to the customer.
 Long term financing
• Long-term financing means capital
requirements for a period of more than 5
years to 10, 15, 20 years or maybe more
depending on other factors.
• Capital expenditures in fixed assets like plant
and machinery, land and building, etc of
business are funded using long-term sources
of finance.
 Long term financing
• Long-term financing sources can be in the form of
any of them:
• Share Capital or Equity Shares
• Preference Capital or Preference Shares
• Retained Earnings or Internal Accruals
• Debenture / Bonds
• Term Loans from Financial Institutes, Government,
and Commercial Banks
• Venture capital
 Share Capital
Ordinary Shares
• Ordinary shares are also known as equity
shares. An ordinary share gives the right to its
owner to share in the profits of the company
(dividends) and to vote at general meetings of
the company.
• Since the profits of companies can vary widely
from year to year, so can the dividends paid to
ordinary shareholders.
 Preference Shares

• Preference shares offer their owners preferences over ordinary

shareholders. There are two major differences between
ordinary and preference shares:
• Preference shareholders are often entitled to a fixed dividend
even when ordinary shareholders are not.
• Note, that if by any chance a company cannot pay its
preference share dividend then it cannot pay any ordinary
share dividend since the preference shareholders have the
right to receive their dividend before the ordinary
shareholders under all circumstances - hence the term
'preference'.
• Preference shares are usually cumulative and this means that
if this year's dividend wasn't paid, then it will be carried
forward to next year.
 Venture capital
• Venture capital is a form of private equity and a
type of financing that investors provide
to startup companies and small businesses that
are believed to have long-term growth potential.
•  Venture capital generally comes from well-off
investors, investment banks and any other
financial institutions.
• Example: Accel Partners funded Flipkart,
Babyoye, BookMyShow, Myntra.