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184, , (i) Retained earnings is a permanent, source of funds available to an, organisation;, , It does not involve any explicit cost, , in the form of interest, dividend or, , floatation cost;, , (ii) As the funds are generated, internally, there is a greater, degree of operational freedom and, flexibility;, , {iv) It enhances the capacity of the, , business to absorb unexpected, , losses;, , It may lead to increase in the, , market price of the equity shares, , of a company., , (ii), , (vy), , Limitations, , Retained earning as a source of funds, , has the following limitations:, , (i) Excessive ploughing back may, cause dissatisfaction amongst the, shareholders as they would get, lower dividends;, , (ii) It is an uncertain source of funds, as the profits of business are, fluctuating;, , (iii) The opportunity cost associated, with these funds is not recognised, by many firms. This may lead to, sub-optimal use of the funds., , 8.4.2 Trade Credit, , Trade credit is the credit extended, by one trader to another for the, purchase of goods and services. Trade, credit facilitates the purchase of, , BUSINESS STUDIES, , creditors’ or ‘accounts payable’. Trade, , cre, , dit is commonly used by business, , organisations as a source of shortterm financing. It is granted to those, customers who have reasonable, amount of financial standing and, goodwill. The volume and period of, credit extended depends on factors, such as reputation of the purchasing, firm, financial position of the seller,, volume of purchases, past record of, payment and degree of competition in, the market. Terms of trade credit may, vary from one industry to another and, from one person to another. A firm, may also offer different credit terms to, different customers., , Merits, , The important merits of trade credit, are as follows:, , (i, , (ii, , , , (iv, , supplies without immediate payment. (V, , Such credit appears in the records, , of the buyer of goods as ‘sundry, 2021-22, , SOURCES OF BUSINESS FINANCE, , Limitations (b), , Trade credit as a source of funds has, , certain limitations, which are given, as follows:, , (i) Availability of easy and flexible, , trade credit facilities may induce, , a firm to indulge in overtrading,, , which may add to the risks of the, firm;, , (ii) Only limited amount of funds can, , be generated through trade credit;, , (iii) It is generally a costly source of, , ) Trade credit is a convenient and, continuous source of funds;, , ) Trade credit may be readily, , available in case the credit, , worthiness of the customers is, , known to the seller;, , Trade credit needs to promote the, , sales of an organisation;, , ) If an organisation wants to, , increase its inventory level in, , order to meet expected rise in the, , sales volume in the near future,, , it may use trade credit to, finance, , the same;, , It does not create any charge, , on the assets of the firm while, , providing funds., , 185, , Providing information about credit, worthiness of prospective client’s, etc., Factors hold large amounts, of information about the trading, histories of the firms. This can, be valuable to those who are, using factoring services and can, thereby avoid doing business with, customers having poor payment, record. Factors may also offer, relevant consultancy services in the, areas of finance, marketing, etc., The factor charves fees far

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188, , 8.4.5 Public Deposits, , The deposits that are raised by, organisations directly from the public, are known as public deposits. Rates, of interest offered on public deposits, are usually higher than that offered, on bank deposits. Any person who is, interested in depositing money in an, organisation can do so by filling up, a prescribed form. The organisation, in return issues a deposit receipt as, acknowledgment of the debt. Public, deposits can take care of both medium, and short-term financial requirements, of a business. The deposits are, beneficial to both the depositor as, well as to the organisation. While the, depositors get higher interest rate, than that offered by banks, the cost of, deposits to the company is less than, the cost of borrowings from banks., Companies generally invite public, deposits for a period upto three years., The acceptance of public deposits is, regulated by the Reserve Bank of India., , Merits, , The merits of public deposits are:, , (i) The procedure of obtaining, deposits is simple and does not, contain restrictive conditions, as are generally there in a loan, agreement;, , (ii) Cost of public deposits is, , generally lower than the cost, of borrowings from banks and, financial institutions;, Public deposits do not usually, create any charge on the assets of, the company. The assets can be, used as security for raising loans, from other sources;, , (iii), , BUSINESS STUDIES, , (iv) As the depositors do not have, voting rights, the control of the, company is not diluted., , Limitations, , The major limitation of public deposits, are as follows:, , (i) New companies generally find it, difficult to raise funds through, public deposits;, , (ii) Itis an unreliable source of finance, as the public may not respond, when the company needs money;, Collection of public deposits may, prove difficult, particularly when, the size of deposits required is, large., , (iii), , 8.4.6 Commercial Paper, , Commercial Paper (CP) is an unsecu;, money market instrument issue:, the form of a promissory note. It, introduced in India in 1990 for enab!, highly rated corporate borrowers to, diversify their sources of short-term, borrowings and to provide an additional, instrument to investors. Subsequently,, primary dealers and all-India financial, institutions were also permitted to, issue CP to enable them to meet their, short-term funding requirements for, their operations. Individuals, banking, companies, other corporate bodies, (registered or incorporated in India), and unincorporated bodies, NonResident Indians (NRIs) and Foreign, Institutional Investors (FIIs) ete. can, invest in CPs. CP can be issued for, maturities between a minimum of 7, days and a maximum of up to one year, from the date of issue in denominations, , 2021-22, , SOURCES OF BUSINESS FINANCE, , of Rs.5 lakh or multiples thereof., However, the maturity date of the CP, should not go beyond the date up to, which the credit rating of the issuer, is valid., , Merits, , 189, , (iii) Commercial paper is an, impersonal method of financing., As such if a firm is not in a, position to redeem its paper, due to financial difficulties,, extending the maturity of a CP is, not possible., , i

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of equity shareholders over, the management as preference, shareholders don’t have voting, rights;, , Payment of fixed rate of dividend, to preference shares may enable, a company to declare higher, rates of dividend for the equity, shareholders in good times;, , , , (iv), , 8.4.8 Debentures, , Debentures are an important, instrument for raising long term debt, capital. A company can raise funds, through issue of debentures, which, bear a fixed rate of interest. The, debenture issued by a company is an, acknowledgment that the company, , 2021-22, , 192, , has borrowed a certain amount of, money, which it promises to repay at, a future date. Debenture holders are,, therefore, termed as creditors of the, company. Debenture holders are paid, a fixed stated amount of interest at, specified intervals say six months or, one year. Public issue of debentures, requires that the issue be rated by a, credit rating agency like CRISIL (Credit, Rating and Information Services of, India Ltd.) on aspects like track record, of the company, its profitability, debt, servicing capacity, credit worthiness, and the perceived risk of lending. A, company can issue different types of, debentures (see Box C and D). Issue of, Zero Interest Debentures (ZID) which, do not carry any explicit rate of interest, has also become popular in recent, years. The difference between the face, value of the debenture and its purchase, price is the return to the investor., , BUSINESS STUDIES, , Merits, , The merits of raising funds through, , debentures are given as follows:, , (i) It is preferred by investors who, want fixed income at lesser risk;, Debentures are fixed charge funds, and do not participate in profits, of the company;, , The issue of debentures is suitable, , in the situation when the sales, , and earnings are relatively stable;, , As debentures do not carry, , voting rights, financing through, , debentures does not dilute, control of equity shareholders on, management;, , (v) Financing through debentures is, less costly as compared to cost of, preference or equity capital as the, interest payment on debentures is, tax deductible., , (ii), , (iii), , (iv), , , , Box B, Types of Preference Shares, , 1. Cumulative and Non-Cumulative: The preference shares which enjoy the, right to accumulate unpaid dividends in the future years, in case the same, is not paid during a year are known as cumulative preference shares. On, the other hand, on non-cumulative shares, dividend is not accumulated if, it is not paid in a particular year., , 2. Participating and Non-Participating: Preference shares which have a, right to participate in the further surplus of a company shares which, after dividend at a certain rate has been paid on equity shares are called, participating preference shares. The non-participating preference are such, which do not enjoy such rights of participation in the profits of the company., , 3. Convertible and Non-Convertible: Preference shares that can be converted, into equity shares within a specified period of time are known as convertible, preference shares. On the other hand, non-convertible shares are such that, cannot be converted into equity shares.

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Limitations, , Debentures as source of funds has, certain limitations. These are given, as follows:, , (i) As fixed charge instruments,, debentures put a permanent, burden on the earnings of a, company. There is a greater risk, when earnings of the company, fluctuate;, , (ii) In case of redeemable debentures,, the company has to make, provisions for repayment on, the specified date, even during, periods of financial difficulty;, , (ii) Each company has certain, borrowing capacity. With the, issue of debentures, the capacity, of a company to further borrow, funds reduces., , 8.4.9 Commercial Banks, , Commercial banks occupy a vital, position as they provide funds for, different purposes as well as for, different time periods. Banks extend, loans to firms of all sizes and in many, ways, like, cash credits, overdrafts, term, loans, purchase/discounting of bills,, and issue of letter of credit. The rate, of interest charged by banks depends, on various factors such as the, characteristics of the firm and the, level of interest rates in the economy., The loan is repaid either in lump sum, or in installments., , Bank credit is not a permanent, source of funds. Though banks have, started extending loans for longer, Periods, generally such loans are, , , , , , Box C, Types of Debentures, , 1. Secured and Unsecured: Secured debentures are such which create a charge, on the assets of the company, thereby mortgaging the assets of the company., Unsecured debentures on the other hand do not carry any charge or security, on the assets of the company., Registered and Bearer: Registered debentures are those which are duly, recorded in the register of debenture holders maintained by the company., These can be transferred only through a regular instrument of transfer. In, contrast, the debentures which are transferable by mere delivery are called, bearer debentures., Convertible and Non-Convertible: Convertible debentures are those, debentures that can be converted into equity shares after the expiry of a, specified period. On the other hand, non-convertible debentures are those, which cannot be converted into equity shares., 4. First and Second: Debentures that are repaid before other debentures are, repaid are known as first debentures. The second debentures arc those which, are paid after the first debentures have been paid back., , 2., , , , 2021-22, , , , 194, , used for medium to short periods., The borrower is required to provide, some security or create a charge on, the assets of the firm before a loan is, sanctioned by a commercial bank., , Merits, , The merits of raising funds from a, commercial bank are as follows:, , (i) Banks provide timely assistance, , to business by providing funds as, and when needed by it., Secrecy of business can be, maintained as the information, supplied to the bank by the, borrowers is kept confidential:, , (ii), , , , BUSINESS STUDIES, , of obtaining funds slightly, difficult;, , In some cases, difficult terms and, conditions are imposed by banks., for the grant of loan. For example,, restrictions may be imposed on, the sale of mortgaged goods, thus, making normal business working, difficult., , (iii), , 8.4.10 Financial Institutions, , The government has established, a number of financial institutions, all over the country to provide, finance to business organisations, , pees ities, , , , 7S ee

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8.4.10 Financial Institutions, , , , to business by providing funds as, and when needed by it., , Secrecy of business can be, maintained as the information, supplied to the bank by the, borrowers is kept confidential;, Formalities such as issue of, prospectus and underwriting are, not required for raising loans, from a bank. This, therefore, is, an easier source of funds;, , Loan from a bank is a flexible, source of finance as the loan, amount can be increased, according to business needs and, can be repaid in advance when, funds are not needed., , The government has established, a number of financial institutions, all over the country to provide, finance to business organisations, (see Box E). These institutions are, established by the central as well as, state governments. They provide both, owned capital and loan capital for long, and medium term requirements and, supplement the traditional financial, agencies like commercial banks. As, these institutions aim at promoting the, industrial development of a country,, these are also called ‘development, banks’. In addition to providing, financial assistance, these institutions, also conduct market surveys and, provide technical assistance and, managerial services to people who, run the enterprises. This source of, financing is considered suitable when, large funds for longer duration are, required for expansion, reorganisation, and modernisation of an enterprise., , (ii), , (iii), , (iv), , Limitations, , The major limitations of commercial, banks as a source of finance are as, follows:, , (i) Funds are generally available for, short periods and its extension or, renewal is uncertain and difficult;, Banks make detailed investigation, of the company’s affairs, financial, structure etc., and may also ask, for security of assets and personal, sureties. This makes the procedure, , (ii), Merits, , The merits of raising funds through, financial institutions are as follows:, , 2021-22, , SOURCES OF BUSINESS FINANCE 195, , , , BOX D, Inter Corporate Deposits (ICD), , Inter Corporate Deposits are unsecured short-term deposits made by a company, with another company. ICD market is used for short-term cash management of a, large corporate. As per the RBI guidelines, the minimum period of ICDs is 7 days, which can be extended to one year., The three types of Inter Corporate Deposits are:, (i) Three months deposits;, , (ii) Six months deposits;, , (iii) Call deposits., Interest rate on [CDs may remain fixed or may be floating. The rate of interest on, these deposits is higher than that of banks. These deposits are usually considered, by the borrower company to solve problems of short-term funds insufficiency., , , , , , , , (i) Financial institutions provide, long-term finance, which are not, provided by commercial banks;, Besides providing funds, many, of these institutions provide, financial, managerial and, technical advice and consultancy, to business firms;, , (i) Financial institutions follow, rigid criteria for grant of loans., Too many formalities make the, procedure time consuming and, expensive;, , Certain restrictions such as, restriction on dividend payment, , (ii), , (ii), , (iii), , Obtaining loan from financial, institutions increases the goodwill, of the borrowing company in the, capital market. Consequently,, such a company can raise funds, , ‘cise i i ha ae a ae, , (iii), , are imposed on the powers of, the borrowing company by the, financial institutions;, , Financial institutions may have, their nominees on the Board