The liability of equity shareholders is limited up to the face value of the shares. They also need to constantly evaluate what their needs are, through , and choose their working capital channels judiciously. On the other hand, if current interest rates are 20%, the company is unlikely to redeem the debt until the latest date possible, because the debentures would be a cheap source of funds. Funds required for this part of the working capital and for fixed capital is called long term finance. In the past, it was common to see a noncurrent liability section with the heading Deferred Credits. These shares are issued out of accumulated or undistributed profits to shareholders. Thus issue of equity share increases the creditworthiness of the firm.
In case of winding up of a company, the equity share capital is refunded only after refunding the preference share capital. There is no legal binding to pay preference dividend. Working capital is truly the lifeline for any company. Rest of process of debentures issue is similar to equity issue. The dividend paid to preference shareholders is not a tax deductible expense.
The holders of shares are the owners of the business. How quickly the money is needed — the longer a business can spend trying to raise the money, normally the cheaper it is. This method is less risky in respect to cash flow commitments. Letter of Credit A financial institution or a similar party issues this document to a seller of goods or services. It suffers from the following limitations: 1.
Hence, there is no dilution of control. Hence it increases the creditworthiness of the firm. Mortgage: When Debentures are secured by a charge on the assets of the company, these are known as Mortgage Debentures. Registered: Here, the transfer of Debentures will be effected on execution of a transfer deed or interest is payable or the repayment of Debentures is made to that person whose name is registered in the books of the company. For a shareholder who does not want to buy the right shares, his right of entitlement can be sold to someone else. Under a franchising arrangement, a franchisee pays a franchisor for the right to operate a local business, under the franchisor's trade name. Interest rates can vary from organisation to organisation and also according to purpose.
Borrowed Capital Borrowed or debt capital is the capital arranged from outside sources. On the contrary, it is non-refundable expect in case of liquidation and does not create any charge. They are called preferred because they have got priority over common equity shares in terms of payment of dividend and the capital also at the time of. Thus additional funds can be raised as loan against the security of assets. At the end of the lease, the lessor would not be able to lease the asset to someone else, as the asset would be worn out. Operating leases Operating leases are rental agreements between the lessor and the lessee whereby: a the lessor supplies the equipment to the lessee b the lessor is responsible for servicing and maintaining the leased equipment c the period of the lease is fairly short, less than the economic life of the asset, so that at the end of the lease agreement, the lessor can either i lease the equipment to someone else, and obtain a good rent for it, or ii sell the equipment secondhand.
So, the cost of equity capital is usually higher than other source of funds. Transfer of these debentures will take place only on the execution of the transfer deed. Loan from financial institutions: There are many specialized financial institutions established by the Central and State governments which give long term loans at reasonable rate of interest. There is no obligation on the part of the company either to pay interest or pay back the money. One of the best forms of short term financing is to tie up fewer funds in inventory, which requires considerable attention to the management of inventory. Businesses that offer large terms of credit can carry on their operations without having to wait for the customers to settle their bills.
Hire purchase allows a company to use an asset without immediately paying the complete purchasing price. This decision is up to the promoters. According to Ownership and Control: Sources of finances are classified based on ownership and control over the business. Another feature of borrowed capital is regular payment of fixed interest and repayment of capital. For this reason, public sector undertakings take thousands of crores of rupees from public deposits. It may retain a part of the profits and utilize it as capital5. In case there are good profits, the company pays dividend to the equity shareholders at a higher rate.
Convertible Debentures: A company may issue convertible debentures in which case an option is given to the debenture holders to convert them into equity or preference shares at stated rates of exchange, after a certain period. Hire purchase is similar to leasing, with the exception that ownership of the goods passes to the hire purchase customer on payment of the final credit instalment, whereas a lessee never becomes the owner of the goods. Again, it is similar to debt capital in the following ways: i The rate of preference dividend is fixed, ii Preference share capital is redeemable in nature, and iii Preference shareholders do not enjoy the right to vote. 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. Before giving a term loan to a company the financial institutions must be satisfied regarding the technical, economical, commercial, financial and managerial viability of project for which the loan is needed. · Since they do not carry voting rights, preference shares avoid diluting the control of existing shareholders while an issue of equity shares would not.
For analyzing and comparing the sources, it needs the understanding of all the characteristics of the financing sources. According to Section 2 12 of the Companies Act, 1956, debenture includes debenture stock, bonds and any other securities of a company, whether constituting a charge on the assets of the company or not. Equity shares can be easily sold in the stock market4. The length of time of the requirement for finance - a good entrepreneur will judge whether the finance needed is for a long-term project or short term and therefore decide what type of finance they wish to use. As far as companies are concerned, debt capital is a potentially attractive source of finance because interest charges reduce the profits chargeable to corporation tax. If the debtor does not pay for any reason, the factor can get back to the business for the payment. T What would be the duration of the loan? Can result in immediate large cash receipt in exchange for a long-term lease commitment.
Government grant and loan programs usually require strict compliance and may require reporting by recipients. Venture capital is money put into an enterprise which may all be lost if the enterprise fails. Equity Share Capital: It is the main sources of finance, which any organization would look before beginning the business. It will be paid back in a short period of time, so less risky for lenders. However, the corporations can use long term financing for both debt and purposes. Equity shareholders have the right to take part in the management of the company.