 Business finance: Concept and Importance

 Owners’ funds - equity shares, preferences

share, retained earnings, Global Depository
receipt (GDR), American Depository Receipt
(ADR) and International Depository Receipt
(IDR) – concept
 Borrowed funds: debentures and bonds, loan
from financial institution and commercial
banks, public deposits, trade credit
Finance is the lifeblood of business.
Business Finance: Meaning,
Nature and Importance
Business Finance – Meaning and Nature
The requirements of funds by business to carry
out its various activities is called business finance.

Finance is called the life blood of any business

Nature/Features of Business Finance

1. A business cannot function unless adequate funds
are made available to it. For carrying out various
activities, business requires money.
2. The initial capital contributed by the entrepreneur
is not always sufficient to take care of all financial
requirements of the business. A business person,
therefore, has to look for different other sources
from where the need for funds can be met.
3. A clear assessment of the financial needs and the
identification of various sources of finance, therefore, is
a significant aspect of running a business organisation.
4. The need for funds arises from the stage when an
entrepreneur makes a decision to start a business.
Some funds are needed immediately say for the
purchase of plant and machinery, furniture, and
other fixed assets. Similarly, some funds are required
for day – to – day operations, say to purchase raw
 materials, pay salaries to employees, etc. Also when
the business expands, it needs funds.

 Note
Nature of Business Finance
• Necessary for all types of business
• Depends on size of business
• Includes all types of capital
• Fluctuating nature
• Determines the size of business
Importance/Significance of Business
Finance
Finance is needed for the following reasons:
1. Fixed capital requirements
In order to start business, funds are required to purchase
fixed assets like land and building, plant and machinery,
and furniture and fixtures. This is known as fixed capital
requirements of the enterprise.
The funds required in fixed assets remain invested in
the business for a long period of time.
Different business units need varying amount of fixed
capital depending on various factors such as the nature of
business, scale of operations, growth and expansion of
business, etc.
• Nature of business: A trading concern for example,
may require small amount of fixed capital as compared
to a manufacturing concern.
• Scale of operations: The need for fixed capital
investment would be greater for a large enterprise,
as compared to that of a small enterprise.
• Growth and expansion of business: The requirement
for working capital increases with the growth and
expansion of business.
2. Working Capital requirements
The financial requirements of an enterprise do not end
with the procurement of fixed assets. A business needs
funds for its day-to-day operations. This is known as
working capital of an enterprise, which is used for
holding current assets such as stock of material, bills
receivables and for meeting current expenses like
salaries, wages, taxes, and rent.
The amount of working capital required varies from
one business concern to another depending on various
factors such as basis of sales, sales turnover, growth
and expansion of business, technology upgradation,
seasonal factors, etc.
 • A business unit selling goods on credit, or having a
slow sales turnover would require more working
capital as compared to a concern selling its goods and
services on cash basis or having a speedier turnover.
• The requirement for working capital increases with
the growth and expansion of business.
• At times additional funds are required for upgrading
the technology employed so that the cost of production
or operations can be reduced.
• Similarly, larger funds may be required for building
higher inventories for the festive season or to meet
current debts or expand the business or to shift to a
new location.
It is, therefore, important to evaluate the different sources
from where funds can be raised.
7.2
Classification of Sources of
Funds on the Basis of
Ownership
On the basis of ownership, the sources can be classified
into ‘owner’s funds’ and ‘borrowed funds’.
Differences between Owners' Funds
and Borrowed Funds
Basis Owners' Funds Borrowed Funds
1. Meaning Owner’s funds means funds that Borrowed funds refer to the
are provided by the owners of an funds raised through loans or
enterprise, which may be a sole borrowings.
trader or partners or shareholders
of a company. Apart from capital,
it also includes profits reinvested
in the business.
2. Sources • Equity shares • Debentures and Bonds
• Preference shares • Loan from Financial
• Retained earnings Institutions
• GDR • Loan from Commercial
• ADR Banks
• IDR • Public Deposits
 • Trade Credit
• Inter Corporate Deposits
(ICD)
3. Time The owner’s capital remains Such sources provide funds
Period invested in the business for a for a specified period, on
longer duration and is not certain terms and conditions
required to be refunded during and have to be repaid after
the life period of the business. the expiry of that period.
4. Return Return on Owner’s funds (e.g. A fixed rate of interest is paid
equity and preference shares) is by the borrowers on such
called dividend, which is a part of funds. At times it puts a lot of
profit after tax distributed among burden on the business as
the shareholders. Dividend is payment of interest is to be
payable only when there are made even when the earnings
profits available to the company. are low or when loss is incurred.
5. Security It does not require any security. Generally, borrowed funds
are provided on the security
of some fixed assets.
6. Control Such capital forms the basis on It does not carry any right of
which owners acquire their right control of management.
of control of management.
7.3
Various Sources of Owners’
Funds – Concept
1. Equity Shares
Equity shares is the most important source of raising
long term capital by a company.
Equity shares represent the ownership of a company
and thus the capital raised by issue of such shares
is known as ownership capital or owner’s funds.
 Equity share capital is a pre-requisite to the creation
of a company.
 Equity shareholders do not get a fixed dividend but
are paid on the basis of earnings by the company.
 They are referred to as ‘residual owners’ since they
receive what is left after all other claims on the
company’s income and assets have been settled.
 They enjoy the reward as well as bear the risk of
ownership.
 Their liability, is limited to the extent of capital
contributed by them in the company.
 Through their right to vote, equity shareholders
have a right to participate in the management of the
company.

 The capital obtained by issue of shares is known as share capital.

 The capital of a company is divided into small units called shares.
 Each share has its nominal value/face value/par value. For
example, if a company issues 1,00,000 shares of `10 each, then
`10 is the face value/ nominal value/par value of each share.
 The person holding the share is known as shareholder.
 There are two types of shares normally issued by a company.
These are equity shares and preference shares.
 The money raised by issue of equity shares is called equity share
capital, while the money raised by issue of preference shares is
called preference share capital.
Features/Merits
1. Payment of dividend to the equity shareholders is
not compulsory. Therefore, there is no burden on
the company in this respect.
2. Equity capital serves as permanent capital as it is to
be repaid only at the time of liquidation of a company.
As it stands last in the list of claims, it provides a
cushion for creditors, in the event of winding up of
a company.
3. Funds can be raised through equity issue without
creating any charge on the assets of the company.
The assets of a company are, therefore, free to be
mortgaged for the purpose of borrowings, if the
need be.
2. Preference Shares
The capital raised by issue of preference shares is called
preference share capital.
The preference shareholders enjoy a preferential
position over equity shareholders in two ways:
(i) receiving a fixed rate of dividend, out of the net
profits of the company, before any dividend is
declared for equity shareholders; and
(ii) receiving their capital after the claims of the
company's creditors have been settled, at the
time of liquidation.
In other words, as compared to the equity shareholders,
the preference shareholders have a preferential claim
over dividend and repayment of capital.
 Top Tips
1. Preference shareholders generally do not enjoy any voting
rights.
2. Preference shares resemble debentures as they bear
fixed rate of return. Also as the dividend is payable only at
the discretion of the directors and only out of profit after
tax, to that extent, these resemble equity shares. Thus,
preference shares have some characteristics of both
equity shares and debentures.

Features/Merits
1. Preference shares provide reasonably steady income
in the form of fixed rate of return. Thus, preference
shares are useful for those investors who want fixed
rate of return.
2. It does not affect the control of equity shareholders
over the management as preference shareholders
don’t have voting rights.
3. 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.
4. Preference shareholders have a preferential right of
repayment over equity shareholders in the event of
liquidation of a company.
5. Preference capital does not create any sort of charge
against the assets of a company.
Extra Shots

Different types of preference shares

 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.
 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.
 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.
3. Retained Earnings
A company generally does not distribute all its earnings
amongst the shareholders as dividends. A portion of
the net earnings may be retained in the business for
use in the future. This is known as retained earnings.
It is a source of internal financing or self-financing or
‘ploughing back of profits’.
The profit available for ploughing back in an organisation
depends on many factors like net profits, dividend policy
and age of the organisation.
Features/Merits
1. Retained earnings is a permanent source of funds
available to an organisation.
2. It does not involve any explicit cost in the form of
interest, dividend or floatation cost.
3. As the funds are generated internally, there is a greater
degree of operational freedom and flexibility.
4. It enhances the capacity of the business to absorb
unexpected losses.
5. It may lead to increase in the market price of the
equity shares of a company.

Excessive
Top Tip
ploughing back may cause dissatisfaction amongst
the shareholders as they would get lower dividends.
4. Global Depository Receipts (GDRs)
The local currency shares of a company are delivered
to the depository bank. The depository bank issues
depository receipts against these shares. Such depository
receipts denominated in US dollars are known as Global
Depository Receipts (GDR).
 GDR is a negotiable instrument and can be traded
freely like any other security.
 In the Indian context, a GDR is an instrument
issued abroad by an Indian company to raise funds
in some foreign currency and is listed and traded on
a foreign stock exchange.
 A holder of GDR can at any time convert it into the
number of shares it represents.
 The holders of GDRs do not carry any voting rights
but only dividends and capital appreciation.

Many Indian companies such as Infosys, Reliance, Wipro

and ICICI have raised money through issue of GDRs.
5. American Depository Receipts (ADRs)
 The depository receipts issued by a company in the
USA are known as American Depository Receipts.
 ADRs are bought and sold in American markets,
like regular stocks.
 ADR is similar to a GDR except that it can be issued
only to American citizens.
 ADRs can be listed and traded on a stock exchange
of USA.

Features
Note
of ADRs - • US dollar denominated • Listed on any
American stock exchanges • No right to vote in the company
• Right to get dividend
6. Indian Depository Receipts (IDRs)
An Indian Depository Receipt is a financial instrument
denominated in Indian Rupees (`) in the form of a
Depository Receipt.
 It is created by an Indian Depository to enable a
foreign company to raise funds from the Indian
securities market.
 The IDR is a specific Indian version of the similar
global depository receipts.
 The foreign company issuing IDR deposits shares to
an Indian Depository (custodian of securities registered
with the Securities and Exchange Board of India). In
turn, the depository issues receipts to investors in
India against these shares.
 The benefits of the underlying shares (like bonus,
dividends, etc.) accrue to the IDR holders in India.
 According to SEBI guidelines, IDRs are issued to
Indian residents in the same way as domestic shares
are issued. The issuer company makes a public offer
in India, and residents can bid in exactly the same
format and method as they bid for Indian shares.

‘Standard Chartered PLC’ was the first company that issued

Indian Depository Receipt in Indian securities market in
June 2010.
7.4
Various Sources of
Borrowed Funds – Concept
1. Debentures and Bonds
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 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. For example, if X Ltd. has 8% Debentures
of `1,00,000, then annual interest on debentures =
8% of `1,00,000 = `8,000 (or `4,000 half yearly)
 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.
 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.
Features/Merits
1. It is preferred by investors who want fixed income
at lesser risk.
2. Debentures are fixed charge funds and do not
participate in profits of the company.
3. As debentures do not carry voting rights, financing
through debentures does not dilute control of equity
shareholders on management.
4. Financing through debentures is less costly as compared
to cost of preference or equity capital as the interest
payment on debentures is tax deductible.
Bonds are also debt instrument that does not carry a
specific rate of interest, but issued at a heavy discount.
The difference between nominal valve and issue price is
treated as the amount of interest related to the duration
of bonds.

Extra Shots

Types of Debentures
 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.do not enjoy such rights
 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.
 First and Second: Debentures that are repaid before other
debentures are repaid are known as first debentures. The
second debentures are those which are paid after the first
debentures have been paid back.
2. Loan From Financial Institutions
The government has established a number of financial
institutions all over the country to provide finance to
business organisations.
 These institutions are established by the central as
well as state governments.
 They provide loan capital for long and medium term
requirements.
 This source of financing is considered suitable
when large funds for longer duration are required
for expansion, reorganisation and modernisation of
an enterprise.
As financial
Note
institutions aim at promoting the industrial
development of a country, these are also called ‘development
banks’.

Features/Merits
1. Financial institutions provide long-term finance,
which are not provided by commercial banks.
2. Obtaining loan from financial institutions increases
the goodwill of the borrowing company in the
capital market. Consequently, such a company can
raise funds easily from other sources as well.
3. As repayment of loan can be made in easy instalments,
it does not prove to be much of a burden on the
business.
4. The funds are made available even during periods
of depression, when other sources of finance are
not available.
Extra Shots

Special Financial Institutions

 Industrial Finance Corporation of India (IFCI): It was
established in July 1948 as a statutory corporation under the
Industrial Finance Corporation Act, 1948. Its objectives
include assistance towards balanced regional development
and encouraging new entrepreneurs to enter into the
priority sectors of the economy. IFCI has also contributed to
the development of management education in the country.
 State Financial Corporations (SFC): The State Financial Corporations
Act, 1951 empowered the State Governments to establish State
Financial Corporations in their respective regions for providing
medium and short term finance to industries which are outside
the scope of the IFCI. Its scope is wider than IFCI, since the former
covers not only public limited companies but also private limited
companies, partnership firms and proprietary concerns.
 Industrial Credit and Investment Corporation of India (ICICI):
This was established in 1955 as a public limited company under
the Companies Act. ICICI assists the creation, expansion and
modernisation of industrial enterprises exclusively in the private
sector. The corporation has also encouraged the participation of
foreign capital in the country.
 Industrial Development Bank of India (IDBI): It was established
in 1964 under the Industrial Development Bank of India Act, 1964
with an objective to coordinate the activities of other financial
institutions including commercial banks. The bank performs three
types of functions, namely, assistance to other financial institutions,
direct assistance to industrial concerns, and promotion and coordination
of financial-technical services.
 Life Insurance Corporation of India (LIC): LIC was set up in 1956
under the LIC Act, 1956 after nationalising 245 existing insurance
companies. It mobilises the community's savings in the form of
insurance premia and makes it available to industrial concerns,
both public as well as private, in the form of direct loans and
underwriting of and subscription to shares and debentures.
3. Loan from 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:
(i) Cash credits (ii) Bank overdrafts
(iii) Term loans
(iv) Purchase/discounting of bills
(v) 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 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.
Features/Merits
1. Banks provide timely assistance to business by
providing funds as and when needed by it.
2. Secrecy of business can be maintained as the
information supplied to the bank by the borrowers
is kept confidential.
3. 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.
4. 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.
4. 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 supplies
without immediate payment. The borrower does
not receive any cash, but gets its supplies on credit.
 Such credit appears in the records of the buyer of
goods as ‘sundry creditors’ or ‘accounts payable’.
 Trade credit is commonly used by business organisations
as a source of short-term financing.
 It is granted to those customers who have reasonable
amount of financial standing and goodwill.
 Normally, trade credit is granted for a period ranging
30 to 90 days.
 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.
Features/Merits
1. Trade credit is a convenient and continuous source
of funds.
2. Trade credit may be readily available in case the
credit worthiness of the customers is known to the
seller.
3. Trade credit needs to promote the sales of an
organisation.
4. 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.
5. It does not create any charge on the assets of the
firm while providing funds.

 Note
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.
5. Public Deposits
The deposits that are raised by organisations directly
from the public are known as public deposits.
 Companies generally invite public deposits for a
period up to three years.
 Rates of interest offered on public deposits are
usually higher than that offered on bank deposits.
 The acceptance of public deposits is regulated by
the Reserve Bank of India.
 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.
 Public 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.
Features/Merits
1. The procedure of obtaining deposits is simple and
does not contain restrictive conditions as are generally
there in a loan agreement.
2. Cost of public deposits is generally lower than the
cost of borrowings from banks and financial institutions.
3. 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.
4. As the depositors do not have voting rights, the
control of the company is not diluted.
RECAP

Concept, Nature and Importance of Business

Finance
Money required for carrying out business activities is called
business finance.
Finance is needed for the following reasons:
1. Fixed capital requirement: In order to start business,
funds are needed to purchase fixed assets like land and
building, plant and machinery, furniture, etc. This is
called fixed capital requirements.
2. Working Capital requirements: A business needs funds
for its day-to-day operations. This is known as working
capital requirements. Working capital is required to
purchase raw materials, to meet current expenses like
salaries, wages, rent and taxes, etc.
Classification of Sources of Funds on the basis of
Ownership
1. Owner’s funds– funds that are provided by the owners of
an enterprise, e.g. Equity shares, Preference shares,
Retained earnings, etc.
2. Borrowed funds – funds raised through loans or
borrowing, e.g. Debentures and Bonds, Loan from Financial
Institutions and Banks, etc.
Sources of Owners’ Funds
1. Equity shares: The money raised by issue of equity shares
is known as ‘equity share capital’. It represents owner’s
funds.
2. Preference shares: The money raised by issue of
preference shares is called ‘preference share capital’.
3. Retained Earnings: The portion of company’s net profits
after tax and preference dividend which is not distributed
 as equity dividend, but are retained for reinvestment purposes
is called ‘retained earnings’.
4. Global Depository Receipts (GDRs): GDR is an
instrument issued abroad by an Indian company to raise
funds in some foreign currency.
5. American Depository Receipts (ADRs): The depository
receipts issued by a company in the USA are known as
ADRs.
6. Indian Depository Receipts (IDRs): An IDR is an
instrument denominated in Indian Rupees in the form of
a depository receipt created by an Indian Depository
against the underlying equity of issuing company to
enable foreign company to raise funds from the Indian
securities market.
Sources of Borrowed Funds
1. Debentures and Bonds: Debentures are an important
 debt instrument for raising long-term finance. They carry
a fixed rate of interest. Bonds are also debt instrument
that does not carry a specific rate of interest, but issued at
a discount.
2. Loan from Financial Institutions: Examples: Industrial
Finance Corporation of India (IFCI), Industrial Credit and
Investment Corporation of India (ICICI), etc.
3. Trade Credit: Trade credit is the credit extended by one
trade to another for the purchase of goods and services.
Trade credit is commonly used by business organisations
as a source of short-term financing. Trade credit appears
in the records of the buyer of goods as ‘sundry creditors’
or ‘accounts payable’.
4. Loan from Commercial Banks: Commercial banks extend
loans to firms of all sizes and in many ways: Cash credits,
Bank overdrafts, Term loans, Purchase/ discounting of
bills and Issue of letter of credit.
5. Public Deposits: The deposits that are raised by organisations
directly from the public are known as public deposits.
Companies generally invite public deposits for a period up
to three years. Rates of interest offered on public deposits
are usually higher than that offered on bank deposits.

Key Terms
Business Finance –The requirements of funds by business to
carry out its various activities is called business finance.
Fixed capital – In order to start business, funds are required to
purchase fixed assets like land and building, plant and machinery,
and furniture and fixtures. This is known as fixed capital
requirements of the enterprise.
Working Capital – A business needs funds for its day – to - day
operations. This is known as working capital of an enterprise,
which is used for holding current assets such as stock of material,
bills receivables and for meeting current expenses like salaries, wages,
taxes, and rent.
Owner’s funds means funds that are provided by the owners of an
enterprise, which may be a sole trader or partners or shareholders
of a company. Apart from capital, it also includes profits reinvested
in the business.
Borrowed funds refer to the funds raised through loans or
borrowings.
Equity shares represent the ownership of a company and thus the
capital raised by issue of such shares is known as ownership
capital or owner’s funds.
Preference Shares – The capital raised by issue of preference
shares is called preference share capital.
Share capital – The capital obtained by issue of shares is known as
share capital. The money raised by issue of equity shares is called
equity share capital, while the money raised by issue of preference
shares is called preference share capital.
Shares – The capital of a company is divided into small units called
shares.
Nominal value – Each share has its nominal value/face value/par
value. For example, if a company issues 1,00,000 shares of `10
each, then `10 is the face value/ nominal value/ par value of each
share.
Shareholder – The person holding the share is known as shareholder.
Retained Earnings – A company generally does not distribute all
its earnings amongst the shareholders as dividends. A portion of
the net earnings may be retained in the business for use in the
future. This is known as retained earnings.
Global Depository Receipts (GDRs) – The local currency shares of
a company are delivered to the depository bank. The depository
bank issues depository receipts against these shares. Such depository
receipts denominated in US dollars are known as Global Depository
Receipts (GDR).
American Depository Receipts (ADRs) – The depository receipts
issued by a company in the USA are known as American Depository
Receipts.
Indian Depository Receipts (IDRs) – An Indian Depository Receipt
is a financial instrument denominated in Indian Rupees in the
form of a Depository Receipt.
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.
Bonds are also debt instrument that does not carry a specific rate
of interest, but issued at a heavy discount. The difference between
nominal valve and issue price is treated as the amount of interest
related to the duration of bonds.
Trade credit is the credit extended by one trader to another for
the purchase of goods and services.
Public Deposits – The deposits that are raised by organisations
directly from the public are known as public deposits.
Question 1
Equity shareholders are called
(Choose the correct alternative)
(a) Owners of the company
(b) Partners of the company
(c) Executives of the company
(d) Guardian of the company

Objective Type Questions

Answer 1
(a) Owners of the company

Objective Type Questions

Question 2
The term ‘redeemable’ is used for
(Choose the correct alternative)
(a) Preference shares
(b) Commercial paper
(c) Equity shares
(d) Public deposits

Objective Type Questions

Answer 2
(a) Preference shares

Objective Type Questions

Question 3
Funds required for purchasing current assets is
an example of
(Choose the correct alternative)
(a) Fixed capital requirement
(b) Ploughing back of profits
(c) Working capital requirement
(d) Lease financing

Objective Type Questions

Answer 3
(c) Working capital requirement

Objective Type Questions

Question 4
ADRs are issued in
(Choose the correct alternative)
(a) Canada
(b) China
(c) India
(d) USA

Objective Type Questions

Answer 4
(d) USA

Objective Type Questions

Question 5
Debentures represent
(Choose the correct alternative)
(a) Fixed capital of the company
(b) Permanent capital of the company
(c) Fluctuating capital of the company
(d) Loan capital of the company

Objective Type Questions

Answer 5
(d) Loan capital of the company

Objective Type Questions

Question 6
_______ are debt instrument that does not carry a
specific rate of interest, but issued at a heavy
discount.
(Choose the correct alternative)
(a) Debentures
(b) Equity shares
(c) Bonds
(d) None of these

Objective Type Questions

Answer 6
(c) Bonds

Objective Type Questions

Question 7
_________ is commonly used by business
organisations as a source of short-term financing.
(Choose the correct alternative)
(a) Lease financing
(b) ADRs
(c) Trade Credit
(d) None of these

Objective Type Questions

Answer 7
(c) Trade Credit

Objective Type Questions

Question 8
Match the columns:
Column I Column II
(i) It facilitates the purchase of (a) Trade Credit
goods and services without
making immediate payment.
(ii) It refers to that part of (b) Preference
profits which is kept and Shares
reserve for use in the future.
(iii) This source of finance has (c) Retained
characteristics of both equity Earnings
shares and debentures.

Objective Type Questions

Answer 8
(i) - (a), (ii) - (c), (iii) - (b)

Objective Type Questions

Question 9
Finance invested in fixed assets is called working
capital.
True/False? Give reason.

Objective Type Questions

Answer 9
False: It is called fixed capital.

Objective Type Questions

Question 10
Working capital is raised through short-term
funds.
True/False? Give reason.

Objective Type Questions

Answer 10
True: Working capital is required to meet day-
to-day expenses. So, it is raised through short-
term sources like trade credit, factoring, banks,
commercial paper, etc.

Objective Type Questions

Question 11
Preference shares carry preferential rights over
the equity shares as regards payment of dividend
and repayment of capital.
True/False? Give reason.

Objective Type Questions

Answer 11
True: They get dividend before equity dividend
is paid. On the winding up of the company, their
capital is refunded first.

Objective Type Questions

Question 12
A debenture is an acknowledgment of debt.
True/False? Give reason.

Objective Type Questions

Answer 12
True: Debentures are a part of borrowed funds
of a company. Debentures are an important debt
instrument for raising long-term finance.

Objective Type Questions

Question 13
Debentureholders are entitled to a fixed rate of
interest.
True/False? Give reason.

Objective Type Questions

Answer 13
True: Debentures carry a fixed rate of interest.
Interest on debentures is a change against the
profits of a company. It has to be paid even if
the company suffers losses.

Objective Type Questions

Question 14
Name the capital invested in permanent assets.

Objective Type Questions

Answer 14
Fixed capital

Objective Type Questions

Question 15
Name the funds needed for day-to-day operations
of business.

Objective Type Questions

Answer 15
Working capital

Objective Type Questions

Question 16
Which concern—a trading concern or a
manufacturing concern—will have large amount
of fixed capital? Why?

Objective Type Questions

Answer 16
Manufacturing concern, because it has to invest
in plant and machinery.

Objective Type Questions

Question 17
Neha Ltd. sells goods on credit while Pankhuri
Ltd. sells goods on cash basis. Which company
will require more working capital?

Objective Type Questions

Answer 17
Neha Ltd

Objective Type Questions

Question 18
Why is equity share capital called risk capital?

Objective Type Questions

Answer 18
Because equity shareholders bear the risk of loss
of the business. Moreover, they do not get
dividend in the years of losses.

Objective Type Questions

Question 19
Why are equity shareholders referred to as
‘residual owners’?

Objective Type Questions

Answer 19
Equity shareholders do not get a fixed dividend,
but are paid only when tax to the government,
interest on loans and debentures and
preference dividend have been paid. So, they
are referred to as ‘residual owners’.

Objective Type Questions

Question 20
Why is equity share capital called the
permanent capital?

Objective Type Questions

Answer 20
Because it is to be paid only at the time of
liquidation of a company.

Objective Type Questions

Question 21
Why are debentures known as borrowed funds?

Objective Type Questions

Answer 21
Because debentures are an important debt-
instrument for raising long-term finance. They
carry a fixed rate of interest.

Objective Type Questions

Question 22
Name the source of finance which is available in
the normal course of purchase of goods.

Objective Type Questions

Answer 22
Trade credit

Objective Type Questions

Question 23
Why share capital is known as owned funds?

Objective Type Questions

Answer 23
Shareholders are the real owners of the
company.

Objective Type Questions

Question 24
Why are retained profits called self-financing?

Objective Type Questions

Answer 24
Because the business firm itself generates
them.

Objective Type Questions

Question 25
Name any two Indian companies which have
raised money through issue of GDRs.

Objective Type Questions

Answer 25
(i) Infosys (ii) Reliance

Objective Type Questions

Question 26
A company wants to issue such shares which do
not have the right of preference for payment of
dividend and refund of capital at the time of
liquidation.
Identify such shares.

Objective Type Questions

Answer 26
Equity Shares

Objective Type Questions

Question 27
A foreign company ‘Zylo Ltd.’ wants to collect
money from the capital market of India. The
finance manager of the company, Mr. Robert
wants to issue a financial instrument which
instead of being in dollars shall be denominated
in rupees. One of the characteristics of this
financial instrument is that it can be got listed
in any Indian stock exchange.
Identify the financial instrument.

Objective Type Questions

Answer 27
Indian Depository Receipts (IDR)

Objective Type Questions

Question 28
Pranav Udyog Ltd. is a company manufacturing
electric devices. The company’s financial
manager, Mr. Dhruv, in order to fulfill the long-
term financial need, wants to raise the cheapest
source of finance.
Identify the source of finance.

Objective Type Questions

Answer 28
Debentures

Objective Type Questions

Question 29
An Indian company ‘Vandana Ltd.‘, in order to
cater to its financial needs, wants to issue such
an international financial instrument which can
be issued only to the American residents.
Identify the financial instrument.

Objective Type Questions

Answer 29
American Depository Receipts (ADR)

Objective Type Questions

Question 30
Fashion Hut, a reputed garments
manufacturing unit needs to meet its day-to-
day expenses like wages, rent, maintaining
stock of raw material, etc. The owner
approaches the supplier of the raw materials
to give credit for two months, so that he can
get cloth for making garments without making
immediate payment. The supplier made an
enquiry regarding the business organisation
and found that its reputation was very good.
So it extended two months credit to it.
Identify the source of finance discussed above.
Objective Type Questions
Answer 30
Trade Credit

Objective Type Questions

Question 31
C Ltd. is planning to modernise its plant with
latest technology. The company is not having
sufficient money. The finance manager plans to
arrange money for 3 years since after that the
company is expecting a good return on
investment. The finance manager does not want
to spend on floatation costs on issue of shares or
debentures.
Identify the suitable source of finance for the
company.

Objective Type Questions

Answer 31
Public Deposits

Objective Type Questions