The sources of finance for a business are the capital that a business requires for expansion and other capital expenditures. It is pivotal that the correct source is recognized and pursued that matches the business requirement. There are many different sources that the business can identify; they can be classified as internal and external sources of finance.
The implication of sources of finance means an effect that the different sources have on a business. A business always hopes for a positive impact, but on varied occasions and due to several other factors, the effect might also be harmful.
Different Sources of Finance for an Organization:
The Various Sources Of Funds For An Organization
These types of shares are issued to the proprietor or company owner. When liquidated, the claims must be equal to or more than the nominal value. There are different types of ordinary shares, namely deferred common shares, new shares issues, rights issues, and preference shares.
These types of stock are long-term stocks and must be paid for by the company over a long period. The holders of this stock are long-term creditors to the company and retain a fixed amount of interest, usually paid quarterly or annually. Debentures are the most used form of loan stock. Some other forms of loan stocks are debentures with a floating interest rate, security, and the redemption of loan stock.
This source of capital is the revenue earned by the company, which the company could use to pay off higher dividends to the shareholders. Still, the company's management might believe that this form of capital does not cost the company, and therefore, they might follow this form of finance. The other reasons for choosing this method of financing can be – this form of funding avoids the issue of cost; it prevents the change in control that could arise due to the problem of shares; the shareholders may prefer to take capital profit rather than current income due to tax reasons.
This is one of the oldest and the most critical source of financing for companies. The loans are generally short-term, but it is common if a bank lends a medium-term loan. The loans can be in the form of an overdraft or a short-term loan that has to be repaid within three years.
This is a form of renting where the 'lessor' owns a capital asset and gives it to the 'lessee' for a specified period. The contract requires the 'lessee' to pay a certain amount as interest at a regular interval to the 'lessor'. The two types of leasing are operating leases and finance leases.
This is also a form of leasing where the ownership of the capital good is transferred to the hire purchaser after the final instalment is paid. In the case of leasing, the 'lessee' never gains ownership of the capital good.
As a part of the policy, the government often helps set up organizations or provides monetary grants to the company to help the economy and eradicate or reduce unemployment. The government often bails out companies if they think it will benefit the economy like the US government bails out some of the banks that nearly collapsed during the depression of 2008.
The investment made into a company can be lost if the company goes bankrupt or suffers loss. A business person, while starting their business, might require more investment than they actually own; therefore, venture capital might be sought. The investor usually receives equity for their contribution to the company.
Venture Capital- Investment Required By BusinessMan To Start Their Business
This is the method of expanding the business with little investment. In this method of external sources of finance for a business, the owner allows some other entity to start a franchise by lending their brand name, and they charge a certain sum of money.
Advantages of Sources of Funds For A Business:
All the different business sources of finance have their advantage that suits the other company, so they prefer that source. Some of the benefits are explained below.
- Trade credit is an essential tool for some organizations to boost their financial growth. The credit extended by the supplier lets you purchase now and pay later. It helps the company maintain a healthy cash flow; it also allows the producer to sell the goods obtain the cash, and then spend the creditors.
- The sale of assets is also an essential source of business funding for organizations. If the purchase is a property or something susceptible to price appreciation, it can help the business fulfil its short-term financial requirements.
- This is a suitable method of financing as the company can raise capital quickly in a short period and help finance its short-term needs. There is no requirement for security for raising money, and the business will eventually own the asset.
- The share issue is advantageous not just to the company but also to the investor. Most large multinationals use this method of raising cash. The investors receive a share of the company's profit, and the investors are the part owners of the company, which helps the firm grow a vast proportion of cash.
- If the idea for the product is good and the future success of the product is guaranteed, then this is a good way of raising a large amount of capital; it is also an effective way to expand the company.
- Loan or overdraft provided by banks is also a traditional way of obtaining finance for the expansion of a firm. Getting finance through this method is very quick and eases the cash flow problem. It is a flexible loan for short-term to medium-term, and a large amount of cash can be raised through this process.
- Government assistance or grants are the most beneficial but very difficult to obtain as most of the approval power rests with the government. The firm has to qualify for many parameters to be eligible for this type of financing.
Disadvantages of Sources of Funds for A Business:
Depending on the firm's operation type, the financing source must be adopted because every seed has advantages and disadvantages; the best source must be found by weighing the risk and the opportunity. A SWOT analysis can be performed to come to the outcome. Following are some of the disadvantages of sources of finance for a business.
- Trade credit is disadvantageous to the company if the company has a bad credit history, as obtaining credit becomes very difficult in that case.
- If the asset's value has depreciated since it was bought, that also creates a problem for the company because then the investment would have to be sold at a loss.
- The disadvantage with hire purchase is that interest will have to be paid, and the other disadvantage with this source of business funding is that the asset is only owned once the last instalment is paid.
- The share issue is that the company's profit will be shared with the shareholders, and the decisions cannot be taken independently as they must be based on the shareholder in mind.
- Venture capitalists invest vast amounts of money in the business. Still, they also own a considerable portion of the company and will sell once they have acquired the maximum benefit of the investment.
The sources of finance are significant for any organization; it helps the business expand and make more profit, but recognizing these sources is also essential as different organizations have a different financial objective and a method that might suit one company might not fit the other. We at EssayCorp are experts at providing academic assistance with this subject and other financial concepts.
Recognizing Different Sources Of Finance