Class 11 Sources of Business Finance

What are the sources of business finance? The sources of business finance can vary from long-term funds to medium-term and short-term funds. Class 11 Business Studies comprises an important chapter on the Sources of Business Finance focuses on the integral features and characteristics of financial investment and management for a business organisation. While setting up a business, it is essential to accumulate funds for it. If you want to do well in this chapter, you must be through with the basics of the business world as well as financial concepts. Through this blog, we aim to present you with all the key pointers as well as the study notes on class 11 sources of business finance.

What is Business Finance?

The term ‘finance’ can simply be elaborated as money or fund and when combined with business, it means that business finance refers to the funds needed for the operations of a business. This is because a business cannot really function without enough funds and finances.

Need for Business Finance

Finance is an integral component of every business. Let us have a look at some of the pointers as per class 11 sources of business finance:

• Starting a business requires money to purchase goods or setting up shop somewhere. This is called the Fixed Capital Requirement. 
• You need sources of working capital for everyday operations. This is called the Working Capital Requirement
• Expansion/Diversification of products and operations require funds
• Finance is an essential part of an enterprise’s growth, and you cannot grow your business without paying close heed to your financial sources

Sources of Business Finance

Here are all the sources of Business Finance as per this chapter in Class 11:

Sources of Business Finance as per the basis of period

• Long-term Funds
  • Equity shares
  • Debentures
  • Retained Earnings
  • Preference Shares
  • Loan from Financial Institutions
  • Loan from Banks
• Medium-term Funds
  • Loan from Banks
  • Public Deposits
  • Loan from Financial Institutions
  • Lease Financing
• Short-term Funds
  • Factoring
  • Trade Credit
  • Banks
  • Commercial Paper

Sources of Business Finance on the Basis of Ownership

• Owner’s Funds
  • Equity Shares
  • Retained Earnings
• Borrowed Funds
  • Debentures
  • Loans from Banks
  • Loans from Financial Institutions
  • Public Deposits
  • Lease Financing
  • Commercial Papers

Sources of Business Finance on the Basis of Sources of Generation

• Internal Sources
  • Equity Shares
  • Retained Earnings
• External Sources
  • Financial Institutions
  • Loan from Banks
  • Preferences Shares
  • Public Deposits
  • Debentures
  • Lease Financing
  • Commercial Papers
  • Trade Credits
  • Factoring

Period Basis Sources of Business Finance

As derived from class 11 sources of business finance, based on period, business finance can be further divided into three classes:

Long-Term Fund
These sources sustain the finances of business for more than five years. Sources of long term financing are equity shares, debentures & loans.

Medium-Term Funds
When the funds are needed for less than five years. Medium-term funds can be secured through borrowings from commercial banks, public deposits, and shorter loans.

Short-Term Funds
The period of these funds should not exceed one year. Some short fund sources are trade credit or loans and commercial papers.

Ownership Basis of Business Finance

Depending upon the types of fund a business gets, the funds can be classified into two sets- ‘owner’s funds’ and ‘borrowed funds’.

Owner Funds
If the funds are provided by the business or shareholders or partners’ creator, then it is the Owner’s funds. Profits used to invest again in the business also fall under this. Owner funds usually do not need to be refunded and remain invested in the business’s life period. Two important sources of owner funds include Equity shares and Retained earnings. This type of investment grants controls over the enterprise. It carries risk with the investment as the principal amount and returns are not guaranteed.

Borrowed Funds
If the investment source comes from outside the business, it is called Borrowed funds. It cannot be a permanent source of capital because it has to be returned. Even though it carries less risk because the principal and returns are guaranteed, it does not grant control. A fixed interest rate is also levied on borrowed funds, and it can put a lot of burden to payback when the company/business is not raising enough funds.

Sources of Business Generation

Whilst one is planning to obtain funding for their ongoing or upcoming business, the class 11 sources of business finance also provides the major sources of finance generation you should know:

• Internal Sources: Funds that get generated within the business can be controlled by management as an investment. It can be used in emergencies as well
• External Sources: Funds that get generated out of business. There is no control over these funds by management. They can be a good source of finance for entrepreneurs

Business Studies Class 11 chapter on Sources of Business Finance also familiarizes students with various sources to raise funds. It is important to understand that there is no one perfect source, and depending on your requirements & needs, your financial sources should fit the mould. Here are some of the most important ones.

Factors Affecting the Choice of Sources of Fund 

Now that we have discuss the various sources of funds, latest take a look at some of the factors that affect the choice of sources of fund- 

• Time period and purpose 
• Effect on credit worthiness 
• Cost 
• Operations stability and financial strength
• Risk profile 
• Tax benefits
• Flexibility and is
• Form of legal status and organisation
• Control 

Retained Earnings

Out of the company’s total earnings, a certain section of the total profits can be saved for the future. This part is not divided among shareholders and is a source of self-financing. It depends heavily on the net profits and age of the organization.

Merits
A permanent source of funds without any explicit cost. It allows free panning of options for the investors as funds are internal. The eventual increase in equity share value is a possibility.

Limitations
It might cause internal conflict if done improperly. It becomes an unreliable source due to fluctuating profits.

Trade Credits

Trade credits refer to sources of short term finances where a business extends credit for purchasing goods and services to the other. According to class 11 sources of business finance chapter, it appears as a record for an account payable and isn’t taken immediately. It is based on goodwill and a decent financial situation. 

Merit
It is very convenient and cultivates trust. It promotes the sales of the business. Allows inventory expansion avenues. No interest rate levied on the charge.

Limitations
Limits the transaction usually done for short-term needs. It can induce reliability on convenience and may cause over-indulgence.

Factoring 

It is referred as a financial service within which the ‘ factor’ provides various services like-

1. Discounting the bill as well as collecting clients’ debt through which the receivables on the account of sales of goods or services will be sold to the factor at a variable discount. 
2. It also provides information about the creditworthiness of the prospective clients, etc. along with very factors that possess information regarding the trading history of the firm. 

Merits: 
Obtaining points through factoring is cheaper as compared to bank credits. With the fluent cash flow through factoring, clients are able to meet their liabilities. It doesn’t create any charge on the assets of the firm. 

Limitations: 
Factoring is expensive when the bills are higher in number and smaller in amount. The advance Finance that factor forms receive is generally levied at higher interest than usual rates. Sometimes, third party customers do not feel comfortable dealing with this. 

Lease Financing

Now that you are familiar with the major aspects of short-term financial sources, let us understand lease financing. A periodic payment is set up between two parties allowing the temporary use of an asset owned by another company. This also allows the renting of assets. A fixed periodic amount is called lease rental. The asset is returned after the contract time. 

Merits
Usually, a lower investment gives Lessee the right to an asset than buying it would take. Lease rentals are deductible by taxes. No debt raising capacity is accounted into the agreement.

Limitations
Restrictions on asset usage. If the lease arrangement breaks down, it can hurt the business operation of Lessee. The Lessee can never own the asset.

Public Deposits 

When an organisation raises certain deposits directly from the public, it is known as public deposits. Usually, the rate of interest offered on public deposits is higher than that offered on the bank deposits. Those who are interested in investing in an organisation, they can do so by filling the Vantazo designated form. 

Merits: 
The process for obtaining deposits is simpler as compared to loan agreements. As compared to the cost of borrowing from banks and other financial institutions, the cost of public deposits is lower. They do not create any charge on the assets of the organisation. 

Limitations: 
It is difficult for new companies to find funds through public deposits. As compared to other sources, public deposits are unreliable sources as the public may not respond in the right way when the money is needed by the organisation.

Issue of Share

Also known as share capital, where capital is divided into small marketable units known as shares. Each share gets a variant value fixed at one point. According to sources of business finance chapter class 11, there are two types of share, i.e., Equity Share and Preference Shares. Let us take a detailed look at the key features of Equity Shares and Preference Shares.

Equity Shares

• A most important form of the sources of long term financing
• They fall under ownership capital and represent a share in the company
• They are essential conditions for making a company. Stakeholders are paid on the profits of the company, thus also called ‘residual owners.’
• They get the right to management in the company and make them liable up to the point of their contribution to capital raised

Merits
No compulsory payment of dividends required. Permanent capital lasting lifetime of the company till the liquidation. Equity capital is a reliable judging criterion for loan providers and other investors. No charge on assets of the company in the creation of equity funds. The voting and management powers gained are very important.

Limitations
No fixed/steady income guaranteed. The initial amount to be invested in the equity share is higher than other fundraising options. A complicated fundraising method not suitable for quick funds.

Preference Share

• Preferential Position receives a fixed cut in dividends out of the profit. At the time of liquidation, they enjoy a later claim to capital.
• They get the first preference in repayment and dividend. They have a fixed rate of return, like debentures that you will learn about in detail in Business studies class 11.

Merits
According to class 11 sources of business finance chapter, the primary merit is to get a cut and a steady income. No voting rights mean no liability. In good times they get a higher rate of dividend. Even in liquidation, they have a preference. No charge levied against the assets.

Limitations
Not suitable for risk-takers. The rate of dividend is higher than the rate of interest on debentures. No assured return if the company doesn’t gain profit. No tax saving.

Class 11 Sources of Business Finance Project

Sources of business finance from Shubham Verma

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