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Q) What are ‘American Depository Receipts’?
Answer: ‘American Depository Receipts’ is a method of raising funds from foreign sources. Under this method the shares of Indian companies are issued in the forms of depository receipts (Global or American) that are traded on the foreign markets.
Q) Name the document which is issued by the company to the public to invite them to subscribe to its share capital.
Answer: A document issued by a company to invite the public and the investors for subscribing the securities is called a prospectus. The prospectus contains detailed information on the securities. A public company can issue a prospectus to offer its shares and debentures, whereas a private company cannot issue a prospectus.
Q) State the purpose for which short-term finance is required.
Answer: Funds required to meet day-to-day expenses are known as short-term finance. This is required for purchase of raw materials, payment of wages, rent, insurance, electricity and water bills, etc.
What is meant by lease financing?
Ans: Lease is a contract whereby one can use the assets of the other without purchasing it, in return of rent paid to the owner of the asset. Example using the office on rent, machinery on rent.
Q) Distinguish between shares and debentures on the basis of
Security
Risk
Answer:
Shares
Security
No security is required to issue shares.
Generally debentures are secured. So, sufficient fixed assets are required when debentures are to be issued.
Risk
Risk is high due to uncertainty of returns.
Little risk due to certainty of return.
Q) Briefly explain the merits of public deposits as a long term source of business finance.
Answer: The merits of public deposits as long term source of business finance are:
Simple and easy: The method of borrowing money through public deposit is very simple. It does not require many legal formalities. It has to be advertised in the newspapers and a receipt is to be issued.
No charge on assets: Public deposits are not secured. They do not have any charge on the fixed assets of the company.
Economical: Expenses incurred on borrowing through public deposits are much less than expenses of other methods like issue of shares and debentures.
Q) Briefly explain any two forms of foreign sources in meeting the long term financial needs of the businesses in India.
Answer: Two forms of foreign sources in meeting the long term financial needs of the businesses in India are
Collaborating with the foreign companies - It enables the Indian companies to secure equity capital through subscription of foreign collaborators to their share capital.
Loan from International Financial Institutions - Like The World Bank and International Finance Corporation either directly or by way of refinancing.
What is meant by ‘Discounting of Bill’?
Ans: When a bill of exchange is presented before the bank for encashment, bank credits the amount to customer’s account after deducting some discount.
Q) State the points of importance of business finance.
Answer: The points of importance of business finance are:
To purchase fixed assets: Every type of business needs some fixed assets like land and building, furniture, machinery etc. A large amount of money is required for purchase of these assets.
To meet day-to-day expenses: After establishment of a business, funds are needed to carry out day-to-day operations e.g., purchase of raw materials, payment of rent and taxes, telephone and electricity bills, wages and salaries, etc.
To fund business growth: Growth of business may include expansion of existing lines of business as well as adding new lines. To finance such growth, one needs more funds.
To meet contingencies: Funds are always required to meet the ups and downs of business and for some unforeseen problems.
‘Finance is considered as the life-line of the business, especially in the modern day’. Give reasons for the same.
Ans: Reasons for why Finance is considered as the life-line of the business, especially in the modern day are as follows:
(a) Need for Large Scale Operation :
Finance is required by business to function on a large scale.
(b) Use of Modern Technology :
Finance is required for purchasing modern technology, machinery, equipment and tools to meet the competition and function effectively.
(c) Promotion of sales :
Finance is required for conduction activities for promoting sales. This involves advertisement, personal selling, use of sales promotional schemes, providing after sales service and free home delivery, etc.
Enumerate different types of ICDs.
Ans: Following are the different types of inter corporate deposits or ICDs:
(a) Call Deposits : Call deposits can be withdrawn by the lender by giving a one day notice. The rate of interest on such deposits is 10 % p.a.
(b) Three Months Deposits : These ICDs are for a period of three months. The rate of interest on these deposits is 12% p.a.
(c) Six Months Deposits : These ICDs are for a period of 6 months. The rate of interest on these deposits is 15% p.a.
What is meant by Special Financial Institutions (SFIs)? Explain two merits and two demerits of taking loans from SFIs as a source of long-term funds.
Ans: A large number of financial institutions have been established in India with the primary objective to provide medium and long-term financial assistance to industrial enterprises. Institutions like Industrial Finance Corporation of India (IFCIs), Industrial Reconstruction Bank of India, State Financial Corporation (SFCs), State Industrial Development Corporation (SIDCs), have been established to provide financial support to set up new enterprises as well expansion and modernisation of the existing enterprises.
Two merits of SFIs:
(i) The rate of interest payable is lower than the market rate and
(ii) The amount of loan is large.
Two demerits of SFIs are:
(i) It involves a number of legal and technical formalities and also the negotiation period is usually long.
(ii) The financial institutions often nominate one or two directors to have some degree of control over the utilisation of funds and the functioning of the company
Q) ‘Hiya and Mathew’ is a business firm marketing apparels in Delhi. They are interested in raising short-term finance and approach State Bank of India for the same. Explain any four ways in which bank credit may be granted.
Answer: Four ways in which bank credit may be granted are:
Loans and Advances: When a certain amount of money is advanced by a bank repayable after a specified period, it is known as bank loan. Usually loans are granted against security of assets.
Cash Credit: It is an arrangement whereby banks allow the borrower to withdraw money upto a specified limit. This limit is known as cash credit limit. This facility is granted against the security of goods in stock or other marketable securities like government bonds.
Bank Overdraft: When a bank allows its depositors or account holders to withdraw money in excess of the balance in his current deposit account up to a specified limit, it is known as overdraft facility. This limit is granted purely on the basis of credit-worthiness of the borrower.
Factoring: Factoring is a method of raising short-term finance for the business in which the business can take advance money from the bank against the amount to be realised from the debtors.
Explain any two ways in which a business enterprise can obtain Bank Credit.
Ans: (1) Personal security: Personal security means the credit-worthiness of the borrower. Banks judge the creditworthiness of the borrower on the basis of his financial soundness and past dealings with the bank, and then sanction the amount.
(2) Security of assets: When the banks ask for security of assets, generally movable goods, shares, fixed deposits receipts, life insurance policy, jewelry or precious metals are accepted as security for obtaining a bank credit
Give two merits and two limitations of equity shares, from the point of view of the management.
Ans: Merits :
A company can raise capital by issuing equity shares without creating any charge on its fixed assets.
There is no binding on the company to pay a dividend on equity shares. The company may declare dividend only if there are enough profits.
Demerits :
It requires more formalities and procedural delay to raise funds by issuing equity shares. Also the cost of raising capital through equity share is more as compared to debt.
As the equity shareholders carry voting rights, groups are formed to garner the votes and grab the control of the company. This may lead to conflict of interests, which is harmful for the smooth functioning of a company.
Write explanatory notes on:
(a) Retention of Profits; and
(b) Public Deposits, as methods of Long-term finance.
Ans: (a) Retention of profits : As per Indian Companies Act 1956, companies are required to transfer a part of their profits in reserves like General Reserve, Debenture Redemption Reserve and Dividend Equalisation Reserve etc. These reserves can be used to meet long-term financial requirements like purchase of fixed assets, renovation and modernisations etc. This method of financing long-term financial requirements is also called Retention of Profit.
(b) Public Deposits, as methods of Long-term finance: When commercial banks were not there, people used to deposit their savings with business concerns of good repute. Even today it is a very popular and convenient method of raising short and medium term finance. Under this method companies can raise funds by inviting their shareholders, employees and the general public to deposit their savings with the company. To attract the public, the company usually offers a higher rate of interest than the interest on bank deposit. The period for which companies accept public deposits ranges between six months to 36 months.
Q) “Issuing equity shares for raising long-term finance, from the point of view of management of a company, is considered more advantageous than issuing debentures.” Do you agree? Give reasons in support of your answer.
Answer: I do agree that, Issuing equity shares for raising long-term finance, from the point of view of management of a company, is considered more advantageous than issuing debentures because of the following:
A company can raise capital by issuing equity shares without creating any charge on its fixed assets.
The capital raised by issuing equity shares is not required to be paid back during the lifetime of the company. It will be paid back only when the company is winding up.
There is no binding on the company to pay dividend on equity shares. The company may declare dividend only if there are enough profits.
If a company raises more capital by issuing equity shares, it leads to greater confidence among the creditors.
Mention any five roles of small business in India.
1. Employment : As Small Scale Industries are labour-intensive, they provide employment to a large number of people.
2. Balance Regional Development : SSIs use single technologies and depend on locally available resources (material, labour etc.). This enables it to start its unit anywhere in the country.
3. Opportunity for Entrepreneurship : SSIs provide opportunity for entrepreneurship. These units can be started with little capital so talented and skilled people can have their own business units.
4. Low Cost of Production : SSIs use locally available resources which are less expensive. Therefore, the establishment and running cost of small industries are less.
5. Capture New Business Opportunities : Due to the small size of the organisations, quick decisions can be taken by SSI units. This enables them to capture new business opportunities.
Explain the four types of preference shares that a company can issue.
Ans: (i) Convertible and Non-convertible Preference Share : The preference shares which can be converted into equity shares after a specified period of time are known as convertible preference shares. Otherwise, it is known as nonconvertible preference share.
(ii) Cumulative and Non-cumulative Preference Share : In cumulative preference shares, the unpaid dividends are accumulated and carried forward for payment in future years. On the other hand, in non-cumulative preference shares, the dividend is not accumulated if it is not paid out of the current year’s profit.
(iii) Participating and Non-participating Preference Share : Participating preference shares have a right to share the profit after making payment of dividend at a pre-decided rate to the equity shares. The non-participating preference shares do not enjoy such a right.
(iv) Redeemable and Irredeemable Preference Share : Preference shares having a fixed date of maturity are called redeemable preference shares. Here, the company undertakes to return the amount to the preference shareholders immediately after the expiry of a fixed period. Where the amount of the preference shares is refunded only at the time of liquidation, are known an irredeemable preference shares.
What are ‘Debentures’? Describe three merits and three limitations of debentures as a source of long-term finance for a company.
Ans:
The companies can raise long term funds by issuing debentures that carry an assured rate of return for investors in the form of a fixed rate of interest. It is known as debt capital or borrowed capital of the company. The debenture is a written acknowledgement of money borrowed.
The debentureholders are the creditors of the company and are entitled to get interest irrespective of profit earned by the company.
Three merits of Debentures are :
(a) Debentures are secured loans. On winding up of the company, they are repayable before making any payment to the equity and preference shareholders.
(b) The debentureholders get assured return irrespective of profit.
(c) Debentureholders have no right either to vote or take part in the management of the company. So by issuing debentures the company raises the additional capital without diluting the control over its management.
Three Demerits of Debentures :
(a) If the earnings of the company are uncertain and unpredictable, the issue of debentures may pose serious problems due to a fixed obligation to pay interest and repay the principal. So, when the company expects good and stable income, then only it should issue debentures.
(b) The company, which issues debentures, creates a charge on its assets in favour of debentureholders. So a company not having enough fixed assets cannot borrow money by issuing debentures.
(c) The assets of the company once mortgaged cannot be used for further borrowing. So, the issue of debentures reduces the borrowing capacity of the company.