BUSINESS FINANCE

VANDHANA.S COMMERCE

BUSINESS STUDIES

BUSINESS FINANCE Textbook For Class XI

2023

NATIONAL ANTHEM Jana-Gana-Mana-Adhinayaka Jaya He Bharata-Bhagya-Vidhata Panjaba-Sindhu-Gujarata-Maratha Dravida-Utkala-Banga Vindhya-Himachala-Yamuna-Ganga Uchchala-Jaladhi-Taranga Tava Subha Name Jage, Tava Subha Asisa Mage, Gahe Tava Jaya-Gatha. Jana-Gana-Mangala-Dayaka Jaya He Bharata-Bhagya-Vidhata. Jaya He, Jaya He, Jaya He, Jaya, Jaya, Jaya, Jaya, He.

PLEDGE India is my country. All Indians are my brothers and sisters. I love my country and I am proud of its rich and varied heritage. I shall always strive to be worthy of it. I shall give my parents, teachers, and all elders respect and treat everyone with courtesy. To my country and my people, I pledge my devotion. In their well-being and prosperity alone, lies my happiness.

CONTENT 1. INTRODUCTION TO BUSINESS FINANCE 2. SOURCES OF BUSINESS FINANCE 3. SHARES AND DEBENTURES 4. SPECIAL FINANCIAL INSTITUTIONS 5. INTERNATIONAL FINANCE 6. KEY TERMS

CHAPTER 1 INTRODUCTION TO BUSINESS FINANCE LEARNING OBJECTIVES After studying this chapter, you should be able to: • •

State the meaning, nature and importance of business finance. Classify the various sources of business finance.

INTRODUCTION Business is a major economic activity in all modern societies as it is concerned with the production and sales of goods and services required by the people. Finance is the heart and soul of any enterprise. It plays a vital role right from the establishment of a business to play an important role in driving its growth. Today business has come a long way from traditional methods of financing. This chapter deals the meaning, nature and importance of business finance and an overview of various source of business finance.

MEANING OF BUSINESS FINANCE Business is concerned with the production and distribution of goods and services for the satisfaction of needs of society. For carrying out various activities, business requires money. Finance, therefore, is called the life blood of any business. The requirements of funds by business to carry out its various activities is called business finance. A business cannot function unless adequate funds are made available to it. 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. 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.

NATURE OF BUSINESS FINANCE The nature of business finance can be summed up with the help of given points’ 1. The Concept of business finance is wide and is used in every type of business house whether it is more or large 2. It includes all types of funds and capitals that are needed to start, run, expand and diversify he business. 3. The primary goal of business finance is to increase the corporative value.

SIGNIFICANCE OF BUSINESS FINANCE

5. Necessary

for

availing

the

opportunities: Business can take

Adequate finance is required in the

advantage of upcoming opportunities

business because of the following reasons:

and can earn more, only if it has adequate finance at its disposal.

1. Necessary to start business: Every new venture needs money to buy

FINANCIAL NEED OF THE

plant

BUSINESS

and

machinery,

land

and

building, raw materials etc. So, finance is necessary to start a

The financial needs of the business can be categorised in the following

business. 2. Necessary to face economic cycle: During recession and depression the sales of business go down and profitability adversely effected. To overcome problems of such type, a business needs finance.

1. Fixed capital requirements To start a business fixed capital such as land, plant, machinery, etc are required. The amount which is required to purchase these assets is known as fixed capital requirement

3. Necessary for growth: Sometimes in order to attain more or to achieve

of

the

enterprises.

This

amount remains invested in the business for a long period of time.

greater success, a company needs significant financial investments to acquire

new

capital,

staff

or

inventory.

2. Working capital Requirement In addition to fixed capital requirement, a business also needs finance to carry out the

4. Necessary for payment of debt: It is

various routine activities such as purchase

necessary that a business firm meet

of raw material, payment of electricity

its

bills, rent, etc. The amount required to

liabilities

in

time.

Promote

payment of debt can be possible only

meet

because of adequate arrangement of

requirement.

finance.

is

known

as

working

capital

CLASSIFICATION OF SOURCE OF FINANCE Source of fund can be classified on the basis of period ownership and source of generation, as illustrated on the chart below.

The broad classification of these source has been discussed ahead.

1. Classification on the basis of period On the basis of period source of fund can be classified as: a) Long term source: These sources provide finance to business firm for a period exceeding 5 years. b) Medium term source: These sources provide finance to business firm for a period exceeding 1 year but less than 5 years. c) Short term source: These sources provide finance to business firm for less than 1year

2. Classification on the basis of ownership On the basis of ownership, the source of fund can be classified as: a) Owner’s fund: Fund or finance provided by the owners of the business is referred to as owner’s fund. Being the recipient of the profit earned by the business, they have initiative to invest in the business. The fund provided by the owner are not required to

pay back during the life of the business. Therefore, they are permanent source of finance. b) Borrowed fund: The fund that are raised by way of loan and credit from the public, banks and financial institutions are termed as borrowed funds. These funds are raised from external source and are required to pay back after a stipulated period. A fixed rate of interest is also required to be paid on the amount raised from these sources.

3. Classification on the basis of source of generation

b) External source: These includes all those funds which are generated from outside a business.

On the basis of source of generation, source of fund can be classified as: a) Internal source: These include all those funds which are generated from within a business such as, from the collection of receivables, disposing of surplus inventories and ploughing back of profits. These sources can however fulfil only limited needs.

These sources carry a cost but large amount can be raised through these sources also in some cases a business is required to mortgage its assets for raising finance from these sources.

SUMMARY

Finance required by business to establish and run its operations is known as business finance. No business can function without adequate amount of funds for undertaking various activities. The funds are required for purchasing fixed assets (fixed capital requirement), for running day-to-day operations (working capital requirements, and for undertaking growth and expansion plans in a business organization. Various sources of funds available to a business can be classified according to three major bases, which are (1) time period (long, medium and short term), (1) ownership (owner's funds and borrowed funds), and (ul) source of generation (internal sources and external sources).

EXERCISES Multiple Choice Questions 1. Internal source of capital is those that are generated through a) Suppliers c) Issue of shares b) Loans from commercial bank d) Business Short Answer Questions 1. What is business finance? Why do businesses need funds? Explain. Long Answer Questions 1. What is the classification of business finance? Explain. Assignment On the basis of the sources discussed in the chapter, suggest suitable options to solve the financial problem of the restaurant owner.

CHAPTER 2 SOURCE OF FINANCE Learning Objectives After learning this chapter, you will be able to: •

Understand different sources of finance

INTRODUCTION As already discussed, a business can raise finance from a number of sources. Each sources have certain merits and limitations which should be carefully analysed before its selection. A brief description on various source along with their advantages are given below. RETAINED EARNINGS It means that part of trading profits which are not distributed in the form of dividends, but retained by the directors for future expansion of the company. This is also referred to as ploughing back of profits. In other words, they are sacrifice made by equity shareholders therefore referred to as internal equity. It is calculated as Retained earnings (RE) =Net income – Dividend TRADE CREDIT Trade credit facilitate the purchase of supplies and raw materials without immediate payment. Such credit appears in the accounts of buyer of goods as sundry creditors or account payables. It is

commonly used by business organisations as a source of short-term finance. The amount and period of trade credit depend upon following factors. a) Good will or reputation of purchasing firm b) The number of purchases made c) Past record of buyers and his financial positions Also, the term of trade credit may be varied from industry to industry and person to person. PUBLIC DEPOSIT It refers to the deposits that are raised by the business organisations directly from public. Under it, a company directly raised loans from the public in the form of deposits for a fixed period of time at a fixed rate of interest. This rate is generally higher than the offered, on bank deposits. Companies generally invited public deposits for a period up to 3 years. Its acceptance is regulated by reserve bank of India. Any person who is interested in depositing money with a company can do so by filing a prescribed form. The company issues a deposit receipt as acknowledgment of debt.

INTERCORPORATE DEPOSIT It is a deposit made by one company with another company for a period up to six months. These are generally unsecured. Companies having surplus funds lend it to the other companies who are in need of funds. This arrangement is mutually benefiting. The lending companies earns interest on its ideal funds and the borrowing companies is able to fulfil the short-term financial needs. The following are the type of intercorporate deposits. 1. Call deposits: Such deposits can be withdrawn by lending company by giving a one-day notice. 2. Three Months deposits: As the name suggested, these deposits are made for a period of three months. These are the most popular form of intercorporate deposits. 3. Six Months Deposits: These are made for a period of six months, only with the company which enjoys a high credit rating. ISSUE OF SHARES A company can raise necessary finance by issue of shares. The capital of a company is divided into small units called shares. Each share has a nominal value. The capital obtained by an issue of share is known as share capital. The person holding a share is referred to as shareholders. The share is classified as equity share and preference share. DEBENTURE OR BOND It is an important instrument for raising long term debt capital. Debenture is basically a written acknowledgement of the company, under its seal that it has borrowed certain amount of money. In

general, it refers to long term loans a company by debenture holder on which they received a fixed rate of interest.

Bond are also loan instruments and resemble debenture in all aspects except one. No pre-determined rate of interest is announced at a time of issuing bond, but a specific rate of interest is announced by issuing debenture. COMMERCIAL BANKS Commercial banks such as state bank of India, Canara bank, etc. advance money to the business firm for different purposes and different time period. Bank extended credit in many ways like cash credits, overdraft discounting of bill of exchange and issue of letters on credit.

The repayment is made by borrower in instalment as per agreement between bank and borrower. The interest charged by the bank depends upon a number of factors, such as nature of advance, period for the loan is taken, etc. Loan is generally offered by a bank on the basis of securities of asset. The loan can be repaid either in instalment or in lumpsum. LOAN FROM INSTITUTIONS

FINANCIAL

The government has established a number of financial institutions all over the country to provide to business organisations. These institutions are established by the central as well as the state governments. These institutions provide loan for medium- and long-term needs of the business. These institutions also provide technical assistance and managerial services to business units. These institutions provided for specialized finance, keeping in view, the diverse requirements of business units. Since these institutions facilitate industrial developments in the country, they are known as development banks.

INTERNATIONAL FINANCE Apart from raising finance through domestic sources such as equity shares, preference shares, loans from Indian commercial banks, etc. There are various avenues present internationally, from which a company can raise funds

The various sources of International Finance are: 1. International Commercial Banks 2. International Agencies and Development Banks 3. International Capital Markets

SUMMARY The sources of funds available to a business include retained earnings, trade credit, factoring, lease financing, public deposits, commercial paper, issue of shares and debentures. loans from commercial banks, financial institutions and international sources of finance. The portion of the net earnings of the company that is not distributed as dividends is known as retained earnings. The amount of retained earnings available depends on the dividend policy of the company. It is generally used for growth and expansion of the company. The credit extended by one trader to another for purchasing goods or services is known as trade credit. Trade credit facilitates the purchase of supplies on credit. The terms of trade credit vary from one Industry to another and are specified on the invoice. Small and new firms are usually more dependent on trade credit, as they find it relatively difficult to obtain funds from other sources. A company can raise funds by inviting the public to deposit their savings with their company. Public deposits may take care of both long and short-term financial requirements of business. Rate of interest on deposits is usually higher than that offered by banks and other financial institutions.

EXERCISES Multiple Choice Question 1. Public deposits are the deposits that are raised directly from a) The public c) The auditors b) The directors d) The owners Short Answer Question 1. What is the difference between internal source and external source of finance? Long Answer Question 1. Discuss the source from which a large industrial enterprise can raise capital for financing modernisation and expansion. Assignment Prepare a comparative chart of all sources of finance.

CHAPTER 3 SHARES AND DEBENTURES Learning Objectives After learning this chapter, you will be able to: •

Understand the concept, type, merits and demerits of shares and debentures

INTRODUCTION A company can raise necessary finance by issue of shares. The capital of a company is divided into small units called shares. Each share has a nominal value. The capital obtained by an issue of share is known as share capital. The person holding a share is referred to as shareholders. The share is classified as equity share and preference share. It is an important instrument for raising long term debt capital. Debenture is basically a written acknowledgement of the company, under its seal that it has borrowed certain amount of money. In general, it refers to long term loans a company by debenture holder on which they received a fixed rate of interest. EQUITY SHARES The capital obtained by issue of equity shares is known as equity share capital. It is considered as the permanent source of capital for the company, as it is not required to be returned during the lifetime of the company. The return on the equity share is paid in the form of dividend. The company pays dividend only in the case of profits. The rate of dividend is not fixed and depend upon the surplus profit left after paying to the preference shareholders. Because of these features, the equity shareholders are known as “Residual Owners” of the business. They are the original risk bearer. Voting rights are conferred upon them to enable them to participate in the affair of the business. Note: Generally, dividend to equity shareholders is paid out of profit but in certain conditions it can be paid out of reserves also. Merits of equity share. 1. Equity shares are suitable for those investors who are willing to assume risk for higher return. 2. Payment to equity shareholders is not compulsory. Therefore, there is no burden on the company. 3. It is considered as a good source of long-term finance and it is a permanent source of capital. 4. Equity capital provides credit worthiness to the company and confidence to the prospective loan providers.

5. Fund can be raised through equity shares without creating any charges on the asset of the company. These assets can be mortgaged to raise finance from other source. 6. Democratic control in the management of a company is assured due to voting right of equity shareholders. Demerits of equity share 1. Investors who want steady income may no prefer equity shares due to the fluctuating returns. 2. The cost of equity share is more as compared to other source of fund. 3. Every successive issue of equity share dilutes the voting power and earning of equity shareholders. 4. Many formalities and procedural delay are involved while raising fund through equity.

PREFERENCE SHARES The capital raised by issue of preference shares is called preference share capital. Preference share confer following two preferential rights to its holders. •

•

Preferential right receive dividend at predetermined rate, before dividend is paid to the preferential equity shareholders. Preferential right to receive repayment of capital at the time of resolution of the company. This right authorizes them to receive payment against capital

before any amount is paid to equity shareholders. Preference share resemble debentures as they bear a fixed rate of return. Also, as the dividend is payable only at discretion of directors and only after profit after tax, to that extend, they resemble equity share. Merits of Preference Share 1. Dividends to be paid to the preference shareholders are fixed. This ensures the investor the security of fixed return. 2. These shares are suitable for those investors who want fixed income with comparatively low risk. 3. It does not affect the control of the equity shareholders, as these shares do not carry voting rights. 4. Payment of fixed dividend to preference shareholders enable a company to declare higher dividend for equity shareholders. 5. The holders of these shares have a preferential right of repayment over equity shareholders when the company liquidates. 6. Assets are not required to be mortgaged for raising preference share capital. Thus, the assets of a company are free from any charge and can be used to raise debt capital. Demerits of Preference shares 1. Preference shares are not suitable for those investors who are willing to take risk and are interested in higher returns. 2. These shares dilute the claim of equity shareholders over the assets of the company.

3. The company has to pay higher rate of dividend to the preference shareholders as compared to interest on debentures. 5. the returns are not assured and they are unable to attract the investors.

4. The dividend of these shares paid only when company on profit. Thus, case of interest on loan.

6. The dividend paid on preference share is not deductible from profits as expense thus there is no tax s aTYPES OF PREFERENCE SHARES v • Cumulative and Non-Cumulative: Cumulative preference shares i enjoys the rights in accumulate the dividends in future year, in case n the same is not paid in particular year. On the other hand, On Nong Cumulative shares, dividend is not accumulated if it is not paid in s particular year. a s

•

i n t h e

•

Participating and Non-Participating: Participating preference share have a right to participate in future surplus of a company’s profit left after paying dividend on preference and equity shares, as per the provision. However, Non-Participating Preference shares do not enjoy right of participation in the surplus of profit of the company. Convertible and Non-Convertible: Convertible Preference shares can be converted into equity shares after a special time period. However Non-Convertible Preference shares cannot be converted into equity shares.

DEBENTURES It is an important instrument for raising long term debt capital. Debenture is basically a written acknowledgement of the company, under its seal that it has borrowed certain amount of money. In general, it refers to long term loans a company by debenture holder on which they received a fixed rate of interest. The above discussion brings forth the following features of debentures:

1. Debentures are basically borrowed funds. Because of this feature, the debenture holders are deemed to be the creditors of the company.

2. Generally, companies pay half yearly interest, at a specified rate, to the debenture holders. 3. Public issue of dentures requires that the issue be rated by a credit rating agency like CRISIL (Credit Rating and Information Services of Indian ltd.

Merits of Debentures

Demerits of Debentures

1. It is preferred by those investors who want fixed income at lesser risk. 2. Debenture are fixed charge funds and do not participate in the profits of the company. 3. The issue of debenture is suitable in the situation when the sales and earnings are relatively stable. 4. Debentures do not carry voting rights. Therefore, financing through debentures does not dilute the control of equity shareholders on management. 5. The interest paid on debentures is admissible as an expense according to the provisions of income tax. This helps a company to reduce its tax liability. Because of this, it is also economical for a company to raise finance through this source.

1. Debentures put a permanent burden on the earnings of a company. There is a greater risk when earnings of the company fluctuate. 2. In case of redeemable debentures, the company has to make provisions for repayment on the specified date, even during periods of financial difficulty. 3. Each company has certain borrowing capacity. With the issue of debentures, the capacity of a company to further borrow funds reduces.

TYPES OF DEBENTURES

•

•

•

•

•

Secured and unsecured: secured debenture create charge on the asset of the company by mortgaging the asset of the company. However, unsecured debenture is transferred by delivery by delivery only. Registered and bearer: Registered debentures are duly record in the register of debenture holders maintained by the company. They can be transferred through a regular instrument of transfer. On the other hand, bearer debentures are transferred by delivery by delivery only. Convertibles and non-convertible: convertible debentures are convertible into equity shares after a specific period. But non-convertible debenture is not convertible into equity shares after a specific period. First and second: First debenture is repaid before any other debenture are repaid. But second debenture are paid after the first debenture are paid after the first debenture s have been paid back. Redeemable debentures: The amount outstanding against these debentures is required to be paid back after a specified period.

SUMMARY Equity shares represents the ownership capital of a company. Due to their fluctuating earnings, equity shareholders are called risk bearers of the company. These shareholders enjoy higher returns during prosperity and have a say in the management of a company, through exercising their voting rights, Issue of preference shares: These shares provide a preferential right to the shareholders with respect to payment of earnings and the repayment of capital. Investors who prefer steady income without undertaking higher risks prefer these shares. A company can issue different types of preference shares. Debenture represents the loan capital of a company and the holders of debentures are the creditors. These are the fixed charged funds that carry a fixed rate of interest. The issue of debentures is suitable in the situation when the sales and earnings of the company are relatively stable.

EXERCISES Multiple choice questions 1. Equity shareholders are called a) Owners b) Partners

c) Executives d) Guardian

Short answer questions 1. What preferential rights are enjoyed by preference shareholders? Explain. Long answer questions 1. What advantages does issue of debentures provide over the issue of equity shares? Assignment Collect information about the companies that have issued debentures in recent years. Give suggestions to make debentures more popular.

CHAPTER – 4 SPECIAL FINANCIAL INSTITUTIONS LEARNING OBJECTIVES

After learning this chapter, you will be able to: •

Understand the different types of special financial institution.

INTRODUCTION The economic development of any country depends on the growth of the business sector. The well-developed financial system helps the business to achieve growth by making funds available to them. For which, the government has established financial institutions all over the country to provide finance to businesses. These institutions aim at promoting the industrial development of a country and are called ‘development banks. The main role of a financial institution is to transfer financial resources from those who save it to those who are in need of financial resources for economic activity. Central and state governments set up Financial Institutions. They provide both owned capital and loan capital for long and medium-term and supplement the traditional financial agencies like commercial banks. Financial institutions give technical assistance and managerial services to organisations. These institutions give large funds for a longer duration. Merits of financial Institutions The merits of raising funds from financial institutions are as follows: •

Here, finance is available even during periods of depression, when no other source of finance is available in the market.

•

Besides providing funds, many of these institutions provide financial, managerial and technical advice and consultancy to business firms.

•

For long-term business funds requirements, financial institutions are preferable as they provide long-term finance, which is not provided by commercial banks.

Demerits of financial institutions The limitations of raising funds from financial institutions are as follows: •

Restriction on dividend payment imposed on the powers of the borrowing company by the financial institutions.

•

As these institutions come under government criteria, they follow rigid rules for granting loans. Too many formalities make the procedure time-consuming

•

Financial institutions may have their nominees on the Board of Directors of the borrowing company thereby restricting the powers of the company.

2. STATE FINANCIAL CORPORATIONS (SFC) The State Financial Corporations Act, 1951 made the State Governments build up State Financial Corporations in their particular areas for giving medium and short-term funds to businesses which are outside the extent of the IFCI. 3. INDUSTRIAL CREDIT AND INVESTMENT CORPORATION OF INDIA (ICICI) This foundation formed in 1955 as a public organization under the Companies Act. ICICI helps the creation, development and modernisation of industrial endeavours solely in the private sector.

SPECIAL FINANCIAL INSTITUTION 1. INDUSTRIAL FINANCE CORPORTION OF INDIA

IFCI set up as a statutory organization under the Industrial Finance Corporation Act 1948. Its main objectives were to provide help towards supporting the local advancement and urging new business visionaries to go into the urgent and needful sectors of the economy.

4. INDUSTRIAL DEVELOPMENT BANK OF INDIA (IDBI) In 1964, it was set up under the Industrial Development Bank of India Act, 1964 with a target to facilitate the working of other financial institutions including commercial banks.

5. STATE INDUSTRIAL DEVELOPMENT CORPORATIONS(SIDCs) The full form of SIDC or SIDCs is State Industrial Development Corporations. It was first established in 1995 under the Companies Act, 1956. They are state-owned government corporations that engage in the development and promotion of medium and large industries. SIDCs aim to develop industrial infrastructure such as industrial parks and industrial estates along with providing financial assistance. They set up industrial projects either in joint sector collaboration with private entrepreneurs or on their own. They also set up such projects as wholly-owned subsidiaries. 6. UNIT OF INDIA(UTI)

TRUST

Unit Trust of India (UTI) is a statutory private sector investment body. It was set up on February 1, 1964 as per the Unit Trust of India Act of 1963. The primary objective of setting up this institution was to channel corporate investments through encouraging productive community savings. Therefore, it allows small-time savers to invest in risk-diverse fields.

7. INDUSTRIAL INVESTMENT BANK OF INDIA LTD It was set up as an essential institution for the restoration of sick units and was known as Industrial Reconstruction Corporation of India. It was reconstituted and renamed as the Industrial Reconstruction Bank of India in 1985 and again in 1997, its name was changed to Industrial Investment Bank of India.

8. LIFE INSURANCE CORPORATION OF INDIA(LIC) LIC stands for Life Insurance Corporation of India. It started its operations as a corporate firm in September 1956 after the Life Insurance of India Act was passed by India’s Parliament in June 1956. The LIC Act came into effect from July 1956. It helped in the nationalization of the private insurance industry in India. LIC of India was formed by merging 154 life insurance companies, 16 foreign companies and 75 provident companies. The headquarters of LIC is in Mumbai, Maharashtra.

SUMMARY Both central and state governments have established a number of financial institutions all over the country to provide industrial finance to companies engaged in business. They are also called development banks. This source of financing is considered suitable when the large funds are required for expansion, reorganization and modernization of the enterprise.EXERCISES

EXERCISES Multiple Choice Questions 1. Which of the following banks is the largest commercial bank in India? a) State Bank of India c) Union bank b) ICICI Bank d) Bank of India

Short Answer Questions 1. Name any three financial institutions and state their objectives Long Answer Questions 1. Explain the financial institutions of India. Assignment Institutional financing has gained importance in recent years. In a scrapbook paste detailed information about various financial institutions that provide financial assistance to Indian companies.

CHAPTER-5 INTERNATIONAL FINANCE LEARNING OBJECTIVES After learning this chapter, you will be able to: • •

Understand the meaning of internal finance Explaining various sources of international finance

INTRODUCTION Most countries of the world which raced to the path of economic and industrial development had to depend on foreign capital to some extent. Under developed countries like India have to depend on foreign capital for financing their development programmes as they suffer from low level of income and low level of capital accumulation. The degree of dependence, however, varies from country to country depending upon its level of mobilization of domestic capital, technology development, attitude of the government, etc. But the fact cannot be denied that foreign capital contributes in many ways to the process of rapid economic growth and industrialization. Like international trade and business, international finance exists due to the fact that economic activities of businesses, governments, and organizations get affected by the existence of nations. It is a known fact that countries often borrow and lend from each other. In such trades, many countries use their own currencies. Therefore, we must understand how the currencies compare with each other. Moreover, it is always beneficial to have a good understanding of how these goods are paid for and what is the determining factor of the prices that the currencies trade at. NATURE OF INTERNATIONAL FINANCE Finance is an art and science of handling and managing monetary resources of the concern efficiently and effectively. Finance is very important part of any business and hence most of the decisions are taken accordingly. International finance records and monitors not only local finance of the nation but it refers to international level or global level. In short, international finance can be said to be focused on financial decisions, allocation decisions and profit distribution or dividend decisions. Some of the features of international financing management are listed below as international finance management has some certain distinguished features when compared with domestic finance managing, they are, Foreign exchange risks: An understanding of foreign exchange is very important for the investors and managers in today’s world of unforeseen changes in exchange rates. This rate is generally ignored and is lesser in domestic economies as it extends too only that particular

economy, but when it comes to global level it should be very seriously taken as there is risk of violation foreign exchange rates. It may be regarded as most serious international problem. b. Political risks: One of the major risks which a company may encounter in international finance is political risk. It may result in loss. As new acts and laws may be enforced or may change decisions taken by prior person. For example, in 1992, Eron development corporation signed a contract to build India’s longest power plant, but it was later cancelled in 1995 by politicians in Maharashtra, who argued that India does not need power plant. The company spent nearly $300million on that project. c. Market imperfections: Market imperfections is in trend nowadays, and this is one of major demerit for the concern. These are various changes in nation’s law, taxation, rules and regulations and culture etc.

SOURCES FINANCE

OF

INTERNATIONAL

2. INTERNATIONAL COMMERCIAL BANKS Commercial bank all over the world extend foreign currency loans for business purposes. These banks are an important source of financing non-trade international operations. These types of loans and services provided by bank vary from country to country. For example, standard chartered Bank is a major source of foreign currency loans for the Indian industries.

3. INTERNATIONAL AGENCIES AND DEVELOPMENT BANKS A number of international agencies and development banks have emerged over the years to finance international trade and business. These body provides long and medium-term loans and grants to promote the development of economically backward areas of the world. These bodies where set up by the governments of developed countries at national, regional and international levels for funding various projects. International Finance Corporation (IFC), EXIM bank and Asian development bank are the example of such institutions. 4. INTERNATIONAL MARKETS

CAPITAL

Domestic companies can also raise finance from international capital markets by issuing an American Depository Receipts (ADRs) and global depository Receipts (GDRs). These instruments have been discussed in detail ahead.

AMERICAN DEPOSITORY RECEIPTS

ADRs. Dividend on ADRs do not carry voting rights.

As we have already discussed that a company can raise owned funds by issuing equity shares in the domestic market. But, if the company wants to raise finance from the American capital market, then it can issue equity shares specially targeted for the American investors by issuing American Depository Receipts (ADRs). These receipts are basically shares of an Indian company denominated in US dollars.

GLOBAL DEPOSITORY RECEIPTS(GDRs) Global Depository Receipts are similar to American Depository Receipts, except that they are issued in some other foreign country except for America. In 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.

The stock of many non-US companies trades on US stock exchanges through the use of SUMMARY With liberalization and globalization of the economy, Indian companies have started generating funds from international markets. The international sources from where the funds can be procured include foreign currency loans from commercial banks, financial assistance provided by international agencies and development banks, and issues of financial instruments (GDRs/ ADRs/ FCCBs) in international capital markets.

EXERCISES Multiple Choice Questions 1. ADRs are issued in a) Canada b) China

c) India d) USA

Short Answer Questions 1. What is the different between GDR and ADR? Explain. Long Answer Questions 1. Discuss the financial instruments used in international financing. Assignment Prepare an assignment on the topic “International Finance"

KEY TERMS

Finance

FCCBs

Owned capital

Long term source

Fixed capital

Short term source

Working capital

Charge on assets

Borrowed capital

Fixed charge funds

Restrictive conditions

Account receivables

Voting power

ADRs

Bill discounting

GDRs