Telangana TSBIE TS Inter 1st Year Commerce Study Material 8th Lesson Business Finance Textbook Questions and Answers.
TS Inter 1st Year Commerce Study Material Chapter 8 Business Finance
Long Answer Questions
Question 1.
What is business Finance? Explain its need and significance in the business organizations.
Answer:
Meaning: The requirement of funds by business firm to carryout its various activities is called ‘business finance’.
Finance is considered as the life blood of any organization. The success of an industry depends on the availability of adequate finance. Finance is a vital functional area of business. It deals with procurement of funds and their effective utilisation. A business fundamentally requires identifying its sources of finance from where it can procure funds.
Definition:
According to B.O. Wheeler, “Finance is that business activity which is concerned with the acquisition and conservation of capital funds in meeting the financial needs and overall objectives of a business enterprise”.
Nature and Need:
The financial needs of a business organization can be categorized as follows:
A) 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 business 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”.
For Example: A trading concern, may require small amount of fixed capital as compared to a manufacturing concern and the need for fixed capital investment would be greater for a large business enterprise, as compared to that of a small enterprise.
B) Working capital requirements:
A business may be small or large, it needs funds for its day-to-day operations. This is known as “Working Capital” of an Enterprise. It is used for holding current assets such as stock of material, bills receivables and for meeting expenses like salaries, wages, taxes and rent. The amount of working capital required varies from one business enterprises to another depending on various factors.
For Example: 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 high turnover.
Significance of Business Finance:
Business needs finance mainly for acquiring various types of assets and to meet various expenses on day to day basis. The significance and need of business finance is explained below:
1. To meet fixed capital requirement of business: To purchase fixed assets like land and building, plant and machinery, furniture and fixtures etc., business requires finance.
2. To meet Working Capital Requirements: Working capital is used for holding current assets such as stock of material, payment of wages, transportation expenses, etc.
3. For growth and expansion: For growth and expansion activities, a business requires finance. It may be required to increase production, to install more machines, to set up a R & D centre etc.
4. For diversification: Entering into new businesses and new lines of activities is known as diversification.
For Example: ITC dealing with tobacco started ITC kakatiya (hotels), Vivel (shampoos & cosmetics), classmate (note books & stationery) etc. So, Business finance is needed to start any new activity in business.
5. For Survival: To carry out the various business operations in continuity, business finance is needed. Without the required finance, organizations cannot survive for longtime.
6. Liabilities: To meet liabilities of business, be it long-term or short, a business requires sufficient finance, e.g, for payment of loan installments, creditors, etc.
7. For payment of Expenses: For paying salaries, wages, taxes, advertisements and rent, finance is needed.
Therefore, to Execute the various plans of the business, finance is needed.
Question 2.
What are the Various factors that determine the selection of sources of finance?
Answer:
Factors determining the choice of sources of finance: Financial needs of a business are of different types; long term, short term, fixed and fluctuating. Therefore, business firms resort to different types of source for raising funds. The following are the Various factors determining the choice of source of finance:
i) Cost: There are two types of cost viz, the cost of procurement of funds and cost of utilizing the funds. Both these costs should be taken into account while deciding about the source of funds that will be used by an organisation.
ii) Financial strength and stability of operations: The financial strength of a business is also a key determinant. In the choice of source of funds for business should be in a sound financial position. It should be able to repay the principal amount and interest on the borrowed amount.
iii) Form of organisation and legal status: The form of business organisation and status influences the choice of a source for raising money.
For Example: A partnership firm, cannot rise money by issue of equity shares as these can be issued only by a joint stock company.
iv) Purpose and time period: Business should plan according to the time period for which the funds are required. A short-term need can be met through borrowing funds of low rate of interest, through trade credit, commercial paper etc. For long term finance, sources such as issue of shares and debentures are more appropriate.
v) Risk profile: Business should Evaluate each of the source of finance in terms of the risk involved.
For Example: There is a least risk in equity as the share capital has to be repaid only at the time of winding up and dividends need not be paid if no profits are available.
On the other hand A loan has a repayment schedule for both the principal and the interest. The interest is required to be paid, irrespective of the firm earning a profit or incurring a loss.
vi) Control: A particular source of fund may affect the control and power of the owners on the management of a firm.
For Example: As equity share holders enjoy voting rights, financial institutions may take control of the assets or impose conditions as part of the loan agreement. Thus, business firm should choose a source keeping in mind the extent to which they are willing to share their control over business.
vii) Effect on credit Worthiness: The dependance of business on certain sources may affect its credit worthiness in the market. For example, issue of secured debentures may affect the interest of unsecured creditors of the company and may adversely affect their willingness to extend further loans as credit to the company.
viii) Flexibility and ease: Another aspect affecting the choice of a source of finance is the flexibility and ease of obtaining funds. Restrictive provisions, detailed investigation and documentation. In case of borrowings from banks and financial institutions business organisations may not prefer it, if other options are readily available.
ix) Tax benefits: Various sources may also be weighed in terms tax benefits.
For Example: While the dividend on preference shares is not tax deductible, interest paid on debentures and loan is tax deductible. Therefore, be preferred by organisations seeking tax advantage.
Short Answer Questions
Question 1.
Explain the need and nature of business finance?
(or)
Question 2.
What are the various types of capitals required for business enterprises?
Answer:
The financial needs of a business organization can be categorized as follows:
A) Fixed capital requirements:
In order to start business, funds are required to purchase fixed assets like land and building, plant and machinery, furniture and fixtures. This is known as fixed capital requirements of the business 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 etc.
For Example: A trading concern may require small amount of fixed capital as compared to a manufacturing concern and the Need for fixed capital investment would be greater for a large business enterprise, as compared to that of a small enterprise.
B) Working Capital requirements: A business may be small or large it needs funds for its day-to-day operations. This is known as ‘Working Capital” of an enterprise, it is used for holding current assets such as stock of material, bills receivables and for meeting expenses like salaries, wages, taxes, and rent.
The amount of working capital required varies from one business enterprises to another depending on various factors.
For Example: 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 high turnover.
The requirement for fixed and working capital increases with the growth and expansion of business. Sometimes, additional funds are required for upgrading the technology employed so that the cost of production can be reduced.
Question 3.
Explain the classification of sources of finance.
Answer:
The sources of funds can be categorized using different basis viz, On the basis of the period, on the basis of the ownership and on the basis of source of generation. The brief explanation about classification of sources is given below.
A) On the Basis of period: On the basis of period, sources of funds can be categorized into three ways. They are:
- Long-term finance,
- Medium-term finance and
- Short-term finance.
1) Long-term finance: The long-term sources fulfill the requirements of an enterprise for a period exceeding five years and include sources such as:
- Shares and debentures
- Long-term borrowings, and
- Loans from financial institution.
Such financing is generally for the acquisition of fixed assets such as Land and buildings, equipment, plant and machinery etc.
2) Medium-term-finance: Where the funds are required for a period of more than one year but less than five years, medium-term sources of finance are used. These sources include:
- borrowing from commercial banks,
- public deposits,
- lease financing and
- loans from financial institutions.
3) Short-term sources of finance: Short-term funds are those which are required for short duration i.e., a period not exceeding one year.
Trade credit, loans from commercial banks, indigenous Bankers, installment credit, advances, bank over drafts, cash credits and commercial papers are some of the example of short-term sources.
B) On the basis of Ownership: On the basis of ownership, the sources can be classified into 2 types of funds. They are 1) owner’s funds 2) Borrowed funds.
1) Owners funds: It means funds that are provided by the owners of an enterprise, which may be a sole trader or partners or shareholders of a company. It also includes profits reinvested in the business.
Issue of Equity shares and retained earnings are the two important sources from where owner’s funds can be obtained.
2) Borrowed funds: It refers to the funds raised through loans or borrowings. The sources for raising borrowed funds include loans from commercial banks, loans from financial institutions, issue of debentures, public deposits & Trade credit.
C) On the basis of Generation: On the basis of Generation the sources of finances can be generated from 1) Internal source of funds; 2) External source of funds.
1) Internal Sources of funds are those which are generated from within the business. Such as ploughing back of profits, retained earnings, collection of receivables, disposing of surplus inventories and depreciation of funds etc.
2) External Sources of funds include those sources that lie outside an organization, such as shares, debentures, public deposits, borrowing from commercial banks and financial institutions, suppliers, lenders and investors.
Very Short Answer Questions
Question 1.
Business finance.
Answer:
1) The requirement of funds by business firm to carryout its activities is called “Business finance”. Business finance is viewed as “the business activity which is concerned with the acquisition and conservation of capital funds in meeting the financial needs and overall objectives of a business enterprise”.
2) Finance is considered as the life blood of the organization. A business fundamentally require to identifying its sources of finance from where it can procure funds.
Question 2.
Fixed capital.
Answer:
1. The capital which is used to acquire fixed assets such as land and buildings, plant and machinery etc., is called fixed capital. Capital used by the business organisations to meet the long term requirements is called fixed capital or block capital.
2. The amount of fixed capital required by the business concern depends on the size and nature of business. A trader concern may required small amount of fixed capital than a manufacturing concern.
Question 3.
Working capital.
Answer:
1. The capital required by a business enterprise to run its day-to-day operations such as purchase of raw materials, payment of wages and holding current assets like stock of raw materials, bills receivable is called working capital.
2. The amount of working capital required varies from business to business Generally trading concerns require more working capital as compared to manufacturing concerns.
Question 4.
Long-term finance.
Answer:
1. The funds raised for a period of exceeding five years is known as long-term finance. Long-term finance is essential for investing funds in fixed assets like land and buildings, plant and machinery etc.
2. Requirement of the long-term finance depends on size, nature of business and level of technology used. Sources of long-term finance are issue of shares and debentures, long term loans from financial institutions, retained earnings etc.
Question 5.
Short term finance.
Answer:
1. The finance required for a period of not exceeding one year is called short-term finance. Short-term finance is utilised for meeting working capital requirements of the business.
2. The amount required for short-term funds depends on nature of business order and delivery time, volume of business and operating cycle. The sources of short-term finance are trade credit, bank credit, installment credit, customer advance etc.
Question 6.
Internal sources of finance.
Answer:
1. Internal sources of funds are those which are generated from within the business.
2. The sources ploughing back of profits, retained earnings, collection of receivables, disposing of surplus inventories and depreciation of funds etc.
Question 7.
External sources of finance.
Answer:
1. External sources of funds are those sources that lie outside the business organization.
2. The sources include shares, debentures, borrowings from commercial banks, financial institutions, suppliers, lenders, and investors.