1.
Public Deposits:
· It
refers to the deposits accepted from the public on which a fixed
rate of interest is paid.
The rate of interest is higher than rate of interest paid by banks on their
deposits.
· Only
Public Companies and non-banking companies are allowed to accept public
deposits. A private company is not allowed to accept deposits.
· The
time period of such deposits may range from 6 months to 3 years.
· Such
deposits are unsecured and no assets are required to be pledged.
Advantages
1. No legal formalities : It is a simple method, where
public make deposits at their free will. It involves no legal formalities which
are required in the issue of shares and debentures.
2. No charge on assets :
Public deposits do not involve any charge on the assets of the company. The
company can use its fixed assets for raising funds from other sources.
3. No interference in management:
Depositors do not have any voting rights. They can not take part in management
and do not interfere in the matters of the company.
4. Flexibility in capital structure: The capital structure of the company
can be kept flexible by this method of finance. Fixed deposits can be returned
if the company is overcapitalized. On the other hand, additional finance can be
raised without much difficulty, in case of need.
5. Economical : It is economical because the rate of
interest allowed on deposits is usually less than the interest rate charged by
banks and other financial intuitions on loans.
6. Trading on equity:
Interest on Deposts is paid at a fixed rate. In case the earnings of the
company good, the rate of dividend on equity shares can be increased.
Disadvatages:-
1. Unsuitable for new concerns: This method is not suitable for
new companies as the public may be hesitant to invest for fear of loss of money.
2. Uncertainty of getting
deposits: Public deposits are called “fair
weather friends”. There is no certainty of getting a good response from public
particularly in period of depression.
3. Unsecured:
Depositors face high risk as public deposits are secured on the assets of the
company.
4. Restrict growth of capital market:
Public deposit hamper the grown the healthy capital market in the country.
Widespread use such a source may create shortage of industrial security. It may
also pose a threat to the credit planning and plan priorities of the Govt.
5. Possibility of cheating(
speculations):
It is possible that a company may project a good picture to attract public
deposits. The funds procured may be misused and thereby innocent investors may
be cheated.
6. Loss of creditworthiness:
If the deposit money is not paid on maturity on account of shortage of liquid
resources, the goodwill of the company may be adversely affected.
2. Commercial Banks:
Lending
is an important function of commercial banks. Banks provide finance to business
enterprises in the following ways:
1. Loans and Advances:
the key features are as follows:
a. It is lump
sum money advanced by way loan to the borrower for which a bank
opens a separate account in the name of the borrower in which the amount is
credited.
b. Interest : the borrower is required to pay interest on the whole
amount from the date the loan was sanctioned.
c. Repayment: The loan may be repaid either in instalments at regular
interval or in one time at the expiry of a fixed term of loan.
d. Withdrawal: the borrower can withdraw the whole of the amount or a
part of it but interest is charged on the whole amount of loan.
e. Security: The loan may be secured or unsecured. However in most cases
the banks ask for sufficient security from the borrower before sanctioning the
loan.
2. Cash Credit: Its key
features are as follows:
a. Cash credit is a kind of agreement
with the bank under which a bank fixes a maximum limit up to which the borrower can withdraw money. It is a
running account from which the amount can be withdrawn and paid back as per the
needs of the customer.
b. The limit is usually fixed based on
the reputation and security offered by
the borrower.
c. Interest is
charged only on the actual amount withdrawn.
The main
advantage is flexibility in the use of money and the
convenience. The customer does not have to approach the bank again and again in
case of need of funds.
The disadvantage is the high rate of interest.
3. Bank Overdraft: Main points are:
a. Overdraft is facility of
withdrawing/making payment more than the balance in the bank.
b. Overdraft facility is granted to
customers having a current account with the bank.
c. A maximum limit of overdraft is fixed based on the reputation ( credit
worthiness) of the customer and the security offered by him.
d. Interest is charged on the actual amount of overdraft.
This is a
very convenient and flexible one time form of short
term financial arrangement with the bank and the customer does not have to ask
bank if the payment exceeds the balance in the bank.
4. Discounting of
Bills: Main points are:
a. Discounting of bills means getting
cash from a bank in exchange of Bills of exchange ,promissory note etc.
b. Bank charge some commission/interest
for this service by paying amount lower than the face value of the bill. The
charges are for the unexpired time period of the bill. These are called
discounting charges.
c. On maturity date of the bills, the
bank will collect full amount of the bill from the drawee ( debtor).
d. The borrower/customer remains liable
to the bank, if the drawee fails to honour the bill on its due date.
Advantages
of funds from Commercial Banks:
Bank
Credit has several advantages:
1. Flexible: Bank credit is highly flexible. There
are many options for raising short term funds. The money can be repaid whenever
desired.
2. No interference in management:
Commercial banks do not interfere in the working of the company. Only financial
statements are to be submitted at the specified time.
3. Easy repayment option : In all the lending options, the
banks provides easy repayment option to the borrower, which is not available in
any other forms of borrowing.
4. Economical: short term funds
from banks prove to cheaper. This reduces interest burden on the borrower.
Disadvantages:
1. Legal formalities:
2. Shorter period of funds:
Funds from commercial banks are mostly for shorter periods.
3. Charge on assets: Banks
generally require a charge on the assets of company before funds are sanctioned.
4. High rate of interest: The rate
of interest charged by the banks is higher than interest on debentures or
public deposits.
Trade
Credit :
· Trade
credit is a credit extended on purchase
of raw material or finished goods on credit. The payment for purchased is
to be made later on. Trade credit does not include purchase of assets on credit.
· The
credit period range from 15
days to three months.
· Trade
credit is unsecured and the credit is allowed by sellers
to buyer based on the financial reputation of the buyer or trade practice in
the industry, financial strength of the buyer, nature of products etc.
Advantages
1. Simple : Trade
credit is convenient source of short term credit and does not involve much
formalities.
2. No interest: No interest is payable for the period of credit.
3. No security : The buyer is not required to give any security or pledge
assets.
4. Flexible : The payment system is quite flexible and depends upon
mutual agreement between the seller and the buyer.
Advantages
1. Higher prices: The
prices of goods sold is generally higher when trade credit is allowed.
2. Available for short term : the maximum period of credit is only 3 months.
3. Possibility of Bad Debts: The seller may have to bear the bad debts if the buyer is
unable to pay the amount.
4. Large working capital: the sellers need to keep large amount of working capital
when he sells the goods on credit and allows longer credit period.
Installment Credit:
· It
refers to purchase of durable items like plant and machinery, furniture etc. on
credit.
· The
buyer has to pay part of the price at the time of taking delivery of goods,
known as down payment. The balance of the amount is to be paid in installments.
· The
seller/supplier charges interest on the balance due and interest is included in
the installment. In some cases, the credit is allowed through finance
company or commercial banks.
· The
physical possession of the asset is given to the buyer immediately on signing
of agreement and down payment but the ownership of the asset is transferred
only on payment of final installment.
Customer
Advance: