What Is Finance?

Finance is a broad term that describes activities associated with banking, leverage or debt, credit, capital
markets, money, and investments. Basically, finance represents money management and the process of
acquiring needed funds. Finance also encompasses the oversight, creation, and study of money, banking,
credit, investments, assets, and liabilities that make up financial systems.
Many of the basic concepts in finance originate from microeconomic and macroeconomic theories. One of
the most fundamental theories is the time value of money, which essentially states that a dollar today is
worth more than a dollar in the future.
 Finance encompasses banking, leverage or debt, credit, capital markets, money, investments, and the
creation and oversight of financial systems.
 Basic financial concepts are based on microeconomic and macroeconomic theories.
 The finance field includes three main subcategories: personal finance, corporate finance, and public
(government) finance.
 Financial services are the processes by which consumers and businesses acquire financial goods. The
financial services sector is a primary driver of a nation’s economy.
Types of Finance
Because individuals, businesses, and government entities all need funding to operate, the finance field
includes three main subcategories: personal finance, corporate finance, and public (government) finance.
Personal finance
Financial planning involves analyzing the current financial position of individuals to formulate strategies for
future needs within financial constraints. Personal finance is specific to an individual’s situation and activity.
Therefore, financial strategies depend largely on the person’s earnings, living requirements, goals, and
desires.
Individuals must save for retirement, for example, which requires saving or investing enough money during
their working lives to fund their long-term plans. This type of financial management decision falls under
personal finance.
Personal finance includes the purchasing of financial products such as credit
cards, insurance, mortgages, and various types of investments. Banking is also considered a component of
personal finance because individuals use checking and savings accounts as well as online or mobile payment
services such as GooglePay and Paytm.
Corporate finance
Corporate finance refers to the financial activities related to running a corporation, usually with a division or
department set up to oversee those financial activities.
One example of corporate finance: A large company may have to decide whether to raise additional funds
through a bond issue or stock offering. Investment banks may advise the firm on such considerations and
help it market the securities.
Startups may receive capital from angel investors or venture capitalists in exchange for a percentage of
ownership. If a company thrives and decides to go public, it will issue shares on a stock exchange through
an initial public offering (IPO) to raise cash.
In other cases, a company might be trying to budget its capital and decide which projects to finance and
which to put on hold in order to grow the company. All these types of decisions fall under corporate finance.
Public finance
Public finance includes taxing, spending, budgeting, and debt-issuance policies that affect how a
government pays for the services it provides to the public.
The federal government helps prevent market failure by overseeing the allocation of resources, the
distribution of income, and economic stability. Regular funding is secured mostly through taxation.
Borrowing from banks, insurance companies, and other nations also helps finance government spending.
In addition to managing money in day-to-day operations, a government body also has social and fiscal
responsibilities. A government is expected to ensure adequate social programs for its taxpaying citizens and
to maintain a stable economy so that people can save and their money will be safe.

Meaning of Business Finance

According to B.O. Wheeler Meaning of Business Finance includes those business activities that are
concerned with the acquisition and conservation of capital funds in meeting the financial needs and overall
objectives of a business enterprise.”
Business is identified with the generation and circulation of products and services for fulfilling of needs of
society. For successfully doing any operation, business requires money which is known as business finance.
Therefore, funds are known as the lifeblood of any business. A business would not function unless there is
adequate money accessible for use.
The capital contributed by the businessman to establish the business isn’t adequate to meet the financial needs
of the business. Consequently, the businessman needs to search for an option to generate funds. A research of
the financial needs and options to fulfill those needs must be done with a specific end goal to arrive at
effective financial management to maintain the business.
The fundamental necessities of business would be to buy a plant or apparatus, or it could be to buy
raw materials, development of a business that prompts more enrollments, paying wages and so on.
The money related necessities of a business can be classified as follows:
 Fixed Capital Requirement: In order to begin a business, money is required to buy fixed assets like land,
building, plant and machinery. This is called the Fixed Capital Requirement.
 Working Capital Requirement: A business needs funds for its day to day activities. This is known as
Working Capital Requirements. Working capital is required for the purchase of raw materials, paid
salaries, wages, rent, and taxes.
 Diversification: A company needs more funds to diversify its activities to become a multi-
product company e.g. ITC.
 Technology upgrading: Finances are needed to adopt the latest technology for example use of particular
software and the latest computers in business.

Nature of Business Finance

The nature of the business finance is enumerated in the points mentioned below –
1. Business Finance consists of different kinds of funds – short, medium and long term as and when
required by the business.
2. Any type of business needs this business finance, it is utmost for the organization.
3. The volume required differs from business to business, small business requires less business finance
in contrast to the large business firms.
4. In different times of the business season, requirements differ. In peak seasons business demands for
huge business finance.
5. The amount of business finance determines the scale of operations conducted by the company.

Significance of Business Finance

To highlight the significance of business finance, we point the following as mentioned:
1. A firm with a good amount of business finance will require less time and hassles to start the business
venture.
2. With the business finance in hand, the owners can buy the raw materials as needed for production.
3. The business firm can easily pay his dues and other payments with the help of business finance.
4. Uncertain risk and Contingencies can be tackled with business finance in hand.
5. Good financial capacity of the business will attract talented workforce, also highly efficient
technology can also be availed with strong financial background.

Scope of Business Finance

Business finance helps in studying, analyzing and allocating the business funds and other covers done by the
business is done as mentioned:
1. Analysis and Research of Financial Statement
2. Financial Planning and Controlling
3. Capital Structure Management
4. Raising Capital
5. Investing Capital
6. Managing the finance risk.

Sources of Finance
 Long-Term Sources of Finance
  Medium Term Sources of Finance
 Short Term Sources of Finance
 Owned Capital
 Borrowed Capital
 Internal Sources
 External Sources
Sources of finance for business are equity, debt, debentures, retained earnings, term loans, working capital
loans, letter of credit, euro issue, venture funding etc. These sources of funds are used in different situations.
They are classified based on time period, ownership and control, and their source of generation. It is ideal to
evaluate each source of capital before opting for it.
Sources of capital are the most explorable area especially for the entrepreneurs who are about to start a new
business. It is perhaps the toughest part of all the efforts. There are various capital sources, we can classify
on the basis of different parameters.
Having known that there are many alternatives to finance or capital, a company can choose from.
Choosing the right source and the right mix of finance is a key challenge for every finance manager. The
process of selecting the right source of finance involves in-depth analysis of each and every source of fund.
For analyzing and comparing the sources, it needs the understanding of all the characteristics of the
financing sources. There are many characteristics on the basis of which sources of finance are classified.
On the basis of a time period, sources are classified as long-term, medium term, and short term. Ownership
and control classify sources of finance into owned and borrowed capital. Internal sources and external
sources are the two sources of generation of capital. All the sources have different characteristics to suit
different types of requirements. Let’s understand them in a little depth.
 According to Time Period
Sources of financing a business are classified based on the time period for which the money is required. The
time period is commonly classified into the following three:

LONG TERM SOURCES OF MEDIUM TERM SOURCES SHORT TERM SOURCES OF

FINANCE / FUNDS OF FINANCE / FUNDS FINANCE / FUNDS

Preference Capital or Preference

Share Capital or Equity Shares Trade Credit
Shares

Preference Capital or Preference

Debenture / Bonds Factoring Services
Shares

Retained Earnings or Internal

Lease Finance Bill Discounting etc.
Accruals

Advances received from

Debenture / Bonds Hire Purchase Finance
customers

Term Loans from Financial Medium Term Loans from Short Term Loans like Working
Institutes, Government, and Financial Institutes, Government, Capital Loans from Commercial
Commercial Banks and Commercial Banks Banks

Venture Funding Fixed Deposits (<1 Year)

Asset Securitization Receivables and Payables

International Financing by way of

Euro Issue, Foreign Currency
Loans, ADR, GDR etc.

Long-Term Sources of Finance

Long-term financing means capital requirements for a period of more than 5 years to 10, 15, 20 years or
maybe more depending on other factors. Capital expenditures in fixed assets like plant and machinery, land
and building, etc of business are funded using long-term sources of finance. Part of working capital which
permanently stays with the business is also financed with long-term sources of funds. Long-term financing
sources can be in the form of any of them:
 Share Capital or Equity Shares
 Preference Capital or Preference Shares
 Retained Earnings or Internal Accruals
 Debenture / Bonds
 Term Loans from Financial Institutes, Government, and Commercial Banks
 Venture Funding
 Asset Securitization
 International Financing by way of Euro Issue, Foreign Currency Loans, ADR, GDR, etc.
Medium Term Sources of Finance
Medium term financing means financing for a period of 3 to 5 years and is used generally for two reasons.
One, when long-term capital is not available for the time being and second when deferred revenue
expenditures like advertisements are made which are to be written off over a period of 3 to 5 years. Medium
term financing sources can in the form of one of them:
 Preference Capital or Preference Shares
 Debenture / Bonds
 Medium Term Loans from
 Financial Institutes
 Government, and
 Commercial Banks
 Lease Finance
 Hire Purchase Finance
Short Term Sources of Finance
Short term financing means financing for a period of less than 1 year. The need for short-term finance arises
to finance the current assets of a business like an inventory of raw material and finished goods, debtors,
minimum cash and bank balance etc. Short-term financing is also named as working capital financing. Short
term finances are available in the form of:
 Trade Credit
 Short Term Loans like Working Capital Loans from Commercial Banks
 Fixed Deposits for a period of 1 year or less
 Advances received from customers
 Creditors
 Payables
 Factoring Services
 Bill Discounting etc.
According to Ownership and Control
Sources of finances are classified based on ownership and control over the business. These two parameters
are an important consideration while selecting a source of funds for the business. Whenever we bring in
capital, there are two types of costs – one is the interest and another is sharing ownership and control. Some
entrepreneurs may not like to dilute their ownership rights in the business and others may believe in sharing
the risk.

OWNED CAPITAL BORROWED CAPITAL

Equity Financial institutions,

Preference Commercial banks or

Retained Earnings The general public in case of debentures.

Convertible Debentures

Venture Fund or Private Equity

Owned Capital
Owned capital also refers to equity. It is sourced from promoters of the company or from the general public
by issuing new equity shares. Promoters start the business by bringing in the required money for a startup.
Following are the sources of Owned Capital:
 Equity
 Preference
 Retained Earnings
 Convertible Debentures
 Venture Fund or Private Equity
Further, when the business grows and internal accruals like profits of the company are not enough to satisfy
financing requirements, the promoters have a choice of selecting ownership capital or non-ownership
capital. This decision is up to the promoters. Still, to discuss, certain advantages of equity capital are as
follows:
 It is a long-term capital which means it stays permanently with the business.
 There is no burden of paying interest or installments like borrowed capital. So, the risk of bankruptcy
also reduces. Businesses in infancy stages prefer equity for this reason.
Borrowed Capital
Borrowed or debt capital is the finance arranged from outside sources. These sources of debt
financing include the following:
 Financial institutions,
 Commercial banks or
 The general public in case of debentures
In this type of capital, the borrower has a charge on the assets of the business which means the company will
pay the borrower by selling the assets in case of liquidation. Another feature of the borrowed fund is a
regular payment of fixed interest and repayment of capital. Certain advantages of borrowing are as follows:
 There is no dilution in ownership and control of the business.
 The cost of borrowed funds is low since it is a deductible expense for taxation purpose which ends
up saving on taxes for the company.
 It gives the business the benefit of leverage.
ACCORDING TO SOURCE OF GENERATION
Based on the source of generation, the following are the internal and external sources of finance:
INTERNAL SOURCES EXTERNAL SOURCES

Retained profits Equity

Reduction or controlling of working capital Debt or Debt from Banks

Sale of assets etc. All others except mentioned in Internal Sources

Internal Sources
The internal source of capital is the one which is generated internally by the business. These are as follows:
 Retained profits
 Reduction or controlling of working capital
 Sale of assets etc.
The internal source of funds has the same characteristics of owned capital. The best part of the internal
sourcing of capital is that the business grows by itself and does not depend on outside parties. Disadvantages
of both equity and debt are not present in this form of financing. Neither ownership dilutes nor fixed
obligation / bankruptcy risk arises.
External Sources
An external source of finance is the capital generated from outside the business. Apart from the internal
sources of funds, all the sources are external sources.
Deciding the right source of funds is a crucial business decision taken by top-level finance managers. The
usage of the wrong source increases the cost of funds which in turn would have a direct impact on the
feasibility of the project under concern. Improper match of the type of capital with business requirements
may go against the smooth functioning of the business. For instance, if fixed assets, which derive benefits
after 2 years, are financed through short-term finances will create cash flow mismatch after one year and the
manager will again have to look for finances and pay the fee for raising capital again.

Definition of the Finance Function:

There are three ways of defining the finance function. Firstly, the finance function can simply be taken as
the task of providing funds needed by an enterprise on favourable terms, keeping in view the objectives of
the firm.
This means that the finance function is solely concerned with the acquisition (or procurement) of short- term
and long-term funds.
However, in recent years, the coverage of the term ‘finance function’ has been widened to include the
instruments, institutions and practices through which funds are obtained. So, the finance function covers the
legal and accounting relationship between a company and its source and uses of funds.
For example, in financial management, we discuss debt-equity ratio (determined by the government), as also
various accounting and legal aspects of dividend policy.
No doubt, the basic function of the finance manager is one of determining how funds can best be raised (i.e.,
at the minimum possible cost). In other words, the essence of finance function is keeping the business
supplied with enough funds to fulfill its objectives.
But such a definition is too narrow and is not of much practical use. No doubt, the finance function is much
broader than mere procurement of short-term and long-term funds so that a firm’s working capital and fixed
capital needs can be met.
Another extreme view is that finance is concerned with cash. This definition is much too broad and thus is
not really meaningful.
The third view — based on a compromise between the two — is more useful for practical purposes. This
definition treats the finance function as the procurement of funds and their effective utilization in business.
The finance manager takes all decisions that relate to funds which can be obtained as also the best way of
financing an investment such as the installation of new machinery inside the factory-or office building.
The cost of the machinery may be financed by making a public issue of 8% cumulative preference shares. At
the same time, he has to consider whether the additional return (cash flow) expected from the new
machinery is sufficient to cover the cost of capital in terms of interest to be paid over a period of time.
In this case, the finance decision is based on an analysis of the alternative sources and uses of funds. To start
with the finance manager has to draw a plan outlining the company’s need for funds. Such financial plan is
based on forecasts of financial needs of the company. Such forecasts are based on sales forecasts.
In the next step, the finance manager has to raise necessary funds to meet the company’s need for fixed and
working capital. Then, in the third step, he has to put the acquired funds into effective uses.

The sequence of the three-step process is presented below:

1. Drawing a financial plan and forecasting financial needs
2. Raising necessary funds
3. Putting funds into proper use.
In a broad sense, the finance function covers the following six major activities:
1. Financial planning;
2. Forecasting cash inflows and outflows;
3. Raising funds;
4. Allocation of funds;
5. Effective use of funds; and
6. Financial control (budgetary and non-budgetary).
The last function is very important. Through financial control the finance manager tries to bring
performance closer to the targets.
Scope of Finance Function:
No doubt, the scope of finance function is wide because this function affects almost all the aspects of a
firm’s operations. The finance function includes judgments about whether a company should make more
investment in fixed assets or not.

It is largely concerned with the allocation of a firm’s capital expenditure over time as also related decisions
such as financing investment and dividend distribution. Most of these decisions taken by the finance
department affect the size and timing of future cash flow or flow of funds.

1. Investment decision – Investment decision depicts investing in a fixed asset; it is also referred to as
capital budgeting. Investment decisions can be of either long-term or short-term basis.
 Long-term investment decisions allow committing funds towards resources like fixed assets.
Long-term investment decisions determine the performance of a business and its ability to
achieve financial goals over time.
 Short-term investment decisions or working capital financing decisions mean committing
funds towards resources like current assets. It occupies funds for a shorter period, including
investments in inventory, liquid cash, etc. Short-term investment decisions directly affect the
liquidity and performance of an organisation.
2. Financing decision – This scope of financial management indicates the possible sources of raising
finances from various resources. They are of 2 different types –
 Financial planning decisions attempt to estimate the sources and possible application of
accumulated funds. A proper financial planning decision is crucial to ensure the availability
of funds whenever required.
 Capital structure decisions involve identifying various sources of funds. It facilitates the
selection of the best external sources for short or long-term financial requirements.
3. Dividend decision – It involves decisions taken with regards to net profit distribution. It is divided
into two categories –
 Dividend for the shareholders.
 Retained profits (usually depends on a particular company’s expansion and diversification
plans).

What is Seed Financing?

Seed financing (also known as seed capital, seed money, or seed funding) is the earliest stage of the capital-
raising process of a startup. Seed financing is a type of equity-based financing. In other words, investors
commit their capital in exchange for an equity interest in a company. Generally, this is done in a less formal
approach relative to other forms of equity-based financing such as venture capital.
Uses of Seed Capital
Seed capital is primarily used to support the initial company’s operations. For example, proceeds from seed
financing can be spent on market research or the initial steps of product development (e.g., the creation of a
prototype), or on essential operating expenses such as legal costs.
The capital is commonly raised from family members, friends, or angel investors. Angel investors are the
most crucial players in seed financing, as they can provide a substantial amount of capital.

What Is Venture Capital?

Venture capital (VC) is a form of private equity and a type of financing that investors provide
to startup companies and small businesses that are believed to have long-term growth potential. Venture
capital generally comes from well-off investors, investment banks, and any other financial institutions.
However, it does not always take a monetary form; it can also be provided in the form of technical or
managerial expertise. Venture capital is typically allocated to small companies with exceptional growth
potential, or to companies that have grown quickly and appear poised to continue to expand.
Though it can be risky for investors who put up funds, the potential for above-average returns is an
attractive payoff. For new companies or ventures that have a limited operating history (under two years),
venture capital is increasingly becoming a popular—even essential—source for raising money, especially if
they lack access to capital markets, bank loans, or other debt instruments. The main downside is that the
investors usually get equity in the company, and, thus, a say in company decisions.
 Venture capital financing is funding provided to companies and entrepreneurs. It can be provided at
different stages of their evolution, although it often involves early and seed round funding.
 Venture capital funds manage pooled investments in high-growth opportunities in startups and other
early-stage firms and are typically only open to accredited investors.
 Venture capital has evolved from a niche activity at the end of the Second World War into a
sophisticated industry with multiple players that play an important role in spurring innovation.