SOURCES OF

CAPITAL
BUSFIN01 – MRS. DINAH CAMPOS
SUBJECT & PROFESSOR

Prepared by:
ANTHONY GABELITE BALANDO
Equity – are the financial resources provided by owners of the
business, including the initial, additional investments and earnings
retained in the business. This amount is the difference between total
assets and total liabilities.
Borrowed Capital - are those loans extended by financial
intermediaries or investors, in the issuance of credit instruments.
By issuing ordinary shares to raise equity, the following are the FORMS OF CAPITAL
advantages:
STOCK
Authorized Capital Stock – is the maximum number of shares that the
 A company is not required to pay dividends to ordinary shareholders – business owners are allowed to issue.
payment of dividends is at the discretion of directors. Issued Stock – is the amount of authorized stock subscribed to and paid
 Ordinary shares do not have maturity date which means that the for in cash, property or services.
issuing company has no obligation to redeem them. Reacquired Stocks – these stocks can be reacquired in two ways:
 The higher the proportion of equity in a company’s capital structure,
the lower the risk that creditors will suffer losses as a result of the
 By gift from stockholders
borrower experiencing financial duty.
 By buying back some of the company’s issued stock
Outstanding Stock – is the portion of issued stock nor reacquired.

DISADVANTAGE OF Financial managers should also understand the contractual provisions of

the stock forms for the following reasons:
EQUITY
If a company issues more ordinary shares to raise capital, existing
shareholders will have to either outlay additional cash or suffer some  Stocks is authorized and issued on the basis of shares.
dilution of their ownership and control of the company.  Stock is reacquired by the business in terms of shares.
 Stock is voted on the basis of shares.
 Profits are calculated on the basis of shares.
 Dividends are declared on the basis of shares.
 Stocks purchase rights are distributed on the basis of outstanding
shares.
 Assets are distributed in liquidation on the basis of shares.
CLASSES OF STOCK DEBT FINANCING -
BORROWINGS
1. Common shares are units of ownership registered in the names of the The range of sources of debt to choose from is generally related to the size
proprietors. Rights and limitation of shares are: of the business. A small business will have a relationship with one bank
 The right to vote or elect the board of the directors of a and will rely on that bank for most or all of its debt finance. Large
companies are not restricted to borrowing from financial intermediaries
corporation at the annual stockholder’s meeting.
 The right to share profits and dividends as residual claimants and can also issue securities such as bills of exchange.
after preferred shares; and when management decides to pay
dividends. Debts can be classified as current or short-term, non-current or long-term,
 Pre-emptive common law right on issuance of common stock marketable and non-marketable debts. Current or short-term debts are
before selling to the public. Common stockholders are given debts due for repayment within a period of twelve (12) months. A debt
stock purchase rights, by subscribing to new shares before with a maturity term of more than twelve (12) months is classified as non-
offering to public. current or long-term. A debt is secured when the creditor has claims
 The right to assets in liquidation against the borrower and against assets of the borrower. When debt is
unsecured, the lender has a claim against the borrower but no additional
claim to any particular property owned by the borrower. Marketable debt
2. Preferred shares issuance is indicated in the articles of incorporation. are securities such as notes, bonds or debentures which are issued to
Rights and limitations of preferred stockholders are: investors and can be traded in a secondary market, thus, the ownership of
marketable debt is transferable. Nonmarketable debt takes the form of
 No right to vote, right to elect is taken away for this class of loans arranged privately between two parties where the lender is usually a
bank or other financial intermediary.
stock.
 The right to share in profits and dividends. Preferred
stockholders do not share profits and dividends as residual
owners. They are paid prior to common shares, and as long as
preferred dividends unpaid, dividends cannot be paid on
common stocks.
Financial leverage is the use of borrowed capital while interest is the EXTERNAL SHORT-TERM FINANCING: AN
cost of borrowed capital. The interest rate applicable to debt may be ASSESSMENT
fixed or variable (floating). Interest is deductible for income tax
purposes, and the tax benefit is considered an adjustment to interest External financing refers to a rather limited and specialized area in financial
expense for determining the cost of borrowed capital. The formula: decision concerned primarily with bringing funds into the business.
Liquidity is the most important policy consideration of most businesses in
considering short-term financing. It is measured by the percentage of cash
secured on the face value of the debt. Default on payment of the principal
and the interest, called solvency risk factor, is another primary risk of short-
term financing. Solvency risks increase as the total volume of short-term
financing increases. Another factor to consider is profitability, which is
measured in terms of opportunity cost, and financial expenses such as
service charges, interest charges and carrying charges.

MAJOR SOURCES OF
FUNDS
1. Trade Credit Market - is any place where raw materials or finished
inventories may be purchased on credit. Manufacturers and distributors
from all over the country and other nations are supply sources. The
following are important supply factors to consider:
  Total quantity of credit available
 Inventory supply services
 Financial expenses
 Repayment terms
 External controls

2. Customer Loan Market - is any place where cash funds can be

negotiated. Supply sources are commercial banks, commercial paper
companies or discount houses, non-banks discounting unsecured
promissory notes to mature in 4 to 6 months of date of issue; and
commercial finance companies. Financial managers are concerned with
the following in negotiating for loans:

If the rate of return is higher than its cost, it is advisable to use borrowed
 Quantity of cash available
capital. For example, ABC Corporation is intending to invest P1M for a
 Cash and other related financial services
project with an expected rate of return of 25%. Loans available at an interest
 Expenses for financing
rate of 16% per annum, and tax rate is 35%.
 Repayment terms
 Degree of control exercised over the borrower

3. Receivables Sales Market - Factoring companies buy outright from

manufacturers their open account receivables. No liability is created on
the books of the business when receivables are sold to a factor because
this is not considered a borrowing.
LOANS AND
AMORTIZATION
Some provisions have to be made for repayment of the principal, whenever a creditor extends a loan. It might be repaid in equal installments, or it might be
repaid in a single lump sum. The mode of payment of principal and interest will depend on the agreement of both parties.

Basic Types of Loans

 Pure Discount Loan - is the simplest form of loan. The debtor receives money today and repays a single lump sum at some other time in the future. A
one-year, 10% discount loan, would require the debtor to repay Php1.10 in one year for every peso borrowed today. Treasury bills are pure discount
loans.
 Interest Only Loans - allows the debtor to pay interest in each period and to repay the principal at some point of time. With a three year, 10%, interest-
only loan of Php10,000, the debtor would pay Php10,000 x .10 = Php1,000 per interest at the end of the first and second years. At the end of the third
year, the borrower would return the Php10,000 along with another Php1,000 in interest for that year.
 Amortized Loans - requires the debtor to repay parts of the loan amount over time the debtor pays interest for each period plus fixed amount. The
process provides loan payments on regular principal reductions. For example a business takes out Php50,000, five-year loan at 9%. The debtor would
pay the interest on the loan balance each year and reduce the loan balance each year by Php10,000.