Fundamentals of Finance

Fundamentals of Finance
plays a very important role in the present market driven world. Starting from the process
of production to distribution, the entrepreneur as well as the company needs finance.

The business enterprises as well as firms need finance to meet all of their short term,
medium term and long term needs.

• The long-term financial need is generally to make investment on the fixed assets
such as plants, machines and buildings.
• The short term financial needs is generally for working capital management

• The medium term financial needs generally for a period of 1 year to 5 years.

Long-term sources of finance:

• Share capital or equity share

• Preference shares
• Retained earnings
• Debentures
• Bonds
• Loans from financial institutions
• Loan from state financial corporation
• Loans from commercial banks
• Venture capital funding
• Asset securitization
• International

Share capital or equity share

quity Finance is the money raised for company activities by selling common or preferred
stock to individual or institutional investors.

In return for the money paid, shareholders receive ownership interests in the corporation.
It is also known as "share capital". Equity finance comes in various forms and is
principally provided by venture capitalists and business angels.

On Equity Finance
Equity Finance may be defined as a method that is used in order to generate share capital
resources from external investors, with the share capital being provided in lieu of
company shares. Equity finance is normally invested with the assumption that medium to
long term profits may be made.

Equity Finance is likely to be most suitable where:

• The nature of a project deters debt providers, e.g. banks

• The business will not have enough cash to pay loan interest because it is needed
for core activities or funding growth

Sources of Equity Finance

• Finance for Business offers flexible finance solutions such as loans and equity
finance for businesses with viable business plans that are unable to get support
from commercial banks and investors.
• The Capital for Enterprise Fund is a &75 million equity fund. It brings together
&50 million of government money with &25 million from major banks and
provides longer-term capital to companies who have exhausted their traditional
borrowing capacity. The scheme is part of the government's Real help initiative.
• Enterprise Investment Scheme: Some limited companies can raise funds under
the Enterprise Investment Scheme (EIS). The scheme applies to small companies
carrying on a qualifying trade & provides potential tax advantages for individuals
who invest in such companies.
• Venture capital is most often used for high-growth businesses destined for sale
or flotation on the stock market.
• Business angels can offer investment, particularly in the early or growth stages of
development, in return for equity.

Equity Finance Risks

There is a lot of risk involved; this can be said based on the fact that the payment of the
investors is highly dependent on the success of the company. Having no growth or profit
would result in an adverse effect on the payment possibilities of investors. This is the
reason why equity finance is also referred to as risk capital.

The sources of equity financing are extremely important as far as the companies are
concerned. This is because the money invested by them assists in the business operations.
There are several types of sources of equity financing.
 On Sources of Equity Financing

The sources of equity financing are the entities that put their money in other companies in
exchange for a share in their equity or ownership. As far as business enterprises are
concerned the sources of equity financing are extremely important.

It has been observed that the companies that have a reasonable track record find it
comparatively easier to get the sources of equity financing. This is because of the fact
that equity financing is a pretty risky business and the sources of equity financing
normally expect to have less risks involved while transacting with them.

Types of Sources of Equity Financing

The types of sources of equity financing are different for different types of businesses.
For example as far as the small business enterprises are concerned the major sources of
equity financing are the angel investors apart from friends and family members, who
could be counted as regular sources.

Expectations of Sources of Equity Financing

The entities that act as sources of equity financing do so with the expectation that they
would be getting a certain part of the ownership of the company. At times they may also
want a certain amount of share in the profits of the businesses they are investing in. The
sources of equity financing, at times, also want to play an active role in the business
where they have invested.

Usefulness of Sources of Equity Financing

It has been observed that the usefulness of sources of equity financing lies in the fact that
the money invested by them can be used in order to run their own business operations. In
case of the small business enterprises they can use this money for savings purposes.

Venture capital is a type of private equity financing that is provided to those companies
that are starting out on their business operations. The beneficiaries of venture capital
services also find it difficult to generate capital by issuing debt financing instruments.

On Venture Capital
Venture capital may be described as the money that is provided by investors to businesses
that are starting to assist them in their business operations. Venture capital can also be
called a type of private equity capital. The venture capital services are provided on a
professional basis.

The companies that provide venture capital services do so in exchange of the ownership
of a certain percentage of the company. It has been observed that, normally, the investors
who provide venture capital services are economically well off. Venture capital services
may also be provided by financial institutions like investment banks for example.

Popularity of Venture Capital

Venture capital is a viable option for generation of funds and is a widely availed option
by the organizations that are new in the business circuit. These companies generally find
it hard to generate money by issuing debt financing instruments. The entities that deal in
providing venture capital services also prefer this form of equity capital as it is financially
rewarding. They also receive the opportunity to participate in the business activities of a
company.

Venture Capitalists
The investors who deal in putting money in new business enterprises are known as
venture capitalists. The venture capitalists operate on a professional basis and could be
regarded as being one of the primary sources of equity financing.

Venture Capital Fund

The venture capital fund is basically an investment pool where third-party investors put
their money for investing in companies that may not receive bank loans or finance from
the conventional money markets as a result of the amount of risk involved with them. The
venture capital funds may also be limited partnerships.

Explanation of Basics of Venture Capital Financing

The basics of venture capital financing provide that venture capital financing is done to
provide capital to companies that have started to do business. The venture capital
financing is done mainly by rich investors as well as financial organizations like
investment banks.

Purposes of Venture Capital Financing

The main purpose behind venture capital financing is to make some profits as far as the
investors are concerned. From the point of view of the companies that are being invested
in, the main aim is to generate some capital for the purposes of operating the business.

Venture Capitalists and Venture Capital Funds

The venture capitalists and venture capital funds are the sources of venture capital. The
venture capitalists are individual professional investors and the venture capital funds are
the fund pools where third party investors put their money in.

Implications of Venture Capital Financing

The process of venture capital financing has diverse implications for the various
participants. As far as the investors are concerned, they can make some income from the
dividends and may also have some ownership as well as some chances to take part in a
business.
Venture capital is a type of private equity capital typically provided for early-stage,
high-potential, and growth companies in the interest of generating a return through an
eventual realization event such as an IPO or trade sale of the company.

Venture capital typically comes from institutional investors and high net worth
individuals and is pooled together by dedicated investment firms.

There are several types of venture capital that are extremely crucial in the context of the
modern day business world. The types of venture capital are classified as per the
purpose and time of their application. The three principal types of venture capital are
early stage financing, expansion financing and acquisition/buyout financing.

Types of Venture Capital

There are several different types of venture capital. These distinctions refer to the
timing of the investment or its specific purpose within the life of the target company, but
the need for a high return in exchange for the risk remains constant. There are three major
types of venture capital–early stage financing, expansion financing and acquisition or
buyout financing. The various types of venture capital are classified as per their
applications at various stages of a business.

Early Stage Financing

Early stage financing has three sub divisions – seed financing, start up financing and first
stage financing. Seed financing is basically a small amount that an entrepreneur receives
for the purpose of being eligible for a start up loan.

Start up financing is given to companies for the purpose of finishing the development of
products and services. However, this type of venture capital may also be used for initial
marketing as well. Companies that have spent all their starting capital and need finance
for beginning business activities at the full-scale are the major beneficiaries of the First
Stage Financing.

Expansion Financing
Expansion financing may be categorized into second-stage financing, bridge financing
and third stage financing or mezzanine financing. Second-stage financing is provided to
companies for the purpose of beginning their expansion.
Second-stage financing is also known as mezzanine financing. It is provided basically for
the purpose of assisting a particular company to expand in a major way. Bridge financing
is useful in many ways. It may be provided as a short term interest only finance option as
well as a form of monetary assistance to companies that employ the Initial Public Offers
as a major business strategy.

Acquisition or Buyout Financing

Acquisition or buyout financing is categorized into acquisition finance and management
or leveraged buyout financing. Acquisition financing assists a company to acquire certain
parts or an entire company. Management or leveraged buyout financing helps a particular
management group to obtain a particular product of another company.

On Private Venture Capital Partnerships

The private venture capital partnerships are those investors who provide new and starting
companies with money for the purposes of initiating their businesses. The private venture
capital partnerships are primarily professionals who have been investing in such
companies for significant periods of time.

Composition of Private Venture Capital Partnerships

The private venture capital partnerships are made up of investors who provide start up
capital to companies on a professional basis. However, other than these investors there
are privately held companies and rich entrepreneurs who make up the private venture
capital partnerships.

Importance of Private Venture Capital Partnerships

The importance of private venture capital partnerships lies in the fact that they enable the
new companies to get off ground. They help them with the all-important financial
resources that are important for starting the business. They also act as alternatives to
financial institutions like banks that would not lend money as a result of the amount of
risk involved in these businesses.

On Industrial Venture Capital Pools

The industrial venture capital pools are the organizations that have a number of venture
capitalists that get together to provide money to industries for the purpose of growth or
expansion. These industrial venture capital pools are highly important in the context of
the present day industrial world.

Risks of Industrial Venture Capital Pools

The industrial venture capital pools operate with a lot of risk. This is because they put
their money in a particular industry with the expectation that they would be making a lot
of profit. This is why their role extends to taking part in the activities of companies,
where they are investing their money.

Capital Generation by Industrial Venture Capital Pools

There are a number of ways in which the industrial venture capital pools generate money.
They may be issuing equity and/ or preference shares. At times, these companies may
also issue different types of debentures in the market.

Capital Structure of Industrial Venture Capital Pools

The capital structure of industrial venture capital pools may be determined by a wide
variety of factors like the equity trading as well as the status of the business of the
particular company.
Investment banking firms provide their clients with the opportunity to generate funds
through different processes. At the same time, they also provide professional services to
the investors for identifying different investment opportunities and to invest in the same.

The investment banking firms provide various financial services to a wide range of
clients. There are both institutional as well as individual clients of these firms. At the
same time, these firms also offer a number of services to different national governments.

Services provided by Investment Banking Firms

The clients of the investment banking firms are provided with advisory services. The
firms also offer a range of capital raising opportunities to the clients. They help the
clients to place their equities in such a manner that they can produce highest yields. At
the same time, the firms are also involved in the syndication of IPO on behalf of their
clients. The investment banking firms also play a major role in arranging debt securities
for their clients.

The corporate clients of the companies are offered with several other services as well.
The mergers and acquisitions are a very important part of the business expansion plans.
The investment banking firms play an important role in creating customized strategies for
all these activities. The investment banking services are also available for the activities
like divestitures, restructurings, buyouts and others. All these activities need huge amount
of money and the investment banking firms are responsible for arranging these funds.

At the same time, there are individual clients of investment banking firms. These clients
are helped in a number of ways. The firms help the clients to identify the growth prospect
of different investment options and to invest in the best one.

Popular Investment Banking Firms

Some of the reputed investment banking firms of the country are the following:

• ABN Amro
• Morgan Stanley/Dean Witter
• Goldman Sachs & Co
• BankAmerica
• Merrill Lynch
• Salomon Smith Barney/Citigroup
• Charles Schwab & Co Inc,
• Deutsche Bank Alex Brown
• A G Edwards &Sons
• Socgen/Banque Paribas
• J.P. Morgan & Co.
• Prudential Securities Inc
• CS/First Boston
• Bear Stearns & Co Inc
• Lehman Brothers
• Brown Brothers Harriman
 • PaineWebber Group Inc.
• Donaldson Lufkin & Jenrette

The individual private investors are also known as angel investors. These investors
provide a big portion of the business capital for the home based businesses. A part of
these investments are also made in several other firms. These investments are made for
short periods of time.

In the recent years, the stock market boom has fueled the individual private investments
also. At present, the individual private investors are investing in huge amounts in the
home based businesses with huge growth potentials. In this way, the angel investors are
promoting the home based businesses and speeding up their development. At the same
time, a number of big and established companies are also getting these investments.

There are a number of home based businessmen who wants to develop quickly and also
to expand their business as much as possible. For the purpose, any size of home based
businesses can try and attract the angel investors. Normally these investors can invest
$50,000 or even more in the businesses. At the same time, there are a number of investors
who are interested in investing their money in the growing industries only.

The individual private investors are very helpful for the businesses. Apart from investing
money, the individual investors are also a rich source of new business connections and
clients. At the same time, some of the individual investors also take part in the business
activities and play a decisive role in the businesses.

The investments done by the individual private investors are mostly made in the
businesses where the products are secured by patents. These investments are taken out
from the businesses in a short span of nearly five years. There are different types of
individual private investors. Some of these are the following:

• Value Added Investors

• Unaccredited Private Investor
• Barter Investors
• Partner Investor
• Deep Pocket Investor
• Manager Investor
• Socially Responsible Private Investors

Small business investment corporations are private companies that have partnerships with
the federal government. The main function of these companies is to provide easily
available funds for the existing businesses that are expanding at a good rate.

The small business investment corporations or SBICs have been designed to provide
venture capital to the small business that are developing at a good rate. For the purpose,
these companies use the private funds and are supported well by the government funds.
The small business investment corporations or SBICs mainly provide the long term loans
with the provision of an extendable loan term. These loans are generally provided for 20
years.

The SBICs also offer equity capital to the emerging companies. Management assistance
is also provided by the small business investment corporations and this service is offered
to a limited number of clients only. At the same time, the SBICs do not have the authority
to dominate any business permanently. In its operational procedures, the SBICs are very
close to the venture capital firms.

Anyone with a minimum capital of five million dollars has the option of starting a small
business investment corporation. The prospective SBIC-owner may be an individual or
an institution but the federal license is a must. These companies have to file annual
financial reports and are bound to follow the federal regulations. Some of the major small
business investment corporations are as follows:

• Allied Business Investors, Inc.

• Hickory Venture Capital Corp.
• FJC Growth Capital Corp.
• Alabama Capital Corp.
• BankAmerica Ventures
• Small Business Investment Capital, Inc.
• Magnet Capital, L.P.
• Asian American Capital Corp
• Citicorp Venture Capital, Ltd.
• AVI Capital, L.P.
• Canaan SBIC, L.P.
• Allied Capital Financial Corp.
• ABN AMRO Capital (USA) Inc.
• Ally Finance Corp.
• Wells Fargo Capital Company
• Aspen Ventures West II, L.P.
• Draper Associates, LP
• Bay Partners SBIC, L.P.
• Bentley Capital

The specialized small business investment companies are established to provide financial
assistance to the small businesses that are run by economically or socially backward
individuals. These organizations provide a wide range of loan products to these
businesses and also stimulate their growth.

The small businesses in the United States of America used to receive investments from
individual sources till 1958. There was no organization to provide financial assistance to
the small business sector. In 1958, the Small Business Investment Act was passed. This
act provided the base to establish SBICs and SSBISs. The SSBICs or specialized small
business investment companies were created with the sole purpose of providing financial
services to all those businesses that were owned by socially backward people or all those
who were not in the best economical conditions.

These companies are held by private owners and are supported by the federal
government. The US Small Business Administration provides the necessary license to the
SSBICs to provide financial services. At the same time, the business policies and
investment decisions of their clients are taken by the SSBIC owners. On the other hand
these organizations are eligible to apply for long term loans from the federal government.

The SSBICs design their loan products according to the size and necessity of the
particular small business client they are catering to. These organizations may offer equity
financing or provide financial loans to the small businesses. The business owners should
always look for the SSBIC that provides assistance according to their customized needs.
The SSBIC loans are available to almost every type of small industry but every SSBIC
does not provide all these assistances. Basically the organizations finance those
businesses in which they also have some kind of expertise.

The small businesses that receive SSBIC financial assistance are also considered for loan
products from other banks. Apart from this, the SSBIC management as well as the
directors are well known in the industry and they provide full support to the small
businesses. The SSBICs also provide training to the small business employees to develop
their skills and this helps in the growth of these businesses too.

About The Equity Gap

A number of businesses and commercial enterprises need bigger financing in comparison
to what may be offered by the business angels. However they do not require the extent of
financing that the venture capital funds would take into account. The gap arising between
these 2 financial conditions is termed as the equity gap.

In these circumstances, the commercial enterprises may want to move towards the private
equity firms for assistance. These firms are institutions, which are involved in investing
and handling of investments and they have a propensity to emphasize on MBOs
(Management Buy-Outs) and MBIs (Management Buy-Ins).

In a number of countries, the governments are introducing equity finance plans for
bridging the equity gap and this is usually done with the help of enterprise capital funds
or ECFs. ECFs are forms of business funds, which invest a blend of public and private
funds in small scale commercial enterprises with significant development who are
looking for risk capital funds. A number of enterprise capital funds were launched in the
United Kingdom in the year 2006 with a substantial amount of funds invested by the
government.

In the United Kingdom, there are other alternatives if the funding requirements come
within the equity gap. The RVCF or regional venture capital fund plan is targeted at
offering risk capital funding for small and medium scale enterprises, which have
excellent development potentials. A portion of the financing is rendered by the
government and the rest is derived from the investors in the private sector.

In Scotland, a variety of equity finance approaches have been taken. The funds involved
in this type of ventures include the following:

• The Scottish Co-Investment Fund

• The Scottish Venture Fund
• The Scottish Seed Fund

All these funds offer equity investment options in firms with substantial profitability.

The enterprise capital funds or ECFs are types of business funds, which invest a
combination of public and private money in small and medium scale businesses, which
have an exponential growth rate and are searching for risk capital. Enterprise capital
funds are considered as useful instruments for bridging the equity gap.

About Enterprise Capital Funds

Currently the enterprise capital funds (ECFs) are getting more and more impetus in the
United Kingdom. In the United Kingdom, these entities are launched to deal with a
market defect in the supply of equity financing to small and medium scale enterprises. In
this context, government financing is utilized alongside funds in the private sector for
building funds, which function inside the equity gap. The range of investments
sometimes goes up to the extent of 2 million pound sterling. These investments have the
capacity of generating a significant yield.

In the year 2006, five enterprise capital funds were introduced in the United Kingdom
and there was a significant amount of government investment. In addition, three more
funds were granted the enterprise capital fund status in the year 2007 and are going to be
introduced in 2008.

The enterprise capital fund can be described as being similar to the SBIC (small business
investment companies) funds pattern in the United States. These types of funds
specifically concentrate on seed level financing.

New Enterprise Capital Funds Introduced in the United Kingdom

The new Enterprise Capital Funds that have been declared in the United Kingdom are the
following:

• The Midlands Enterprise Capital Fund: This fund has government financing as a
major constituent and it emphasizes on investing in the Midlands area. However,
opportunities all over the United Kingdom will be taken into account.
• The Dawn Capital Fund:This fund also contains government financing and it has
been formed by a team of accomplished enterprisers and knowledgeable fund
managers.
These funds are supported by government financing and have been designed to assist
forward-looking SMEs (small and medium scale enterprises) avail the funding they
require for their development.

The regional venture capital funds( RVCF)s were formed to address the problem of
unavailability of investment in the equity gap. There are nine regional venture capital
funds( RVCF)s in England each catering to the needs of a different region. RVCFs need
to invest in their regional SMEs and boost their funds.

More on Regional Venture Capital Fund (RVCF)

Regional venture capital funds (RVCF)s are meant to serve the SMEs on an almost
compulsory basis. They need to be the initial institutional investor. In England the
amount of initial investment from a regional venture capital fund faces a ceiling of
£250,000. They can chip in with a further investment of £250,000. However, this is
allowed only after a period of at least 6 months. Regional venture capital funds (RVCF)s
in England are also allowed to make investment in a company in sequential rounds with
an aim to stop its dilution.

Importance of Venture Capital

The most important part of regional venture capital fund (RVCF) is the venture capital.
Venture capital is the critical element in the formation of regional capital. It also aids in
the process of regional industrialization. Venture capital is needed to support the
technological innovation bid of companies. Empirical evidence points to the importance
of regional factors in industry investment and finance.

According to a statistical study venture capital is characterized by a host of features. They

have a high degree of capital mobility across a spatial structure .Venture capital flows to
the areas where it can earn the maximum returns. New funding sources of venture capital
are seen to develop around well-established financial hubs as well as areas where 'high-
technology' industries are located. Specific group of industries have specific requirements
and specialized sources of venture capital are seen to cater to them.

The regional factor component of venture capital is also important. It helps in a number
of ways like the following:

• to decrease uncertainty
• to minimize investment risk
• to compensate for ambiguity in information

Capital mobility is enhanced, more often than not, due to the regional venture capital
network as opposed to the characteristics of a free market.

A small firms loan guarantee scheme is also known as SFLGS. Different lending
agencies offer loans under this scheme. These loans come with a government guarantee.
It is meant for individuals or business firms who, due to lack of security or a good track
record, face problems in loan availability.
More on Small Firms Loan Guarantee Scheme
The small firms loan guarantee scheme comes with government guarantee. It is a boon
for the small to medium scale business enterprises. Individual entities also stand to gain
from this scheme. The small firms loan guarantee scheme seeks to open up the bottleneck
of fund supply for those economic agents who find it difficult to garner finances from the
conventional means. They usually do not possess the assets demanded by conventional
lending agencies as collaterals or securities.

The unique feature of small firms loan guarantee scheme(SFLGS) is that the government
chips in as a guarantor for the borrower in case of a probable default. It is sort of a
protection extended to economic agents with small means. Different certified lending
agencies with minor variations in criteria offer loans under small firms loan guarantee
scheme to clients.

Some Characteristics of Small Firms Loan Guarantee Scheme

Applicants of the small firms loan guarantee scheme (SFLGS) need to put in a viable
business plan in front of the lenders. The potential lender needs to be assured about the
viability of the borrowers project as it is interlinked with the efficacy of the loan. The
funding available under the small firms loan guarantee scheme needs to follow a tailor
made path. They are formulated to cater to the specific needs of the client.

Certified lenders offering the SFLGS usually offer counsellings to clients on the product
details and other related services. Borrowers under the small firms loan guarantee scheme
need to update their lenders on various business records. They include items like the
following:

• date of initiation of the business

• current bankers
• history of borrowing
• standing commitments

Private equity and senior debt finances cater to the credit needs of business organizations.
In business deals, which are sponsored by private equity, usually senior debt stands out as
the cost effective medium of capital availability. Hence, it is wise to maximize the
component of senior debt in such deals.

More on Private Equity and Senior Debt

Senior Debt is a component part of financing through Private Equity. The amount of
senior debt available to business concerns is directly linked to their asset base. It also
depends on the amount of cash generated from the operations of the company. Different
commercial lenders follow different policies for credit structuring. Some prefer an asset
based approach while others focus more on the cash flow. Some seasoned commercial
lenders follow a criterion which calls for a mix of both asset base and cash flow.
More on the Lenders in the Private Equity and Senior Debt
Business
Lenders catering to the Private Equity and Senior Debt market can be classified into the
following:

• asset based lenders

• cash flow based lenders

Asset based lenders determine the collateral value of the borrower through the analysis
and audit of the following:

• receivable accounts
• real property
• inventory and
• fixed assets of the borrower

Receivable accounts can act as loan collateral subject to certain conditions. The factors
behind this include the following:

• customer quality
• customer payment pattern
• frequency of receivable collection
• concentration of resources in selective accounts, if any

Lenders normally advance around 80% vis-a-vis the eligible receivable accounts.
Inventory of the borrower is reviewed for its eligibility as the borrowing base. Raw
materials for production and finished products are liquid assets in comparison to
unfinished products. They can be sold off easily. Eligible inventory can attract around
50% advance from lenders.

Cash flow based lenders operating in the private equity and senior debt market look into
the past cash flow records of the borrower, among other things, to determine the amount
of their advance. There is a concept of "Debt Service Coverage Ratio" or DSCR. The
standard minimum level acceptable to lenders stands around 1.25. The components that
goes into the calculation of DSCR include the following:

• interest
• amortization
• taxes
• cash capital expenses
• depreciation and the like

here are many advantages of equity finance. Equity financing refers to the process of
obtaining resources for a company through the issuance of preferred stock or common
stock. Normally, shares are issued when the stock price is high.
Equity finance is also referred to as share capital and it has its pros and cons.

More on the Advantages of Equity Finance

Resources raised through equity finance can be either cash, property or services. As
opposed to equity financing, debt financing is the other option available to companies for
raising resources. Under equity financing shareholders get ownership rights in the
company in lieu of the money paid.

Mostly the advantages of equity finance are reaped by the small business enterprises.
Small business enterprises are likely to face some difficulties in their initiation days
regarding the flow of resources. Constraints of resources like cash flows plague these
small companies. However, they have to find a way out since funds are essential for
running a successful business venture. Money raised through equity financing does not
entail any repayment obligation at that point. It saves the repayment burden imposed by
alternative arrangements like bank loans and debt financing. They impose penalties on
business organizations, which default in the stipulated repayments.

The advantages of equity finance lie in the fact that equity finance eases out the various
fund supply issues of the small companies without any immediate repayment burden.
Equity investors look forward to mainly growth opportunities. Hence in place of an
established concept they are on the lookout for a new idea. They are eager to take chance
with a new company. Another interesting angle to the list of advantages of equity finance
comes from the investors side. The investors themselves often act as counselors for the
owners of these small businesses. They also often extend their network of contacts to the
owners of the small business enterprises.

Equity finance is mostly adopted by small business enterprises to address the relative
shortage of cash flow. Along with the advantages there are also certain disadvantages of
equity finance. Debt financing employed by business organizations is an alternative of
raising resources from the market.

More on the Disadvantages of Equity Finance

The principal disadvantage of equity finance is that the investors are turned into partial
owners of the company. Naturally they have a say in the business decisions of the
company. Dilution of ownership interests often acts as a sort of infringement on the
controlling and decision making powers of the managers. Yet another interesting point to
be noted is that excessive dependence on equity financing means the concerned business
venture has failed to use its available capital optimally.

The disadvantages of equity finance also lie in the fact that the procedure is demanding,
wastes time and is costly. Day to day business operations often suffer as owners become
engrossed in the technicalities of the equity financing project. Potential investors may
seek classified business information. In a nutshell, the business operations come under
close scrutiny from potential investors. Certain regulatory compliances may be needed
when a business firm opts for equity financing. This also drains out substantial time and
energy on part of the company management.

Conclusion
Business ventures need capital or resources for their successful operation and
maintenance. Equity financing and debt financing are the normal two options available
for this purpose. Capital is important for business. However, no less important is the
means for raising it. This is because capital raised through different means entails
imposition of different conditions on the operation of the business. It is up to the
management to decide, which course of action would be followed after conducting a well
researched cost benefit analysis. It is a mixed bag. One needs to take ones pick depending
on ones requirements.

The alternatives to equity finance are basically the financing options that are used by
businesses in order to generate money for the purposes of running the operations. There
are several useful alternatives to equity finance like loans and overdrafts for example.

On Alternatives to Equity Finance

The alternatives to equity finance are the substitutes that are used by business
establishments instead of equity financing, which is the most widely used option as far as
generation of business capital is concerned. There are several options that a company
might consider in place of equity finance.

Loans
The loans are very viable alternatives to equity finance. Among the loans that are
provided to business enterprises are the commercial mortgages, which are secured against
the business properties. The business enterprises can also opt for borrowing money for
small periods of time. Mostly the time period of such loans are within three to five years.

Overdrafts
The overdrafts are useful alternatives to equity finance as they provide a lot of flexibility
to the borrowers. However, they can only be availed for a short term period as they have
to be paid back on demand.

Loans from Family and Friends

The business establishments at times go for loans from family and friends as an
alternative to equity finance. However, it has been seen that this option is primarily used
by the members of the small business fraternity.

Additional Funds
Additional funds serve as valuable alternatives to equity finance. The additional funds are
mainly taken by the partners in businesses or the directors of business establishments
from other partners or directors.
Government Support
The business houses can also look to expand their businesses or just get it started with the
help of government support. Government support is a convenient alternative to equity
finance.

Joint Ventures
The joint ventures are very popular alternatives to equity finance. There are many types
of joint ventures that are excellent alternatives to equity finance. As per definition, joint
ventures are the combined undertaking of two or more entrepreneurs for purposes of
business.

Credit Cards

The credit cards can also be good alternatives to equity finance as they are extremely
time efficient. They are extremely flexible as well. However, the credit cards cannot be
used for the purpose of borrowing for a longer period of time.

The most important, as well as, basic part of obtaining equity finance is the preparation
for securing equity finance. There are several steps of preparation for securing equity
finance as well as important issues, that need to be looked at, in order for the preparation
to be successful.

On Preparation for Securing Equity Finance

The process of preparation for securing equity finance involves a lot of planning on part
of the entrepreneur who seeks equity finance to either start, run or expand a business.
One of the most important parts of preparation for securing equity finance is a business
plan. The business plans should be having the various details of the marketing plan as
well as financial projections that have to be realistic.

Steps of Preparation for Securing Equity Finance

One of the most important steps of preparation for securing equity finance is to consult
the business advisers so that the possibilities of mistakes could be eliminated. The
companies that want equity finance should also do thorough research on the investors,
who they feel, might invest in their company.

Important Issues of Preparation for Securing Equity Finance

There are certain important issues of preparation for securing equity finance. One of the
most basic issues in this case is that of the amount of funds necessary to start operations.
The companies should also decide on the amount of control they want to have over their
business and the time frame for the requirement of the funds.

The companies that want equity finance have to keep these factors in mind when they are
making their proposals. They should make sure that they highlight these aspects when
they make the business proposals. There are also certain factors that the investors look for
in businesses.
They would look at the financial requirements of the new companies. The investors also
need to judge if the enterprises of the companies are realistic enough and if these
companies actually need external financial help. The modes and other details of
repayment also need to be looked at. The skill levels of the management as well as
monetary predictions and the possible usage of the investment needs to be highlighted as
well.

Approaching Investors for Securing Equity Finance

An important part of preparation for securing equity finance is approaching investors.

There are certain things that have to be kept in mind while approaching the investors. For
example, the company should see if the investor, whom they want to approach, is ready
and willing in their business or not. They can also try out networking as that is a
convenient way of approaching investors.

The demand for equity finance can be traced back to the importance of the same in the
context of a business. It has been seen that any company, irrespective of its size, could
have a certain amount of demand for equity finance for any number of business purposes.

On Demand for Equity Finance

The demand for equity finance is faced by all companies at various stages of their
businesses – it can be at the start, at the time of expansion or at the time of acquiring a
new business. The demand for equity finance could be of any company regardless of its
size.

Investors and Demand for Equity Finance

The investors have an important role to play as far as the demand for equity finance is
concerned. It is their job to satisfy the demand for equity finance. Over the years the
investors have acted as sources of equity finance for the companies that have needed
equity finance.

Meeting Demand for Equity Finance

There are several ways in which the companies, that need equity finance, satisfy such
demands. The variation depends on the particular type of company that is facing the need.
In case of the small and medium term companies they take loans from family members,
acquaintances, or other sources like angel investors and venture capitalists.

In case of the larger business enterprises there are several ways in which they might be
raising equity finance. It might be through issuance of shares or debentures in the
financial markets or taking financial assistance from the venture capital firms.
Situation of Demand for Equity Finance

It has been seen that there is a lot of demand for equity finance but not all demands are
being satisfied. For example, in case of the small and medium sized businesses it is being
seen that the demand has exceeded the supply of equity finance.

the United States of America it is possible to get equity financing through federal
government as there are a number of options in this regard. These services are, however,
provided mainly to the small business entities. At times equity financing through Federal
Government is also provided for the purposes of technological research and development.

On Equity Financing through Federal Government

In the United States the various business establishments can acquire equity financing
through Federal Government. These services are extremely helpful and reliable as they
are provided by the central government of the USA.

Small Business Innovation Research Program

The Small Business Innovation Research Program is provided to the small businesses for
commercializing their products and enhancing their technological prowess. The program
provides $850,000 in two separate phases. The beneficiaries of this program are the
smaller companies dealing in technological services.

Small Business Technology Transfer Program

The Small Business Technology Transfer Program is provided to the small business
entities. The amount provided is $600,000 and the main purpose is to assist them with the
research and development projects at the initial stages. The beneficiaries of these
programs work in conjunction with researchers from universities as well as various
research organizations.

Defense Advanced Research Projects Agency

The Defense Advanced Research Projects Agency is meant to assist the governmental
programs that have been instituted for the purposes of making sure that there is equality
as far as federal procurement is concerned. This program also assists the small firms to
participate by associating them with the bigger companies.

Advanced Technology Program

The Advanced Technology Program assists with the initial investment in projects that
focus on growing advanced technological solutions. The funds are provided to
companies, non-profit making companies and universities.

SBA Small Business Investment Company Program

The SBA Small Business Investment Company Program provides equity financing
services at two stages. At the initial stages it is for the purpose of expansion and at the
later stage it is for financing. As per this program investment is made in venture capital
funds that invest the same amount in small business entities. Investments are made as
loans or equity.

On Internal Financial Resources

One of the various ways of procure equity financing is internal financial resources of the
company. The term means the various financial resources that are at the disposal of a
company. The internal financial resources are capable of proving to be very helpful
sources of equity financing.

Acquiring Internal Financial Resources

Internal financial resources can be acquired by various business activities. The amount of
internal financial resources that a company has normally depends upon the particular
company's business performance. If the company has been doing well then the internal
financial resources at its disposal would be good as well.

Importance of Internal Financial Resources

It has been seen at times that certain companies are not receiving the desired levels of
equity financing. This is a result of the amount of risk that is perceived by the investors to
be associated with the particular company. It is in such situations the internal financial
resources of a company come in handy as they enable a company to execute various
business activities as per its preference.

Application of Internal Financial Resources

The application of internal financial resources are like any form of equity financing. They
may be used for the purposes of expanding the business as well as acquiring certain parts
or an entire business.

The question of equity vs. sub-debt financing has become very important in the
modern day financial context as a lot of companies are in need of generating money
that allows them to execute a wide variety of financial activities like initiation,
expansion and acquisition for example.

On Equity Vs. Sub-Debt Financing

The question of equity vs. sub-debt financing has been an important one for the business
establishments for a considerable period of time now. Since it is necessary to have a
continuous stream of finances coming in the company for various purposes these
financial options have become pretty important.
Differences of Equity and Sub-Debt Financing

The differences of equity and sub-debt financing may be enumerated as below:

Equity financing Sub-debt financing

The owners may have significantly lesser The loss of ownership is comparatively lesser
control over their operations
The process is highly expensive It is comparatively less costly
The cost of capital is the highest The costs of capital are lower
The invested capital remains in the company It has to be repaid
for a really long period of time
The dividends may be subjected to taxes The interest paid cannot be taxed
The evaluation of the company is a The company has to provide a collateral as
significant factor for receiving equity well as personal guarantees at times
financing
Investors might want to be a member of the Lenders are likely to put financial disciplines
board of directors and have more say in the and controls in place. However, there are no
operations management advisors.

Thus, it is evident that the business enterprises need to be aware of the various
implications of these two sources of financing and make a decision after carefully
reviewing their own needs as well as strengths and weaknesses.

On Employee Stock Ownership Plans

The employee stock ownership plans are basically a type of retirement plan. As per
definition the employers provide a certain part of their shares in these plans. The basic
aim of the employee stock ownership plans is to help the employees from a financial
point of view.

The unique aspect of the employee stock ownership plans is that these stocks are not
traded in the open markets. The employee stock ownership plans also provide the
employees of a company with the right to purchase a certain stock of the company, they
are working at.

In this case the worth of the stocks are already fixed. However, such offers are available
only for a certain amount of time. The employee stock ownership plans are normally
administered by governmental organizations. For example, in the United States of
America, the employee stock ownership plans are overseen by the Employee Benefits
Security Administration of the U.S. Department of Labor.
Difference of Employee Stock Ownership Plans with Employee
Stock Option Plans

The employee stock ownership plans are different from the employee stock option plans.
One of the major differences is that the employee stock option plans are not retirement
plans like the employee stock ownership plans.

The condition of equity financing in agriculture is not as good as it should be, as far as
most of the countries are concerned. However, efforts are supposed to be made to tackle
these issues. One of the basic features of equity financing in agriculture is that the lender
looks to minimize his risks.

Situation of Equity Financing in Agriculture

It has been seen that in most of the countries the situation of equity financing in
agriculture has been far from impressive. In all these countries equity financing from the
public sector has not met the levels of requirements. There has been a certain amount of
regional imbalance in equity financing in agriculture.

Remedies of Equity Financing in Agriculture

It is however, being expected that these issues would be addressed. Areas of rural
development would be given a lot of emphasis. The areas of infrastructural development
and rural connectivity will be on top of the priority list. A good strategy would have to be
developed in order to make sure that there can be some improvement in the condition of
equity financing in agriculture.

Expectations in Equity Financing in Agriculture

There are some expectations in equity financing in agriculture as far as the lenders are
concerned. They want the borrowers to provide a certain amount of risk capital and
normally prefer lending at fixed rates of interest. The main motive behind such business
strategy of the lender is to make sure that the potential for risk is minimized significantly.
The terms of equity finance are also supposed to be tailored accordingly.

Future Payment Funds

The future payment funds are important parts of the equity financing in agriculture. As
per definition, in case of these funds the borrowers take money for paying off
installments at a future date. The money, in case of the future payment funds, are
provided at a certain rate of interest.

Equity financing in real estate is provided by a number of traditional and non-traditional

investors. These funds are provided by the investors to get shares and at the same time
the investors are also provided with a share in the profits earned from the particular
property.

Equity finance is considered as one of the easiest methods of financing investments in the
real estate. According to the concept of equity finance, the fund is provided as equities.
These finances are offered by a number of financial institutions including banks and non-
banks. At the same time, equity financing in real estate can also be done by the non-
traditional sources like business associates, friends, relatives and private investors.
Through debt financing, the money is borrowed from the lenders but equity financing in
real estate is actually investing the money in the property and because of this, the
investors become more interested.

There are a number of reasons for using equity financing in real estate investments. The
prime reason is equity financing is very effective in bringing down the amount of cash
flow that goes out of the income properties. At the same time, there are a number of ways
of making repayments for these finances. Among the repayment forms for equity
finances, sharing profits with the investor are very popular. The profits from a property
can be shared annually or semiannually according to a pre-fixed rate. The repayment
amount and rates are determined by a number of factors including the annual income,
capital gains and so on.

Another important reason of providing equity financing in real estate is that the investor
gets a share in the property. Whenever the investor is investing in the equity of a
property, the money is actually not lent but it is added in the capital and so the investor is
provided with these shares.

Medium-term sources of finance:

• Preference shares
• Debentures
• Bonds
• Public deposits/fixed deposits for three years
• Loans from financial institutions
• Loan from state financial corporation
• Loans from commercial banks
• Lease financing / hire purchase financing
• External commercial borrowings
• Euro-issues
• Foreign currency bonds

Short term sources of finance:

• Trade credit
• Commercial banks
• Public deposits/fixed deposits for one years
• Advances received from customers
 • Various short-term provisions
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