Must Knows

All about business finance and its importance

[ecis2016.org] Know all about business finance and its importance in this article.

Have you ever wondered what finance is in business? Finance is an indispensable part of running any enterprise. It occupies a vital role which not only helps in the establishment of a business but also promotes its growth through time. Financing can be of many types and can be availed from many sources. To understand financing better, we need to look into its core meaning, its significance in business, and its method of procurement. 

Business finance: Meaning 

Business finance is the monetary support that business owners require to meet various business requirements. Business financing can be used for the following purposes:-

  • Starting a business from scratch 
  • Running day-to-day business operations
  • Procurement or purchase of business assets
  • Meeting emergency cash shortages
  • Growing or expanding an enterprise

These business finances are sourced from one or more institutions like public banks and NBFCs. Alternatively,  they can also come from company funds, savings, sponsors, investors, and owner’s contributions. 

Business finance: Why is it necessary?

No business or enterprise can be run without money. Finances are an absolute requirement for people who want to grow and operate their business. All businesses will require business finance from the start of the company to the end. Some important benefits of obtaining finance are described as follows:

  • Business finance will help entrepreneurs kickstart their companies by providing them with monetary help. With this monetary help, they can readily purchase land and company assets which are required for their day-to-day work. Business finance would relieve them of cash stress and help them focus solely on the commencement of business operations. 
  • Owners’ capital may not be enough to help them build their dream company. With the help of business finance, entrepreneurs can buy and access the latest technologies and machinery. This, in turn, will help them develop their quality of service or production in the industrial sector.
  • Business finance is a great relief for entrepreneurs in emergencies. It would allow them to meet these sudden cash requirements without having to compromise on business assets and personal property. 

Business finance: Types

Business finance can be divided into two major categories—equity and debt. Both are popular for providing financing to enterprises. Here is a detailed understanding of each type of business finance:-

Equity finance

Equity finance allows people or investors to provide monetary assistance to businesses in exchange for assets. Investors become part owners of the company depending on their investment. Equity finance will include all investments made by the existing shareholders or owners. In the case of equity finance, investors will provide monetary assistance as a way to buy company shares. The shares will provide them with a profit on the investment when the business starts to flourish.

Debt finance

Debt finance includes money sourced from outside the business. Entrepreneurs can avail bank loans and such to meet emergency capital requirements. The bank or NBFC will expect interest on the amount borrowed by the entrepreneurs. The lender will not own any shares of the company. Instead, the borrower would make repayments of the debt on a fixed tenure and interest rate.

Sources of business finance for an entrepreneur

Business finance can be difficult to obtain for new and experienced entrepreneurs. Since it binds the owners in many ways, the decision to avail business finance should be taken after careful consideration. Entrepreneurs who want to look into various financing options should consider all types of business financing to determine which works best for them. They can also avail of a combination of both to retain ownership and not fall into a well of debt.

Here are the two primary sources of funds available for business financing:

  • External funding
  • Internal funding

External funding

External funding applies to all debt financing, and money availed through lending institutions. Primarily, bank loans from public and private sectors form the bulk of external funding. Any money taken as a debt in return for a rate of interest can be classified under external funding. External funding can be beneficial when you do not want to sell company shares but require money to meet cash shortages. However, you must keep in mind that External Funding may require company assets to be pledged as collateral or security when applying for the debt.

  • Debt

The most popular form of external funding for business finance is loans from lending institutions. Banks and NBFCs (even private lenders) provide cash loans to businesses for their growth and development. Up to Rs.50 lakhs can be loaned from banks for business purposes. However, the loan amount, tenure, interest rates, and much depends on several factors like eligibility and past debts. For well-established enterprises, money is given in large amounts. For newer enterprises, most banks give out loans under special government schemes for entrepreneurs and MSMEs.

  • Equity

Entrepreneurs can also source their money from outside investors. They can pitch their business idea/project to interested investors and request their financial help. If investors decide to contribute to their cause, they can do so and receive a share of the company in exchange for money. However, in many cases, selling too many shares may mean the investors will have a say in the business decisions related to the enterprise. 

Internal funding

Internal funds are business finances which can be extended by the owners of the enterprise. This method is rather safe because it allows owners to retain their control over the company. Additionally, it can help them avoid huge debts and high interests. Some of the popular methods of internal funding are:-

  • Owner’s capital

An owner can invest his savings or income into the company for its growth and development. This money will solely come from the owner or owners who have started the enterprise. There will be no need to sell shares of the company and hand over control to outside investors. However, to make this happen, the owner(s) should possess enough money to spare.

  • Sale of assets

Entrepreneurs can sell certain disposable assets of the company to source some internal funding. It can be in the form of machinery, land, property, and so on. There are certain limits to how much can be sold for money. A company should have adequate surplus resources to warrant a profitable sale.

  • Retained profit

Entrepreneurs can utilise the retained profit from their company to develop their systems and meet emergency expenses. While the profits are generally utilised for upgrades and form a part of the owners’ income, they can be the best source of business financing for meeting immediate requirements. 

Documents required for business financing

If you are looking to apply for loans for business financing, you need some specific documents handy. Loan providers need to check your eligibility for a business loan and decide on a maximum loan amount plus the interest rate. The business loan documents required for financing are:-

  • YC documents
  • Address proof like rental agreement, house ownership documents, etc.
  • Your previous bank statements up to recent transactions 
  • Income proof
  • Business registration documents
  • Trade licence

For loans dealing with large debt amounts, collateral will be imposed. You have to pledge a worthy asset to the bank in case of failure to repay the loan. You will also require ownership documents of pledged assets for the bank to verify. The best would be to get in touch with customer care representatives from lending institutions to find out their criteria and document requirements. 

Source: https://ecis2016.org/.
Copyright belongs to: ecis2016.org

Debora Berti

Università degli Studi di Firenze, IT

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