Corporate finance notes including elaborate study of debentures and shares, Study notes of Law

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Edited by:

Corporate Finance

Dr. Nitin Gupta

DEFIN

Corporate Finance

Edited By

Dr. Nitin Gupta

CONTENTS

Unit 1: 1

Unit 2:

Unit 4:

Unit 5:

Unit 6: 78

Unit 7:

Unit 9:

Unit 10:

Unit 11: 186

Unit 12:

Unit 13:

Unit 14:

Unit 8:

Unit 3: 31

Financial Management Sources of Finance Money Market Instruments Time Value of Money Concept Investment Decisions - 1 Investment Decisions - Cost of Capital Financing Decisions EBIT - EPS Analysis Dividend Decisions Forms of Dividend Working Capital Management Corporate Governance Economic outlook and Business Valuation

Dr. Atif Ghayas, Lovely Professional University

Dr. Atif Ghayas, Lovely Professional University

Dr. Atif Ghayas, Lovely Professional University

Dr. Atif Ghayas, Lovely Professional University

Dr. Atif Ghayas, Lovely Professional University

Dr. Atif Ghayas, Lovely Professional University

Dr. Atif Ghayas, Lovely Professional University

Dr. Atif Ghayas, Lovely Professional University

Dr. Atif Ghayas, Lovely Professional University

Dr. Atif Ghayas, Lovely Professional University

Dr. Atif Ghayas, Lovely Professional University

Dr. Atif Ghayas, Lovely Professional University

Dr. Atif Ghayas, Lovely Professional University

Dr. Atif Ghayas, Lovely Professional University

Unit 0 1: Financial Management Unit 0 1: Financial Management CONTENTS Objectives Introduction 1.1 Classification of finance 1.2 Corporate Finance 1.3 Evolution of finance 1.4 Finance Functions 1.5 Role of a finance manager 1.6 The Basic Goal: Creating Shareholder Value 1.7 Organization of Finance Functions 1.8 Agency issues 1.9 Business ethics and social responsibility Summary Keywords Self-Assessment Answers for Self Assessment Review Questions Further Readings

Objectives

After studying this unit, you will be able to:  Understand the meaning of Corporate Finance  Understand the evolution of Finance  Understand the finance functions  Outline the role of a finance manager  Analyse the basic goal of a firm  Understand the Agency problem in business  Understand the concept of Business ethics  Explain the concept of Social Responsibility

Introduction

Finance reference to the Management of large amounts of money, especially by governments or large companies. It may also mean providing funding for a person or an enterprise. The term Finance is derived from a French wordfinance,meaning an end, settlement, or retribution. It is used in the context of ending or settling a debt or a dispute. After adapting to English, the word is used to define any type of management of money.

1.1 Classification of finance

The discipline of Finance can be categorized into three parts:

Public Finance

Dr. Atif Ghayas, Lovely Professional University

Unit 0 1: Financial Management Finance, as capital, was part of the economics discipline for a long time. So, financial management until the beginning of the 20th century was not considered as a separate entity and was very much a part of economics

Traditional phase:

This phase started from 1920 and lasted till 1940. During this phase focus was mainly on below aspects:  Arranging, formation, issuance of funds.  Business expansion, merger, reorganization, and liquidation during the life cycle of the firm.  The instruments of financing, the institutions and procedures used in capital markets, and the legal aspects of financial events.

Transitional phase

This phase started from early 1940 and lasted till early 1950. During this phase focus was mainly on below aspects:  Nature of financial management was similar to same as Traditional phase.  But more emphasis was put on financial problems faced by managers in day-to-day operations hence leading to increased focus on working capital management.

Modern Phase

This phase started in middle of 1950 and has witnessed an accelerated pace of development with the infusion of ideas from economic theories and applications of quantitative methods of analysis. During this phase focus was mainly on below aspects:  The scope of financial management got broadened.  A well-managed Finance department came into existence.  Role of Financial manager got defined, which include acquisition of funds required in the business at the least possible cost, investing the funds obtained in an optimum manner so as to maximize returns and taking decisions relating to distribution of profits i.e., deciding the dividend policy and retention of profits.

1.4 Finance Functions

Finance function is the most important function of a business. Finance is closely connected with production, marketing and other activities. In the absence of finance, all these activities come to a halt. In fact, only with finance, a business activity can be commenced, continued and expanded. Finance functions or decisions are divided into long-term and short-term decisions: Long-term financial decisions can be further classified into three categories:

Long-term Financial

Decisions

Investment Decision Financing Decision Dividend Decision

Corporate Finance Notes

Investment Decisions:

Investment decision deals with the decisions related to the allocation of capital to long-term assets that would yield benefits in the future like Plant and machinery, Building etc. This decisionrelated to allocation of capital or commitment of funds to long-term assets that would generate cash flows in the future. It involves the evaluation of the prospective profitability of new investments.The Future benefits of investments are difficult to predict with certainty. The Risk in investment arises because of the uncertain returns. Hence, investment proposals should, therefore, be evaluated in terms of both expected return and risk and while, making these kinds of decisions, the financial manager must weigh the costs and benefits of each investment.

Financing Decisions:

Financing decisions are other important decisions to be made by the finance manager of firm, these decisions essentially relate with the arrangement of funds to fulfil the requirements of the firm. These decisions answer the question: from where and how to acquire funds to meet the Firm’s Investment needs. The Financial Manager must decide whether to raise more money by equity or debt or by a combination of these finance sources. Use of each type of finance has certain costs and benefits attached with it. The main concern while selecting the finance source is its cost to the firm. Firm should select an optimum capital structure, it’s the capital structure at which the cost of the capital is lowest for the firm.

Dividend Decisions:

These decisions are related to the distribution of earnings. The financial manager must decide whether the firm should distribute all profits, or retain them, or distribute a portion and retain the balance. The proportion of profits distributed as dividends is called the dividend-payout ratio and the retained portion of profits is known as the retention ratio. Like the debt policy, the dividend policy should be determined in terms of its impact on the shareholders’ value. The optimum dividend policy is one that maximizes the market value of the firm’s shares.The financial manager should also answer the questions of dividend stability, bonus shares and cash dividends in practice.

Short-term Financial Decision: Liquidity Decision

Management of current assets that affects a firm’s liquidity is yet another important finance function. Investment in current assets affects the firm’s profitability and liquidity. Current assets should be managed efficiently for safeguarding the firm against the risk of illiquidity. A trade-off exists between profitability and liquidity while managing current assets. If the firm does not invest sufficient funds in current assets, it may become illiquid and therefore, risky. On the other hand, it would lose profitability, as idle current assets would not earn anything. Thus, a proper trade-off must be achieved between profitability and liquidity.

1.5 Role of a finance manager

A financial manager is a person in a firm who main responsibility is to carry out the finance functions.In a modern enterprise, the financial manager occupies a key position. He or she is one of the members of the top management team, The role of finance manager is becoming more important day by day. Finance manager performs a lot of tasks, some of his/her important responsibilities are giver below: Corporate Finance Notes

Investment Decisions:

Investment decision deals with the decisions related to the allocation of capital to long-term assets that would yield benefits in the future like Plant and machinery, Building etc. This decisionrelated to allocation of capital or commitment of funds to long-term assets that would generate cash flows in the future. It involves the evaluation of the prospective profitability of new investments.The Future benefits of investments are difficult to predict with certainty. The Risk in investment arises because of the uncertain returns. Hence, investment proposals should, therefore, be evaluated in terms of both expected return and risk and while, making these kinds of decisions, the financial manager must weigh the costs and benefits of each investment.

Financing Decisions:

Financing decisions are other important decisions to be made by the finance manager of firm, these decisions essentially relate with the arrangement of funds to fulfil the requirements of the firm. These decisions answer the question: from where and how to acquire funds to meet the Firm’s Investment needs. The Financial Manager must decide whether to raise more money by equity or debt or by a combination of these finance sources. Use of each type of finance has certain costs and benefits attached with it. The main concern while selecting the finance source is its cost to the firm. Firm should select an optimum capital structure, it’s the capital structure at which the cost of the capital is lowest for the firm.

Dividend Decisions:

These decisions are related to the distribution of earnings. The financial manager must decide whether the firm should distribute all profits, or retain them, or distribute a portion and retain the balance. The proportion of profits distributed as dividends is called the dividend-payout ratio and the retained portion of profits is known as the retention ratio. Like the debt policy, the dividend policy should be determined in terms of its impact on the shareholders’ value. The optimum dividend policy is one that maximizes the market value of the firm’s shares.The financial manager should also answer the questions of dividend stability, bonus shares and cash dividends in practice.

Short-term Financial Decision: Liquidity Decision

Management of current assets that affects a firm’s liquidity is yet another important finance function. Investment in current assets affects the firm’s profitability and liquidity. Current assets should be managed efficiently for safeguarding the firm against the risk of illiquidity. A trade-off exists between profitability and liquidity while managing current assets. If the firm does not invest sufficient funds in current assets, it may become illiquid and therefore, risky. On the other hand, it would lose profitability, as idle current assets would not earn anything. Thus, a proper trade-off must be achieved between profitability and liquidity.

1.5 Role of a finance manager

A financial manager is a person in a firm who main responsibility is to carry out the finance functions.In a modern enterprise, the financial manager occupies a key position. He or she is one of the members of the top management team, The role of finance manager is becoming more important day by day. Finance manager performs a lot of tasks, some of his/her important responsibilities are giver below:

Funds Raising

Funds Allocation

Profit Planning

Understanding Capital Markets

Corporate Finance Notes

Investment Decisions:

Investment decision deals with the decisions related to the allocation of capital to long-term assets that would yield benefits in the future like Plant and machinery, Building etc. This decisionrelated to allocation of capital or commitment of funds to long-term assets that would generate cash flows in the future. It involves the evaluation of the prospective profitability of new investments.The Future benefits of investments are difficult to predict with certainty. The Risk in investment arises because of the uncertain returns. Hence, investment proposals should, therefore, be evaluated in terms of both expected return and risk and while, making these kinds of decisions, the financial manager must weigh the costs and benefits of each investment.

Financing Decisions:

Financing decisions are other important decisions to be made by the finance manager of firm, these decisions essentially relate with the arrangement of funds to fulfil the requirements of the firm. These decisions answer the question: from where and how to acquire funds to meet the Firm’s Investment needs. The Financial Manager must decide whether to raise more money by equity or debt or by a combination of these finance sources. Use of each type of finance has certain costs and benefits attached with it. The main concern while selecting the finance source is its cost to the firm. Firm should select an optimum capital structure, it’s the capital structure at which the cost of the capital is lowest for the firm.

Dividend Decisions:

These decisions are related to the distribution of earnings. The financial manager must decide whether the firm should distribute all profits, or retain them, or distribute a portion and retain the balance. The proportion of profits distributed as dividends is called the dividend-payout ratio and the retained portion of profits is known as the retention ratio. Like the debt policy, the dividend policy should be determined in terms of its impact on the shareholders’ value. The optimum dividend policy is one that maximizes the market value of the firm’s shares.The financial manager should also answer the questions of dividend stability, bonus shares and cash dividends in practice.

Short-term Financial Decision: Liquidity Decision

Management of current assets that affects a firm’s liquidity is yet another important finance function. Investment in current assets affects the firm’s profitability and liquidity. Current assets should be managed efficiently for safeguarding the firm against the risk of illiquidity. A trade-off exists between profitability and liquidity while managing current assets. If the firm does not invest sufficient funds in current assets, it may become illiquid and therefore, risky. On the other hand, it would lose profitability, as idle current assets would not earn anything. Thus, a proper trade-off must be achieved between profitability and liquidity.

1.5 Role of a finance manager

A financial manager is a person in a firm who main responsibility is to carry out the finance functions.In a modern enterprise, the financial manager occupies a key position. He or she is one of the members of the top management team, The role of finance manager is becoming more important day by day. Finance manager performs a lot of tasks, some of his/her important responsibilities are giver below:

Understanding Capital Markets

Corporate Finance Criticism of Profit Maximisation

• Profit maximization is vague concept as the term profit is not defined precisely. Profit may be short term or long-term profit; it may be before tax profit or after-tax profit.
• Profit maximization does not consider the time value of money or the net present value of the cash inflow.
• Profit maximization does not consider risk of the business concern. Risks may be internal or external which will affect the overall operation of the business concern.
• The goal of profit maximization may lead to the exploitation of workers and consumers.
• Profit maximization may create immoral practices such as corrupt practice, unfair trade practice, etc.

(b) Wealth Maximization

The prime objective of a business entity is to maximize value for its owners, equity shareholders. Therefore, the ultimate objective of financial management should be wealth maximization.Wealth maximization means maximizing the ‘net present value’ of a course of action or investment project. The net present value of a course of action is the difference between the present value of its benefits and the present value of its costs. It is the versatile goal of the company and highly recommended criterion for evaluating the performance of a business organization. Favorable Arguments for Wealth Maximization

• Contrary to profit maximization objective, wealth maximization is based on cash flows, and not on profits.
• The objective of wealth maximization focuses on the long run picture.
• Wealth maximization considers the time value of money.
• Wealth-maximization criterion considers the risk and uncertainty factor. Profit Maximization V/s Shareholder Wealth Maximization The objective of wealth maximization is generally preferred over profit maximization because of the following reasons:
• It considers wealth for the long-term.
• Wealth-maximization criterion considers the risk and uncertainty factor.
• It considers the timing of returns

1.7 Organization of Finance Functions

Responsibility of carrying out the finance functions lies with the top management. Financial Department may be created under the direct control of the board of directors. The executive heading the finance department is the firm’s Chief Finance Officer (CFO). However, the exact nature of the organization of the financial management function differs from firm to firm depending upon factors such as size of the firm, nature of its business type of financing operations, ability of financial officers and the financial philosophy, and so on. Similarly, the designation of the chief executive of the finance department also differs widely in case of different firms. In some cases, they are known as finance managers while in others as vice-president (finance), director (finance), and financial controller and so on. He reports directly to the top management. Various sections within the financial management area are headed by managers such as controller and treasurer.

Unit 0 1: Financial Management The Financial Functions Within a Corporation

Chief Executive Officer(CEO)

He or she is a member of the Top Management and is closely associated with the formulation of policies and making decisions for the firm. The Treasurer and Controller operates under CFO’s supervision.

Treasurer

Treasurer is a manager responsible for financing, cash management, and relationships with financial markets and institutions. His/her duties include forecasting the financial needs, administering the flow of cash, managing credit, floating securities etc.

Controller

Controller is an officer responsible for budgeting, accounting and auditing.The functions of the controller relate to the management and control of assets.

1.8 Agency issues

The agency problem is a conflict of interest inherent in any relationship where one party is expected to act in another's best interests.The relationship between stockholders and management is called an agency relationship. Understand this though an example. Suppose that you want to sell your old bike and for that purpose you hire someone to sell it. You agree to pay the agent a flat fee when he/she sells the bike. This is an example of Principal-Agent Relationship. The agent’s motive in this case is to make the sale, no guarantee that to get you the best price. This is an example of Agency Problem Now, if you offer a commission instead of the flat fee, let’s say, 3% percent of the sales price instead of a fixed amount, then this problem may be resolved.The agency problem is a conflict of interest inherent in any relationship where one party is expected to act in another's best interests. The relationship between stockholders and management is a form of agency relationship. The conflict between the principal and the agent emerges when the agents who is entrusted with the task, choose to use their authority for personal benefit.It is a common problem and it can be notices in any organization Like any club, company or any government institution.

Board of

Directors

Chief Executive

Officer

Chief Financial

Officer

Controller

Treasurer

Chief Operating

Officer

Unit 0 1: Financial Management

Elements of Business Ethics

 Top management commitment : The (CEO) and other higher-level managers need to be openly and strongly committed to ethical conduct. They must give continuous leadership for developing and upholding the values of the organization.  Publication of a ‘Code’: Businesses that have effective ethics programmes write out the standards of behavior for the entire organization in written documents known as the "code” covering areas such product safety and quality; health and safety in the workplace; conflicts of interest etc.  Establishment of compliance mechanisms: In order to ensure that actual decisions and actions comply with the firm’s ethical standards, suitable mechanisms should be established.  Involving employees at all levels: It is the employees at different levels who implement ethics policies to make ethical business a reality. Therefore, their involvement in ethics programmes becomes a must.  Measuring results: Although it is difficult to accurately measure the end results of ethics programmes, the firms can certainly perform audit to monitor compliance with ethical standards.

Social Responsibility

Social responsibility of business refers to its obligation to take those decisions and perform those actions which are desirable in terms of the objectives and values of our society.Business is part of society. It should fulfill the aspirations of society, and respect the values and norms of society. Thus, social responsibility relates to the voluntary efforts on the part of the businessmen to contribute to the social wellbeing. Social responsibility is broader than legal responsibility of business. Legal responsibility may be fulfilled by mere compliance with the law. Social responsibility is more than that. It is a firm’s recognition of social obligations even though not covered by law.

Arguments for Social Responsibility

• Justification For Existence and Growth: Profit should be looked upon as an outcome of service to the people. The prosperity and growth of business is possible only through continuous service to society
• Long-term Interest of The Firm: When members of society — including workers, consumers, feel that business enterprise is not serving its best interest, they will tend to withdraw their cooperation to the enterprise concerned. The public image of any firm would also be improved when it supports social goals.
• Avoidance of Government Regulation: it is believed that businessmen can avoid the problem of government regulations by voluntarily assuming social responsibilities.
• Maintenance of Society: laws cannot be passed for all possible circumstances. People who feel that they are not getting their due from the business may resort to anti-social activities, not necessarily governed by law
• Availability of resources with business: business institutions have valuable financial and human resources which can be effectively used for solving problems.
• Converting problems into opportunities: business with its history of converting risky situations into profitable deals, can not only solve social problems but it can also make them effectively useful by accepting the challenge.
• Better environment for doing business: business system should do something to meet needs before it is confronted with a situation when its own survival is endangered due to enormous social illnesses.

Corporate Finance

• Holding business responsible for social problems: some of the social problems have either been created by business enterprises themselves. pollution, unsafe workplaces. so, it is the moral obligation of business to get involved in solving these problems.

Arguments Against Social Responsibility

• Violation of profit maximization objective: According to this argument, business exists only for-profitmaximization. Therefore, any talk of social responsibility is against this objective.
• Burden on consumers: undertaking the social responsibility is very costly for the business and often require huge financial investments.
• Lack of social skills: All social problems cannot be solved the way business problems are solved so businesses should not be expected to solve the social problems.
• Lack of broad public support: business cannot operate successfully because of lack of public confidence and cooperation in solving social problems.

Reality of Social Responsibility

• Threat of public regulation: governments today are expected to act as welfare states whereby they have to take care of all sections of society. Thus, where business institutions operate in a socially irresponsible manner, action is taken to regulate them for safeguarding people’s interest.
• Pressure of labor movement: labour movement for extracting gains for the working class throughout the world has become very powerful.
• Impact of consumer consciousness: Development of education and mass media and increasing competition in the market have made the consumer conscious of his right and power in determining market forces
• Development of social standard for business: New social standards consider economic activity of business enterprises as legitimate but with the condition that they must also serve social needs.
• Development of business education: Development of business education which has made more and more people aware of the social purpose of business.
• Relationship between social interest and business interest: Business enterprises have started realising the fact that social interest and business interest are not contradictory. Instead, these are complementary to each other
• Development of professional, managerial class: Professional management education in universities and management institutes have created a separate class of professional managers who have got a different attitude towards social responsibility as compared to the earlier class of manager.

Kinds of Social Responsibility:

• Economic responsibility : A business enterprise is basically an economic entity and, therefore, its primary social responsibility is economic.
• Legal responsibility: Every business has a responsibility to operate within the laws of the land. Since these laws are meant for the good of the society, a law-abiding enterprise is a socially responsible enterprise as well law-abiding enterprise.
• Ethical responsibility: This includes the behaviour of the firm that is expected by society but not codified in law. For example, respecting the religious sentiments and dignity of people while advertising for a product.
• Discretionary responsibility: This refers to purely voluntary obligation that an enterprise assumes, for instance, providing charitable contributions to educational institutions or helping the affected people during floods or earthquakes.

Corporate Finance  A firm has social responsibility towards different stakeholders. It has responsibilities towards shareholders or owners, workers, consumersandtowards the government and community.

Keywords

Corporate finance, Financial Management, Finance Functions, Profit maximization, Wealth maximization, Agency issues, Business Ethics, Social responsibility.

Self-Assessment

1. The structure in which there is separation of ownership and management is called A. Sole proprietorship B. Partnership C. Company D. All business organizations
2. Profits do not have to be shared in which of the following organization type A. Partnership B. Sole proprietorship C. Company D. None of the above
3. ________is the limitation of Traditional approach of Financial Management. A. More emphasis on long term problems B. Ignores allocation of resources C. One-sided approach D. All of the above
4. Financial decisions of an individual like planning application of income, deciding on mode of saving etc. relates to A. Personal Finance B. Corporate Finance C. Public Finance D. None of the above
5. Which of the following option/s is/are true about Corporate Finance: A. It deals with the decisions of a firm related to investment, financing and dividend. B. It is subset of finance C. The primary goal of is to maximize shareholder value D. All of the above
6. Which one of the following is a short-term financial decision? A. Investment decision B. Financing decision C. Dividend decision D. Liquidity decision

Unit 0 1: Financial Management

7. The main goal of financial management is A. profit maximization B. fund transfer C. Maximum Returns D. Wealth Maximization
8. Finance function involves A. procurement of finance only B. expenditure of funds only C. safe custody of funds only D. procurement and effective utilization of funds
9. Which of the following is/are the roles of the finance manager? A. Funds Raising B. Funds Allocation C. Profit Planning D. All of the above
10. The criticism of the Profit maximization goal is/are? A. It is vague concept. B. It ignores timing of returns. C. It ignores the risk factor. D. All of the above
11. Agency is the result of agreement between whom? A. Principal and creditor B. Principal and agent C. Principal, agent and the third party D. Principal and debtor
12. Example/s of the agency relation is/are A. Stockholders and Management B. Stockholders and Creditors C. Stockholders and other Stakeholders D. All of the above
13. Agency cost consists of A. Unnecessary expenditure by the management B. Monitoring C. Auditing cost D. All of the above
14. Examples of business ethics are: A. charging fair prices from customers,

Unit 02: Sources of Finance Unit 02 : Sources of Finance CONTENTS Objectives Introduction 2.1 Classification of sources of funds 2.2 Long-Term Sources of finance 2.3 Short-Term Sources of finance 2.4 International Financing 2.5 Factors Affecting the Choice of The Source of Funds 2.6 Equity Shares 2.7 Preference Shares 2.8 Types of Preference Shares 2.9 Debentures 2.10 Types of Debentures 2.11 Debt v/s Equity Financing Summary Keywords Self-Assessment Answers for Self Assessment Review Questions Further Readings

Objectives

After studying this unit, you will be able to:  understand the concept of Business Finance  classify various sources of Finance  examine the factor affecting Source of Finance  examine Equity and Preference shares as sources of finance  evaluate the merits and limitations of Equity and Preference shares  classify the various types of preference shares  examine Debenture as a source of Finance.  classify the types of debentures.  compare equity Vs Debt financing.

Introduction

Business requires money for carrying out various activities.The finance required by business to establish and run its operations is known as business finance. No business can function without adequate amount of funds for undertaking various activities. Business finance is called the life blood fora business. The funds may be required for several purposes like purchasing fixed assets, for running day-to-day operations, and for undertaking growth and expansion plans in a business organization

Dr. Atif Ghayas, Lovely Professional University

Corporate Finance

Fixed Capital Requirement:

For starting any business, funds are required in order to purchase fixed assets for example, building, land, plant and machinery, and furniture and fixtures. The main feature of these fund is that the funds required in fixed assets remain invested in the business for a long period of time.

Working Capital Requirements:

Other than fixed assets, funds are required for short-term also. Working capital of a business firm is used for holding current assets, such as raw material stock, finished goods, bills receivables and for paying salaries, wages, taxes, and rent.

2.1 Classification of sources of funds

The funds required for an enterprise can be sourced from various sources. The funds available to a business can be classified according to three main criteria, which are: (i) Time period (ii) Ownership (iii) Source of generation. On the Basis of Time Period Long-Term Sources: Those sources of finance which fulfills the financial need of an enterprise for a period exceeding five years are known as long-term sources. Medium-Term Sources: The sources of finance which provides funds to an enterprise for more than one year but less than five years are known as medium-term sources. Short-Term Sources: Short-Term sources as those which fulfills the financial requirements of a business firm for a period not exceeding one year. On the Basis of Ownership Owner’s funds : the financial requirement of an enterprise can be met through own funds or through the borrowed funds. Owner funds are the funds that are provided by the owners of an enterprise, which can be sole proprietor, partners in a partnership firm or shareholders of a company. Borrowed funds : Borrowed funds are those funds which are borrowed from outside the enterprise and raised through loans or debentures. These funds have to paid back after a specific period of time along with the interest. On the Basis of Generation Internal sources of funds : Funds sources from inside the business enterprises are known as Internal sources of funds. External sources of funds: These sources are external to the business enterprise such as suppliers, lenders, and investors.