question_answer

A newly promoted company, dealing in garments have ascertained the fund requirements to procure fixed assets as well as cater the day-to-day expense of the business. However the manager has not yet decided upon the sources of finance to be used. The decision regarding determination of sources of finance is dependent on many factors. Discuss any five such factors.

Answer:

The decision regarding determination of sources of finance is dependent on following factors : (i) Cost The cost of raising funds through different sources are different. Thus, before selecting a source of fund, costs should be compared. (ii) Risk Some degree of risk is involved in every source of finance. More risk is associated with borrowed funds as compared to owner's fund. (iii) Cash Flow Position It also helps in selecting the securities as smooth and steady cash flow can easily afford borrowed funds but if a company faces shortage of cash flows, then it must opt for owner's fund. (iv) State of Capital Market The conditions of capital market also help in deciding the type of securities to be raised. During boom period, demand is more for equity shares but in depression, debt securities are more in demand. (v) Fixed Operating Costs If a business has high fixed operating costs, it must reduce fixed financing costs. Hence, equity financing is better. Similarly, if fixed operating cost are less, more debt financing should be preferred.