Long Term Sources Of Finance

Finance is the life blood of business and it requires huge capital. Funds required for a business can be classified as long term and short term. Long term finance is required for purchasing fixed assets like land and building, machinery etc. Even a portion of working capital, which is required to meet day to day expenses, is of a permanent nature. The amount of long term capital depends upon the scale of business and nature of business.

Meaning and Purpose

The funds required for permanent part of working capital and fixed capital is called long term finance.

The purposes are as follows:

• To finance fixed assets: Business requires fixed assets like land, building and machinery. So, finance is required to buy these assets for long period as these are used for long period and are not for resale.
• To finance permanent part of capital: Business is a continuing activity. It must have a certain amount of working capital which would be needed again and again. This part of working capital is of a fixed or permanent nature. This requirement is also met from long term funds.
• To finance growth and expansion of business: Expansion of business requires investment of huge amount of capital permanently or for long period.

Factors determining long term financial requirements:

• Nature of business: The nature and character of a business determines the amount of fixed capital. A manufacturing company requires land, building, machines etc. So it has to invest a large amount of capital for a long period. But a trading concern dealing in, say, washing machines will require a smaller amount of long term fund because it does not have to buy building or machines.
• Nature of goods produced: A business dealing in small products will require less capital while a business dealing in manufacturing of larger products like cars would need greater capital for its business.
• Technology used: In heavy industry like steel, large capital is required because of heavy machinery as compared to small industries like plastic jars. As they require less machinery and is more labor intensive.

Sources of long term finance:

• Shares: These are issued to general public. The shareholders are owners of business. There are two types of shares: equity and preference. Shares are transferable units having some face value. A share certificate is issued to share holder indicating the amount and number of units of share. Face value shows interest of person and extent of liability.
• Preference shares: Preference Shares are the shares which carry preferential rights over the equity shares.These rights are (a) receiving dividends at a fixed rate, (b) getting back the capital in case the company is wound-up. Investments in these shares are safe, and a preference shareholder also gets dividend regularly. They have no voting right. But when company becomes bankrupt, they are paid before common stockholders.
• Equity shares: Equity shares are shares which do not enjoy any preferential right in the matter of payment of dividend or repayment of capital. The equity shareholder gets dividend only after the payment of dividends to the preference shares.

There is no fixed rate of dividend for equity shareholders. The rate of dividend depends upon the surplus profits. In case of winding up of a company, the equity share capital is refunded only after refunding the preference share capital. Equity shareholders have the right to take part in the management of the company. However, equity shares also carry more risk.