OTHER SOURCES OF FINANCING
(i) Seed Capital Assistance: The Seed capital assistance scheme is designed by IDBI for professionally or technically qualified entrepreneurs and/or persons possessing relevant experience, skills and entrepreneurial traits but lack adequate financial resources. All the projects eligible for financial assistance under the from IDBI, directly or indirectly through refinance are eligible scheme.
The Seed Capital Assistance is interest free but carries a service charge of one per cent per annum for the first five years and at increasing rate thereafter,
However, IDBI will have the option to charge interest at such rate as may be determined by IDBI on the loan if the financial position and profitability of the company so permits during the currency of the loan. The repayment schedule is fixed depending upon the repaying capacity of the unit with an initial moratorium up-to five years.
(ii) Internal Cash Accruals: Existing profit-making companies which undertake an expansion/ diversification programme may be permitted to invest a part of their accumulated reserves or cash profits for creation of capital assets.
In such cases, past performance of the company permits the capital expenditure from within the company by way of disinvestment of working/invested funds. In other words, the surplus generated from operations, after meeting all the contractual, statutory and working requirement of funds, is available for further capital expenditure.
(iii) Unsecured Loans: Unsecured loans are typically provided by promoters to meet the promoters’ contribution norm. These loans are subordinate to institutional loans. The rate of interest chargeable on these loans should be less than or equal to the rate of interest on institutional loans and interest can be paid only after payment of institutional dues. These loans cannot be repaid without the prior approval of financial institutions. Unsecured loans are considered as part of the equity for the purpose of calculating debt equity ratio.
(iv) Deferred Payment Guarantee: Many a time suppliers of machinery provide deferred credit facility under which payment for the purchase of machinery can be made over a period of time. The entire cost of the machinery is financed and the company is not required to contribute any amount initially towards acquisition of the machinery.
Normally, the supplier of machinery insists that bank guarantee should be furnished by the buyer. Such a facility does not have a moratorium period for repayment. Hence, it is advisable only for an existing profit-making company.
(v) Capital Incentives: The backward area development incentives available often determine the location of a new industrial unit. These incentives usually consist of a lump sum subsidy and exemption from or deferment of sales tax and octroi duty. The quantum of incentives is determined by the degree of backwardness of the location.
The special capital incentive in the form of a lump sum subsidy is a quantum sanctioned by the implementing agency as a percentage of the fixed capital investment subject to an overall ceiling. This amount forms a part of the long-term means of finance for the project. However, it may be mentioned that the viability of the project must not be dependent on the quantum and -availability of incentives. Institutions, while appraising the project, assess the viability of the project per se, without considering the impact of incentives on the cash flows and profitability of the project.
Special capital incentives are sanctioned and released to the units only after they have complied with the requirements of the relevant scheme. The requirements may be classified into initial effective steps and final effective steps.
(vi) Deep Discount Bonds: Deep Discount Bonds is a form of zero-interest bonds. These bonds are sold at a discounted value and on maturity, face value is paid to the investors. In such bonds, there is no interest payout during lock in period.
(vii) Secured Premium Notes: Secured Premium Notes is issued along with a detachable warrant and is redeemable after a notified period of say 4 to 7 years. The conversion of detachable warrant into equity shares will have to be done within time period notified by the company.
(viii) Zero Interest Fully Convertible Debentures: These are fully convertible debentures which do not carry any interest. The debentures are compulsorily and automatically converted after a specified period of time and holders thereof are entitled to new equity shares of the company at predetermined price. From the point of view of company, this kind of instrument is beneficial in the sense that no interest is to be paid on it. If the share price of the company in the market is very high then the investors tends to get equity shares of the company at the lower rate.
(ix) Zero Coupon Bonds: A Zero Coupon Bond does not carry any interest but it is sold by the issuing company at a discount. The difference between the discounted value and maturing or face value represents the interest to be earned by the investor on such bonds.
(x) Option Bonds: These are cumulative and non-cumulative bonds where interest is payable on maturity or periodically. Redemption premium is also offered to attract investors.
(xi) Inflation Bonds: Inflation Bonds are the bonds in which interest rate is adjusted for inflation. Thus, the investor gets interest which is free from the effects of inflation. For example, if the interest rate is 11 per cent and the inflation is 5 per cent, the investor will earn 16 per cent meaning thereby that the investor is protected against inflation.
(xii) Floating Rate Bonds: This as the name suggests is bond where the interest rate is not fixed and is allowed to float depending upon the market conditions. This is an ideal instrument which can be resorted to by the issuer to hedge themselves against the volatility in the interest rates. This has become more popular as a money market instrument and has been successfully issued by financial institutions like IDBI, ICICI etc.
INTERNATIONAL FINANCING
The essence of financial management is to raise and utilise the funds raised effectively. There are various avenues for organisations to raise funds either through internal or external sources.
The sources of external financing include:
(i) Commercial Banks: Like domestic loans, commercial banks all over the world
extend Foreign Currency (FC) loans also for international operations. These
banks also provide to overdraw over and above the loan amount.
(ii) Development Banks: Development banks offer long & medium term loans
including FC loans. Many agencies at the national level offer a number of concessions to foreign companies to invest within their country and to
finance exports from their countries e.g. EXIM Bank of USA.
(iii) Discounting of Trade Bills: This is used as a short-term financing method. It is used widely in Europe and Asian countries to finance both domestic and international business.
(iv) International Agencies: A number of international agencies have emerged over the years to finance international trade & business. The more notable among them include The International Finance Corporation (IFC), The International Bank for Reconstruction and Development (IBRD), The Asian Development Bank (ADB), The International Monetary Fund (IMF), etc.
(v) International Capital Markets: Today, modern organisations including MNC’s depend upon sizeable borrowings in Rupees as well as Foreign Currency (FC). In order to cater to the needs of such organisations, international capital markets have sprung all over the globe such as in London.
In international capital market, the availability of FC is available under the
four main systems viz:
⚫ Euro-currency market
⚫ Export credit facilities
⚫ Bonds issues
⚫ Financial Institutions.
The origin of the Euro-currency market was with the dollar denominated bank deposits and loans in Europe particularly in London. Euro-dollar deposits are dollar denominated time deposits available at foreign branches of US banks and at some foreign banks. Banks based in Europe accept dollar denominated deposits and make dollar denominated deposits to the clients. This forms the backbone of the Euro-currency market all over the globe. In this market, funds are made available as loans through syndicated Euro-credit of instruments such as FRN’s, FR certificates of deposits.
(vi) Financial Instruments: Some of the various financial instruments dealt with in the international market are briefly described below:
(a) External Commercial Borrowings (ECB): ECBS refer to commercial
loans (in the form of bank loans, buyers credit, suppliers credit, securitised instruments (e.g. floating rate notes and fixed rate bonds) availed from non-resident lenders with minimum average maturity of 3 years.
Borrowers can raise ECBS through internationally recognised sources like
(i) international banks,
(ii) international capital markets,
(iii) multilateral financial institutions such as the IFC, ADB etc,
(iv) export credit agencies,
(v) suppliers of equipment,
(vi) foreign collaborators and
(vii) foreign equity holders.
External Commercial Borrowings can be accessed under two routes viz
(i) Automatic route and
(ii) Approval route. Under the Automatic route, there is no need to take the RBI/Government approval whereas such approval is necessary under the Approval route.
Company’s registered under the Companies Act and NGOs engaged in micro finance activities are eligible for the Automatic Route whereas Financial Institutions and Banks dealing exclusively in infrastructure or export finance and the ones which had participated in the textile and steel sector restructuring packages as approved by the government are required to take the Approval Route.
(b) Euro Bonds: Euro bonds are debt instruments which are not denominated in the currency of the country in which they are issued e.g. a Yen note floated in Germany. Such bonds are generally issued in a bearer form rather than as registered bonds and in such cases they do not contain the investor’s names or the country of their origin. These bonds are an attractive proposition to investors seeking privacy.
(c) Foreign Bonds: These are debt instruments issued by foreign corporations or foreign governments. Such bonds are exposed to default risk, especially the corporate bonds. These bonds are denominated in the currency of the country where they are issued, however, in case these bonds are issued in a currency other than the investors home currency, they are exposed to exchange rate risks. An example of a foreign bond ‘A British firm placing Dollar denominated bonds in USA’
(d) Fully Hedged Bonds: As mentioned above, in foreign bonds, the risk of currency fluctuations exists. Fully hedged bonds eliminate the risk by selling in forward markets the entire stream of principal and interest payments.
(e) Medium Term Notes (MTN): Certain issuers need frequent financing through the Bond route including that of the Euro bond. However, it may be costly and ineffective to go in for frequent issues. Instead, investors can follow the MTN programme.
Under this programme, several lots of bonds can be issued, all having different features e.g. different coupon rates, different currencies etc. The timing of each lot can be decided keeping in mind the future market opportunities. The entire documentation and various regulatory approvals can be taken at one point of time.
(f) Floating Rate Notes (FRN): These are issued up to seven years maturity. Interest rates are adjusted to reflect the prevailing exchange rates. They provide cheaper money than foreign loans.
(g) Euro Commercial Papers (ECP): ECPs are short term money market instruments. They have maturity period of less than one year. They are usually designated in US Dollars. (h) Foreign Currency Option (FC): A FC Option is the right (and not the obligation) to buy or sell, foreign currency at a certain specified price on or before a specified date. It provides a hedge against financial and economic risks.
(i) Foreign Currency Futures: FC Futures are obligations (and not the right) to buy or sell a specified foreign currency in the present for settlement at a future date. (i) Foreign Euro Bonds: In domestic capital markets of various countries
the Bonds issues referred to above are known by different names such as Yankee Bonds in the US, Swiss Frances in Switzerland, Samurai Bonds in Tokyo and Bulldogs in UK.
(k) Euro Convertible Bonds: A convertible bond is a debt instrument which gives the holders of the bond an option to convert the bonds into a pre-determined number of equity shares of the company.
Usually the price of the equity shares at the time of conversion will have a premium element. These bonds carry a fixed rate of interest and if the issuer company so desires may also include a Call Option (where the issuer company has the option of calling/ buying the bonds for redemption prior to the maturity date) or a Put Option (which gives the holder the option to put/sell his bonds to the issuer company at a pre- determined date and price).
(L) Euro Convertible Zero Bonds: These bonds are structured as a convertible bond. No interest is payable on the bonds. But conversion of bonds takes place on maturity at a pre- determined price. Usually there is a five years maturity period and they are treated as a deferred equity issue.
(m) Euro Bonds with Equity Warrants: These bonds carry a coupon rate determined by market rates. The warrants are detachable. Pure bonds are traded at a discount. Fixed Income Funds Management may like to invest for the purposes of regular income in this case.
(n) Environmental, Social and Governance-linked bonds (ESG): These bonds carry a responsibility of the issuer company to prioritize optimal environmental, social and governance (ESG) factors. Investing in ESG bonds is considered as socially responsible investing. ESG bonds can be project-based – green bonds and social bonds; and target-based sustainability-linked bonds (SLBS).
Green bonds: These are the most popular ESG bonds that are issued by a financial, non-financial or public institution, where the bond proceeds are used to finance “green projects”. Green projects are aimed at positive environmental and/or climate impact including the cultivation of eco-friendly technology. India is the second-largest green bond market. For example: Ghaziabad Municipal Corporation (GMC) becomes the first Municipal Corporation to raise 150 crore from Green Bond in the Year 2021.
⚫ Social bonds: These bonds finance the socially impactful projects. The projects here are related to the social concerns such as Human rights, Equality, animal welfare etc. For example, “Vaccine bonds” are social bonds, issued to fund the vaccination of vulnerable childrens and protection of people in lower income countries.
⚫ Sustainability-linked bonds (SLBS): These bonds are combination of green bonds and social bonds. Proceeds of SLBS are not meant for a specific project but for general corporate purpose to achieve Key Performance Indicator (KPIs). For example: UltraTech Cement raises US$ 400 million through India’s first sustainability-linked bonds in year 2021. The company aims to reduce carbon emissions through the life of bond of 10 years.
(vii) Euro Issues by Indian Companies: Indian companies are permitted to raise foreign currency resources through issue of ordinary equity shares through
Global Depository Receipts (GDRs)/ American Depository Receipts (ADRs) and/ or issue of Foreign Currency Convertible Bonds (FCCB) to foreign investors i.e. institutional investors or individuals (including NRIs) residing abroad. Such investment is treated as Foreign Direct Investment (FDI). The government guidelines on these issues are covered under the Foreign Currency Convertible Bonds and Ordinary Shares (through depositary receipt mechanism) Scheme, 1993 and notifications issued after the implementation of the said scheme.
(a) American Depository Receipts (ADRs): These are securities offered by non-US companies who want to list on any of the US exchange. Each ADR represents a certain number of a company’s regular shares. ADRS allow US investors to buy shares of these companies without the costs of investing directly in a foreign stock exchange.
The Indian companies have preferred the GDRs to ADRs because the US market exposes them to a higher level of responsibility than a European listing in the areas of disclosure, costs, liabilities and timing. The regulations are somewhat more stringent and onerous, even for companies already listed and held by retail investors in their home country. The most onerous aspect of a US listing for the companies is to provide full, half yearly and quarterly accounts in accordance with, or at least reconciled with US GAAPS.
(b) Global Depository Receipts (GDRs): These are negotiable certificates held in the bank of one country representing a specific number of shares of a stock traded on the exchange of another country. These financial instruments are used by companies to raise capital in either dollars or Euros. These are mainly traded in European countries and particularly in London.
ADRs/GDRs and the Indian Scenario: Indian companies are shedding their reluctance to tap the US markets. Infosys Technologies was the first Indian company to be listed on Nasdaq in 1999. However, the first Indian firm to issue sponsored GDR or ADR was Reliance industries Limited. Beside these two companies there are several other Indian firms which are also listed in the overseas bourses. These are Wipro, MTNL, State Bank of India, Tata Motors, Dr. Reddy’s Lab, etc.
(c) Indian Depository Receipts (IDRs): The concept of the depository receipt mechanism which is used to raise funds in foreign currency has been applied in the Indian Capital Market through the issue of Indian Depository Receipts (IDRS). IDRs are similar to ADRs/GDRs in the sense that foreign companies can issue IDRS to raise funds from the Indian Capital Market in the same lines as an Indian company uses ADRs/GDRS to raise foreign capital. The IDRS are listed and traded in India in the same way as other Indian securities are traded.
SUMMARY
There are several sources of finance/funds available to any company.
All the financial needs of a business may be grouped into the long term or short term financial needs.
There are different sources of funds available to meet long term financial needs of the business.
These sources may be broadly classified into share capital (both
equity and preference) and debt.
Another important source of long-term finance is venture capital financing.
It refers to financing of new high risky venture promoted by qualified entrepreneurs who lack experience and funds to give shape to their ideas.
Debt Securitisation is another important source of finance and it is a process in which illiquid assets are pooled into marketable securities that can be sold to investors.
Leasing is a very popular source to finance equipment.
It is a contract between the owner and user of the asset over a specified period of time in which the asset is purchased initially by the lessor (leasing company) and thereafter leased to the user (lessee company) who pays a specified rent at periodical intervals.
Some of the short terms sources of funding are trade credit, advances from customers, commercial paper, and bank advances etc.
To support export, the commercial banks provide short term export finance mainly by way of pre and post-shipment credit.
Every day new creative financial products keep on entering the market. Some of
the examples are seed capital assistance, option bonds, inflation bonds, masala bonds etc.
Today, the businesses are allowed to source funds from international market also. Some of important products of international financing are External Commercial Borrowings (ECB), ESG-linked bonds, Euro Bonds etc.
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