Q.Explain the classification of sources of finance.

The funds a business uses can be classified three ways: by period (long/medium/short-term), by ownership (owned vs borrowed funds) and by source of generation (internal vs external). Each category lists specific instruments like shares, debentures, loans, public deposits, trade credit and retained earnings.

Classification of Sources of Finance

1. On the basis of period

• Long-term sources (more than 5 years) — equity shares, preference shares, debentures, retained earnings, long-term loans from financial institutions.
• Medium-term sources (1 to 5 years) — loans from banks, public deposits, lease financing, loans from financial institutions.
• Short-term sources (less than 1 year) — trade credit, bank overdraft and cash credit, bills of exchange, short-term public deposits.

2. On the basis of ownership

• Owned funds — funds provided by the owners and retained in the business: equity share capital, preference share capital and retained earnings (ploughed-back profits). They carry ownership and control.
• Borrowed funds — funds raised through borrowing that must be repaid with interest: debentures, loans from banks and financial institutions, public deposits and trade credit.

3. On the basis of source of generation …