UNIT - I

FUNDAMENTAL CONCEPTS
The objective of this paper is to introduce the students to the
various concepts of Business, Industry, Commerce, Trade and
Management. The syllabus of the paper is divided into 5 units covering
these aspects in dept.

UNIT - 1 : FUNDAMENTAL CONCEPTS

This unit familiarises the student with various fundamentals

of business organisation such as what is business, while the next
unit familiarises with the various forms of business organisations
and their salient features. This unit consists of 4 lessons i.e., lessons
1 to 4. These are presented hereunder.

Lesson - 1
entitled ‘Business Concepts’ deals with the basic concepts of business. The
economic growth of any nation depends upon industrial, agricultural and other
sectors, which are based on industry, commerce and trade. This lesson introduces
the concept of business and its characteristics, definition of commerce and different
types of industry, trade and commerce, together with their interrelationships.

Lesson - 2

titled ‘Business Objectives’ throws light on the objectives of doing business,

how they have undergone a change over a period of time, social responsibilities
of business and the qualities of a business man.

Lesson - 3

focusses attention on the enterprenuers, their types and profile, functions of

enterpreneurs their working besides profile, the concept and meaning of an
enterprenuer.

Lesson - 4

is devoted to the sources of finance. It deals with the requirements of capital,

types of finance available, sources of finance, capitalisation, evils of over and
under capitalisation.

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 1. BUSINESS CONCEPTS
“A human activity whose objective is to create wealth through purchase and sale
of goods and services” - L.H. HANEY.

OBJECTIVES :

You are welcome to the School of Distance Education, Andhra University, Visakhapatnam.
Congratulations that you have joined in B.Com. Degree classes. The subject “Industrial
Organisation and Management’ is a very important to all academicians, practitioners, industrialists
and students in general and commerce students in particular. The knowledge is very important
for the economic growth of a country. It facilitates to measure the living standards of the society.
The economic growth depends upon industrial, agricultural, and other sector, which is mainly
based on industry, commerce and trade. This lesson introduces the concept of business, definition
of commerce, characteristics of business and its components. This lesson also familiarizes you
with different types of industry, Trade and Commerce together with its interrelationship.
After completion of this Lesson you will be able to
* define the concept, definition and characteristics of business.
* clear understanding the functions of business activities.
* identify and analyse the components of industry and commerce.
* describe the basis of trade categories and area of operation.
* explain the interrelationship - industry-trade-commerce.

STRUCTURE :

1.1. Introduction
1.2. Concept of Business
1.3. Definition
1.4 Characteristics of Business
1.5. Components of Business
1.6. Industry
1.7. Commerce
1.8. Trade
1.9. Classification of Business
1.10. Interrelationship - Industry - Commerce - Trade
1.11. Plant, Firm and Industry
1.12. Summary
1.13. Check your progress (A) and (B)
1.14. Model Answers
1.15. Model Examination Questions
1.16. Glossary
1.17. Books Recommended

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1.1. INTRODUCTION :

The present lesson deals with economic activities related to production and exchange of
wealth where in business means work efforts and acts of people which are connected with the
production of wealth. This lesson explains different types of industries and trade can be described
as axel in the wheel of commerce. This also emphasizes that the role of commerce can be
understood with the aspects as to how it is useful, in removing several hindrances in the process
of exchange of goods and services.

1.2. CONCEPT OF BUSINESS :

The term business comes from the word busy that means a state of being engaged in
some work. Man may be busy in many kinds of activities viz., playing, reading, writing, earning
money etc. Human being is busy in one activity or another to satisfy his ever growing wants. The
total activities may be classified into two varities. These are, 1. economic and 2. non economic
activities. by business, we normally refer to the economic or money earning activities only.
Human activities related to production and exchange of wealth is called economic activities.
Non-economic activities are inspired by human sentiments, affection etc. The service rendered
by housewife through out her life to the members of her family can be cited as an example. The
non-economic activities are outside the scope of the present study. Business means human activity
directed towards the producing and marketing of goods and services. The main object behind
carrying any economic activity is consideration and profitability. Business, therefore, is income
oriented. Every individual chooses or enters into some occupation or calling to make income.

1.3. DEFINITION :

Business can be defined as repeated or recurring buying and selling of goods or services
for the mutual benefits of the buyers and the sellers. A seller sells his goods or services only
when there is some utility in it. For every buying-selling transaction, the buyer consumes the
utility by which his want is satisfied and he is benefited and on the other hand the seller is also
benefited as he earns some profit. If goods or services are to be sold, they have to be produced or
generated. Business actually includes all the activities involved in the whole process of production
to sale. Thus any money-earner is a businessman. Hooper summarizes that ‘the whole complex
field of commerce and industry, the basic industry, processing and manufacturing industry is and
the network of ancillary services, distribution, banking, insurance, transport and so on, which
serve and interpenetrate the world of business as a whole’.

1.4. CHARACTERISTCS OF BUSINESS :

The important characteristics of business are:

1. Sale or transfer for value : Business involves the sale or transfer of goods and services
for value. The production or purchase of goods and services for personal consumption does not

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come under business hereas the production or purchase of goods and services with the object of
exchanging them for value comes under business. Thus, a weaver weaving a cloth for his own
use does not engage in business. But if he weaves it for sale, it becomes business.
2. Dealing in goods and services : Business consists of transaction relating to goods and
services. The term ‘goods’ includes both consumer goods like wheat, rice, oil, cloth etc., and
producer goods like tools and machinery. The term, ‘services’ refers to such things as banking,
insurance and transportation of goods and passengers.

3. Recurrence of dealings : In business, there is recurrence of purchase and sale. If a

person sells his personal scooter and earns a profit, his act is not one of business. But if he
regularly purchases and sells scooters, then such an act is considered business.
4. Profit Motive: The primary motive behind business is to earn profit. It is concerned
with the production and purchase of goods and services with a view to selling them at a profit.
5. Risk: Profit from business depends on many factors like demand, price level, competition
etc., on which businessmen may not have control. Hence, business involves an element of risk.

1.5. COMPONENT OF BUSINESS :

Business includes indutry, trade and commerce. While industry is concerned with the
production of goods and materials, trade and commerce are concerned with their distribution.

1.6. INDUSTRY :

Industry refers to the production of wealth or value. All the activities referred to the
production of goods and services put together can also be called as industry. Industry may be
defined as “that part of business activity which concerns itself with the raising, production,
processing or fabrication of products. The goods produced by industry may be classified in the
following types.
A. Extractive Industries : These industries are concerned with the discovery and utilisation
of natural resources like minerals, animals and plants and trees. The products may be directly
consumed or may be used as raw materials for further production. For example, fish or fruits are
directly consumed but minerals are used as raw materials for further production. Extractive
industry may be of elementary type like fruit gathering or highly mechanized like mining.
Extractive industry is one of the oldest types of industry practiced by man. Today it has become
highly sophisticated in respect of mining or even fishing. Agricultural farming is considered a
kind of extractive industry that again is getting mechanized.

B. Genetic Industries : These are concerned with rearing and breeding of animals, birds
and plants (pig, birds, nursery). This is also a very old type and simple type of industry. But in
modern days such industries also have been made sophisticated and highly mechanized with
large-scale operations. Refrigeration, pasteurization etc. of animals’ products is modern tendencies.
Forestry and sericulture also come under this category of industries.
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C. Manufacturing Industries: These are concerned with the working of raw materials or
partly finished materials into finished products. In these industries, nature does very little and
man does the major part of the work. Some examples of manufacturing industries are iron and
steel industry, sugar industry and cotton textile industry etc. The product may be simple eg.
making of soaps or very sophisticated eg. making of electronic goods. Generally we think of
industry we mean manufacturing.

D. Construction Industries : These are engaged in the construction of buildings, roads,

dams, bridges and canals. This important feature of these industries is that their products are not
taken out to the market for sale but they are created or built at a fixed site. These industries use
the products of manufactuing and extractive industries.

E. Service Industries : Business provides not only goods but also services. In a developed
country like the U.S.A. the service industry accounts for nearly 80% of the total employment.
The Government sector with hospitals, police, post office, non-profit private sector with colleges,
temples, churches. business sector with hotels, insurance etc., can be cited as the examples of
this industry.

1.7. COMMERCE :

Commerce is an activity where in goods is transferred to those who need them. The
exchange and distribution of goods and services is called commerce. Commerce can be defined
as “the sum total of activities that are useful in free and uninterrupted flow of goods and services
between the producers and consumers’. It is an organised system for the exchange of goods
between the members of the industrial world. It established the link between the producers and
the consumers.

i. Activities of commerce : The term commerce refers to trade and all activities which
facilitative of trade such as transporting, insuring, storing, financing, grading and packing. Thus
commerce includes trade as well as aids to trade. We can understand that there are two components
in commerce. Firstly the process of purchase and sale of goods and services, which is called
trade. Secondly, the activities which facilitate commerce. These activities are called trade
ancillaries, which include transportation, insurance, banking, warehousing, packing, advertising
etc.

ii. Obstacles : There are many kinds of obstacles standing in the way of transfer of goods
from the producer to the consumer. Commerce is useful in removing several obstacles in the
process of exchange of goods and services viz., persons, place, time, finance and knowledge.
Goods are manufactured in a few places, while the consumption is spread over to various places
of centers of the country. Goods must reach the right place, in right condition, at the right time
and that aganist the right price.

iii. Functions : Commerce has to perform these functions. The important functions are :

a. Place : Commerce acts as an intermediary between producers and consumers. The

distance between these two parties is overcome through persons viz., traders. Traders
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 who serve as a link between the producers and the consumers remove this hindrance of
person.

b. Place : Hindrance of place occurs when goods are produced at one place and consumed
at another place. This hindrance is removed with aids like packing, transportation, and
insurance etc.

c. Time : Hindrance of time arises out of the time gap between the time of production
and time of consumption. For example in some sectors like agriculture, the production
takes place only in a few seasons on a large scale but not throuth out the year, while
consumption of goods is spread over the year and in smaller quantities. In such cases the
product is to be stored in warehouses.
d. Finance : A part of commerce the banks and other financial institutions have been
playing a significant role to remove the obstacle of exchange.
e. Information : Hindrance of information is removed by advertising and publicity etc.
Lack of information about the products and the company is a great problem in the way of
selling the products. Advertising and salesmanship help to remove the hindrances of
lack of information by bringing to the notice of the people the benefits of the products,
their features, price range etc. The feedback of the customers about their products can be
known with the help of marketing research.

f. Service Enterprises : This refers to the enterprises that are engaged in providing
services. Some examples of service enterprises are Cinema houses, transport companies
and insurance companies.

1.8. TRADE :

Trade is a branch of Commerce and it is concerned with the exchange of commodities. It

means the buying the selling of goods. All the activities of commerce revolve around trade.
Trade can be described as axles in the wheel of commerce. Trade refers to the sale, transfer or
exchange of goods. Trade can be classified into wholesale trade and retail trade. Trade is also
classified as local trade, regional trade, international trade or foreign trade.

i. Home Trade : Transfer of goods from the place of production to the place of consumption
both belonging within the boundary of the same country. It is known as home trade. The goods,
not necessarily, will travel from the place of prodution directly to the place of consumption.
Intermediaries for further distribution may receive the consignment. Internal trade takes place
within the boundary of the same country. It is more or less inevitable because every part of a
country cannot produce all types of goods locally. It has no problem of exchange of currency.
Payment procedure is simple. Large number of middlemen is not generally involved. Government
regulations are not varied and rigid. Different types of transport and mostly land transport are
used. Both production and consumption goods are involved.

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 a. Whole sale trade : There are merchants called wholesalers who buy goods in bulk
from the producers, hold the stock in their godowns and release the stock to the retailers
as and when required. They buy in bulk quantities but sell the goods to retailers in small
units by breaking the bulk. They take the risk of distribution and thereby producers are
relieved and can be devote more time for production work.

b. Retail trade : Retail traders buy goods from the wholesalers in small quantities and
sell them to the ultimate consumers. They get discount on their purchases from the
wholesalers. Retailers generally have small shops where many varieties of goods are
sold. There may be speciality shops too. For example cloth shop, books shop etc. There
are varieties of departmental stores, multiple shops, chain stores etc.

It may be noted that generally foreign trade is in the form of wholesale trade. After the
goods have reached the importing country, they are locally distributed through retailers.
Or, the goods are directly consumed by industries. On the other hand, inland trade both
the whole sale trade and retail trades exist with equal importance.

ii. International Trade means movement of goods from one country to another. Foreign
trade takes place because of geographical divisions of labour and operation of the theory of
comparative costs. Every country specializes in the production of those goods in which it has
comparative advantage with regard to cost a then exchange these goods with the specialized
products of other countries.

iii. Export & Import Trade : Foreign trade is further sub-divided into export trade and
import trade but virtually they are reciprocal. Trade between two countries can take place provided
the Government of both the countries agree. The Government plays a dominant role in the matter
and every thing depends on the commercial policy. There is a problem of exchange rate
determination between the currencies of the countries concerned. Large numbers of intermediaries
are involved in the process as various legal and trade formalities have to observed and usually a
long distance has to be covered. The Government of every country imposes several rules and
regulations and controlling measures. Generally water transport is used. The international laws
relate to shipping, insurance foreign exchange etc., It has to be observed that the politico-legal ,
social-cultural and economic environment of the countries will influence the internationlal trade
significantly.

iv. Entrepot trade : It means when goods are imported from one country and the same is
exported to another country. This is also called re-export trade. This trade is done when ports are
conveniently situated to serve as the distributing points for neighbouring countries or the relations
between two countries are not harmonious, then a third country can engage in this. Entrepot
trade facilitate the flow of goods between two countries.

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1.9. CLASSIFICATION OF THE BUSINESS :

Industry
Extractive
Genetic
Manufacturing
Business
Construction
Service

Trade
Commerce

Foreign Trade Domestic

Export Import Entrepot

Trade Trade Trade
Wholesale Retail
Trade Trade

Trade Allied Services

Banking
Transportation
Warehousing
Insurance
Advertisement

1.10. INTER RELATIONSHIP-INDUSTRY-COMMERCE-TRADE :

Industry, commerce and trade are closely related to one another, and as such they affect
and are in turn affected by one another. Each has to depend on the other for realizing its objectives.
For example, industry that is concerned with production depends upon commerce for the
distrubution of its products and similarly commerce has to depend upon industry for the supply
of products. Commerce helps industry both before and after production through the buying of
raw materials, the selling of finished products land the conducting of many other operations.
Trade that is concerned with the process of buying and selling goods provides support to industry
and ensures the smooth flow of cmmerce. Thus industry, commerce and trade are closely related
to one another and are inter-dependent as shown in the diagram.
INDUSTRY

COMMERCE TRADE
8
 Satisfaction of human wants. Industry is responsible for producing goods and services
through the conversion of raw materials while, commerce facilitates the movement of goods
from the production points to the consumption ends. Industry is the backbone of commerce and
trade. Trade completely depends upon industry and there can be no trade without industry. Thus,
we find that trade, commerce and industry are closely related to each other.

1.11. PLANT, FIRM AND INDUSTRY :

In the present day industrial world, there are large numbers of manufacturing units that
are operating in different sizes. There are three terms that are inter-changeably used to denote the
industrial units. They are (i) plant (ii) firm and (iii) industries. The term “Plant” has been defined
as Sargent Florence as ‘Congregation or body of persons assembling together at a certain time
and place”. The term’s factory, mill, workshop, mine etc., are also used to denote the term plant.
A firm is the unit, which owns controls and manages the plant or plants. An industry may be
defined as the group of firms producing the same product for the same market. The different
producers produce different products that are different in quality, package, price etc. Even though
there are significant difference in the different aspects of the products as the purpose is same, all
the firms are called industry. For example tooth paste industry. This industry consists of different
firms like Colgate Palmolive, Prudent etc. As there are no significant differences in the raw
materials they use, these firms constitute industry. Similarly Coll drinks, Soaps, Iron-ore etc., are
also known as industries of cousume and industrial goods.

1.12. SUMMARY :

Human activities are divided into two categories viz., economic and non-economic.
Economic activities are undertaken for earning livelihood and earning profit. Non economic
activities are conducted out of love and affection but not for earning profits. Business means
production and marketing of goods and services. Business as a pattern of human behaviour has
a number of characteristics viz., income oriented, reciprocity, concerning all, regularity every
kind of business has some common or basic features. Every business must have some entrepreneur
or entrepreneurs to promote it and to render leadership for its development. Business has certain
features. These include production of goods and services, purchase and sale of goods and services,
continuity of dealings, and production of goods and services, purchase and sale of goods and
services, continuity of dealings, and product motive and risk. Industry can be classified into five
types viz., extractive industries, genetic industries, manufacturing industries, construction
industries, and service industries. Commerce is concerned with the distribution of goods and
services produced. It has two main compartments. These are trade and aids to trade. Activities
that facilitate buying and selling are called trade. An aid to trade provides facilitates buying and
selling. Thus trade commerce and industry that are parts of the business have been serving the
community through satisfying ever-growing wants of human beings. Thus industry is concerned
with production of goods and services. Commerce is distribution of goods and services (Trade +
aids to trade). Trade is purchase and sale of goods and services and aids to trade is transportions,
banking, insurance, warehousing etc.
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1.13. CHEK YOUR PROGRESS (A) :

Define Buiness :
........................................................................................................................................................................
.......................................................................................................................................................................
...........................................................................................................................................................................
.................................................................................................................................................................................

CHECK YOUR PROGRESS (B) :

What do you mean by commerce ?
.....................................................................................................................................................................................
....................................................................................................................................................................................
.........................................................................................................................................................................................................
......................................................................................................................................................................

1.14. MODEL ANSWERS :

A. Business can be defined as repeated or recurring buying and selling of goods or services
for the mutual benefits of the buyers and the sellers. In the definition, the word repeated or
recurring is very significant. One isolated transaction does not make business. The owner of a
bookshop buys from the publishers and sells them to the customers regularly keeping a margin
of profit at each transaction. The book selling is his business. The definition for the mutual
benefits of the buyers and the sellers also needs explanation. Man buys those goods or services
that have utilities i.e., which can satisfy his wants. A seller can seell his goods or service only
when there is some utility in it. When he sells his goods or service actually he sees the utility in
it. For every buying-selling transaction, the buyer consumes the utility by which his want is
satisfied and he is benefited and on the other hand the seller is also benefited as he earns some
profit. If goods or services are to be sold, they have to be produced. Business actually includes
all the activities involved in the whole process of production to sale. Functionally, business is
divided into three types of activities-industry, trade and commerce. According to Prof. Haney
business may be defined as human activity directed towards producing or acquiring wealth through
buying or selling goods.

B. Commerce is concerned with production of goods for the satisfaction of human wants.
The exchange and distribution of goods and services is called commerce. There are many kinds
of hindrances or obstacles standing in the way of trade or transfer of goods from the producers to
the consumers. Commerce denotes all the activities, for example services of transport, bank,
insurance, warehouse etc., that remove all these hindrance for smooth and faster movement of
the goods. All these activities are auxiliary or helpful to trade. Goods must reach the right place,
in right condition, at the right time and that against the right price. The function of Commerce is
to perform these. Commercial activities are divided into different functional parts. Industry,
trade and commerce are closely inter-related. Trade and commerce are so closely inter-linked
that some people consider that trade is a part of commerce.
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1.15. MODEL EXAMINATION QUESTIONS :

1. Examine the inter-regulationships of industry, commerce and trade.

2. Discuss the characteristics and objectives of business.
3. Define business. Explain the role of business in Commerce.
4. Explain the importance of commerce in the modern world. Examine the hindrance of
exchange of goods and services and how these hindrances overcome?
5. Define industry and explain different types of industries with examples.
6. What do you mean by trade? Explain the different types of trades with relevant examples.

SHORT QUESTIONS :

1. Business
2. Risk in business
3. Entrepot trade
4. Difference between commerce and trade
5. Classification of industries.

1.16. GLOSSARY :

1. Business : Refers to all human activities which are connected with the production or
purchase of goods and serve with the intention of selling them at a profit.
2. Commerce : Refers to and includes all those activities that are necessary to bring goods
and services from the place of their origin to the places of their consumption. It includes
trade and aids to trade.
3. Trade : Trade is a branch of commerce and it is concerned with the exchange of
commodities. It means the buying and selling of goods.

1.17. BOOKS RECOMMENDED :

1. Krishna Swamy, OR “Essentials of Commerce” Madras Eagle Press Publication Division,

1978.
2. Reddy P.N. and Gulshan, “Principles of Business Organisation and Management”,
S. Chand and Co. Ltd., New Delhi, 1981.
3. Bhushan, Y.K. “Fundamentals of Business Organisation and Management” Sultan Chand
& Sons, Delhi.
4. Etizioni Amitai, “Modern Organisation” Englewood cliffs, N.J.Prentice Hall, London.

*****
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 2. BUSINESS OBJECTIVES
“Earning of profit cannot be the objective of business anymore than eating is the
objective of living” - URWICK.

OBJECTIVES :

This lessons deals with various business concepts and different business environments
together with areas of social responsibilities. It also explains different objectives of business
determinants and qualities of a businessman.

After completion of this Lesson you will be able to

* Understand different concepts of business and business environment.
* Indentity the major areas in social responsbilities of business.
* Describe the determinants of business objectives.
* Explain the qualities of a business.

STRUCTURE :

2.1. Introduction
2.2. Old concept of Business
2.3. Modern concept
2.4. Rationale of Business
2.5. Survival needs of Business
2.6. Business environment
2.7. Areas of Social responsibilities
2.8. Political
2.9. Technical
2.10. Human objectives
2.11. National objectives
2.12. Integrated groups
2.13. Determinants of Business
2.14. Qualities of a Businessman
2.15. Check your progress (A) & (B)
2.16. Summing Up
2.17. Model Answers
2.18. Model Examination Questions
2.19. Glossary
2.20. Recommended Books
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2.1. INTRODUCTION :

In the previous lesson we have dicussed economic activities related to production and
exchange of wealth. We also studies different types of industries and trade that emphasized
the role of commerce and how it is to be used in removing several hindrances in the process
of exchange of goods and services.

The present lesson deals with varieties of business concepts and business environment
depends upon different internal and external forces viz., Economic, Social, Political, Technical
etc. This also designed to identify the areas of social responsibilities namely towards owners
of enterprise, towards consumers, towards employees, towards society, towards Government,
towards weaker sections and towards framing of economic policies and others.

2.2. OLD CONCEPT OF BUSINESS :

Business is an economic activitiy. The main object of a business is to make profit. The
idea of profit has been inseparably linked up with it. To a large extent this is true. But it has
been found that a truly successful business cannot afford to keep profits as its sole objective.
According to Hany ‘Men do not, as generla thing, enter business for their health, but for the
purpose of making money, and as a rule, money making involves the production of things
which men desire’. Profit is to say a symptom of good business health. If, in normal times,
profits are fair enough and show an upward trend, it can be taken as an indication of the fact
that the community appreciates the services rendered by the business house. At the same time
a firm has to try to avoid losses. This is necessary. If the business runs into loses the firm
cannot continue for long. Its closure may hit the various sections of society viz., the proprietor,
the workers and so on. If the firm is rendering some useful services, it owes it to the society.
As Peter Drucker explains it, “the problem of any business is not maximization of profit but
he achivement of sufficient profit to cover the risks of economic activity and thus to avoid
loss”. The classical economists do not agree with this. They plead that profit is not the object
of business but it is the result of a business. The real object of business is to render services
to the community by supplying necessary goods of quality at the minimum possible prices.

2.3. MODERN CONCEPT :

In the olden days the chief object of business was profit maximization at any cost.
Thus business was regarded as an end itself with economic power and money chasing were
the primary objectives of business. Business is more than a mere individual or organizational
activity. It is an institution, an important sector of the economy and an organ of the society.
In this sense, business covers the whole complex field or what is called industry and commerce-
the sum-total of the enterprises engaged in the production and distribution of goods and
services as also the institutions that facilitates the growth of economy. The modern business
enterprise is a social and economic institution. It is not an end but a valuable means to achieve
an end viz., the human welfare and public good. It touches every aspect of our lives. Peter
13
Drucker points out that there only one definition of business purpose. “To create customer. It
is the customer who determines what a business is.... Hence the first function of every
business is to secure and retains customers. The customer is the master and to serve him well
is the only purpose of business. Modern business aims at profit through service and not profit
irrespective of service and satisfaction of customer, employees, and society in general. A
business is an organ of growth, expansion and change in economy. This function is performed
by business through innovation. That is the provision of better and more economic goods and
services.

2.4. RATIONALE OF BUSINESS :

In the beginning profit concept was replaced by “profit-cum-service” at present the

concept of profit-through service is the popular and widely accepted basic or core objective
of modern business.

The above statements and beliefs, however, do not mean that a business has nothing
to do with profit or profitability. It simply reflects a change in the attitude. So profit is not
taken to be the object but the result of business. Profit as an instrument for testing the success
or otherwise of the business operations are also duly recognised. It has been rightly said. “This
does not mean that profitability is not the purpose of business enterprise and business activity,
but limiting factor on it. At the same time it must safeguard the interests of the suppliers,
financiers, and all the rest of these with whom it develops dealing in the course of its normal
basis.

2.5. SURVIVAL NEEDS OF BUSINESS :

The main object of a business is to make profit. If there is no profit motive men may
not enter into business. The businessmen work for gain and money making is their goal. There
may be several non-monetary objectives of a business. It may be to gain social prestige, to
have more power, attain better, status in the society, or to have the joy of achievement or even
to serve community etc.

Business is an important branch of human activity. It is both economic and social

activity. Firstly, business is an economic activity but its objective is not to meet the expectations
of different sections of the people in the society. Secondly, business is an integral part of the
society. The objective of business should be the objective of the society. Then only there exists
a good and harmonious relationship between the business and the society. In the words of
Henry, “A business consists of manufacturing those goods, which the community wants, at a
price which the community can pay”. It is also observed that a truly great business can be built
up only if the objective of service to the community is constantly kept in view. If this is
ensured, profit will come automatically. But if the whole emphasis is on profits, business may
not succeed in the long run. In fact business is an activity carried on by the people
(entrepreneurs), through the people (employees) for the people (consumers and the society at
large). Therefore, the object of business organisation should be to satisfy different sections of
14
people called stock holders through “wealth maximization concept”, but not the profit
maximization which considers the interest of entrepreneurs alone. Determination of objectives
facilities to understand the nature and scope of business enterprise. The objectives are also
useful in controlling the attitude and behaviour of businessmen and take right decisions.
According to Macfurland, objectives of a business refer to “the responsibility, the purpose,
which any business organisation is intending to achieve”.

2.6. BUSINESS ENVIRONMENT :

Physical and social conditions that influence an individual or a community can be

called environment. Business environment is the totality of conditions within which business
operates. It is the total of all things external to firms that affect them. The elements of
environment are economic, social, human, national and technical objectives.

a. Economic : This includes the whole economy, the various economic institutions as
well as other organizations with which a business firm has to deal. Basically business is an
economic activity. Therefore, its main economic objectives will be as follows.

i. Profits : the ultimate objective of an business organisation is to earn profit. It is an

important parameter to the success of business. It is for the simple reason that, its
survival, growth and expansion are basically dependent on its profit. However, in
public sector undertakings, profits may be aimed at generating sufficient resources to
finance the same business or other important social needs. Peter Drucker remarks that
“the problem of any business is to the maximization of profit, to cover the risks of
economic activity and thus avoid loss”.

ii. Creation of customers : the primary objective is to identify the unexpected needs
and tastes of the customers. The efficiency of the producer to supply these needed
goods and services at an appropriate time to the markets for making profit. Survival
and growth of the business depends on the demand for the goods and services provided
by it. The demand in turn depends on the consumer’s need. Without consumers, the
business cannot exist. Therefore, it is for the business to create its own customers.

iii. Innovation : the environment around is ever changing, the needs and wants of
human beings and their preferences are undergoing change. This is rightly explained
in this modern age as the age of discontinuity. With the introduction of very new and
innovative product, the existing product will disappear from the market. This is a
continuous process. These revolutionary and radical changes are the manifestations of
innovation. New and improved goods, new methods of production, new technologies,
new resources, new styles are all the examples and factors responsible for the innovation.
Products like human beings too have their own life cycles. They undergo different
phases in the life cycle and are to be abandoned when demanded for their declines.
Unless, new and improved products are introduced in their place the organisation
cannot survive. This is the essence of innovation. Thus every business organisation
has to keep these things in mind and formulate their objective.
15
b. Social : According to Prof.Andrews, by social responsibility we mean the intelligent
and objective concern for the welfare of society. It restrains individual and corporate behaviour
from ultimately destructive activities. It should lead in the direction of positive contributions
to human betterment. Thus the responsibility of business involves the pursuing of such policies
then taking of such decisions or the following of such lines of action as are desirable in terms
of the objectives and values of society. The segment consists of consumers, employees and
social institutions that get benefit from the business or bring benefit to it. Business is a branch
of society. Man lives in society. A society is nothing but a group, a very large group. Man’s
life is full of group activities. Business is a kind of group activity. Society means a nation then
social development means higher standard of living for a nation by achieving higher national
income. Since income is earned through business or money-earning activities, business has a
significant role to play for social development. In fact, economic activities are responsible for
social development and business is applied economics. Business plays its role for social
development otherwise it cannot thrive and grow unless the customers are satisfied. ‘Sovereignty
of the consumers’ is one of the major criteria of competition. Even a monopolist has to satisfy
the consumers, otherwise they may go for substitutes. The obligations or responsibilities of
a businessman are as follows :
i. To his customers :

a. To supply quality goods at reasonable and fair price.

b. Not to mislead the customers by false advertisements.

c. Not to take recourse to any adulteration, hoarding, short weight or such other
malpractice for higher profits.

d. To look into the complaints of the customers, if any.

In practical life, a businessman generally does not do any thing that will cause
dissatisfaction of customers. The government also takes various regulatory measures
to stop exploitation of customers by businessmen. The consumers themselves may
form into Consumer’s Association to establish their rights. When the market is seller’
market, i.e., there is short supply of goods, the businessmen may ignore the interests
of the customers. On the other hand, when there is buyers’ market, i.e., there is excess
supply and the situation becomes opposite. Sometimes the obligation appears to be
contradictory. For Example, quality goods cannot be supplied unless the price is
proportionate. The term reasonable is vague.

ii. To the workers : A businessman has to engage employees. Manufactures have to

employ workers. As a whole, a businessman has the following responsibilities or
obligations to his employees.
a. To pay reasonable remuneration, either salary or wages.

b. To provide various incentives in the form of premium and also profit bonus.

c. To pay the remuneration in time.

16
 d. To look after the welfare of the employees and to provide them fringe benefits.

e. Conditions to motivate them.

f. To provide them with opportunities for further education and trailing.

g. To maintain better employer-employee relations.

2.7. AREAS OF SOCIAL RESPONSIBILITIES :

The social obligations to be discharged by the business enterprise to the various

segments of society are as follows :
i. Towards owners of enterprise :

a. Payment of dividend regularly and maximization of owner wealth i.e., the net
present value of business through effective management.

b. The ensuring of the full participation of owners in the management of the affairs
of the company.
c. The arresting of the tendency towards the growth of oligarchic management.

d. Accessibility of Board of directors to the members of the public representing

various interest groups.

e. Disclosure of activities which affect environment and social issues, and

f. The supplying of accurate and comprehensive reports giving full information

about the working of the enterprise.
ii. Towards consumers : The responsibilities of a business enterprise towards the
consumers of its products are :

a. The supply of unadulterated and quality products.

b. The ensuring of the availability of products in right quantity at right place and
at right time.
c. The changing of reasonable price for the products.

d. The provision of goods after sales service.

e. Truthful and consumer oriented advertising.

f. The using of correct measures.

g. Avoidance of restrictive trade practices.

h. The encouraging of the formation of consumers’ associations and consumers,
advisory councils and the maintaining of a close link with them.

17
 i. The promoting of consumer satisfaction and welfare and

j. The developing of appropriate products and services for satisfying consumers

needs and wants.

iii. Toward Employees : Some of the responsibilities of a business enterprise to its

workers are :

a. Security of job with fair wages, bonus, profit sharing etc.

b. Equal opportunity for growth and development within the company.

c. Fair promotional practices.

d. Employ welfare and social security.

e. Providing of opportunity to the workers for the improvement of their education,

training and the up-grading of skills for their developments.

f. Encouraging of workers to participate in the management and the giving of

representation to them on the decision making bodies.
g. Providing good working conditions and improvement of occupational health and
safety.

h. The encouraging of the development of good trade union leadership.

i. Development of human potentiality and

j. The changing of the attitutde of the management, if needed in order that it may
realize that it is the management of men and not of machines.
iv. Towards Society : To obligations of a business enterprise to society are as hereunder:

a. To produce goods and services efficiently and contribute to the economic well
being of the soceity.

b. To optimize the use of resources.

c. To adopt social marketing i.e., marketing aiming at social welfare.

d. To adopt anti-pollution measures.

e. To grant aid to social welfare programmes.

f. To maintain environmental ecology and

g. To under take social forestry.

v. Towards Government : The obligations of a business enterprise to the Government

includes.

a. The payment of tax to the government regularly and honestly.

18
 b. Strict observance of the provisions of various laws and

c. Extension of full support to the government in implementing its policies and

programmes for solving national problems such as the unemployment, regional
imbalance and inflation.

vi. Towards Weaker Sections : The obligations of a business enterprise to the weaker
sections of the society are as follows :

a. It should take steps to train unemployed persons.

b. It should help development of the weaker sections by providing them equal
opportunity for growth and

c. It should extend support to voluntary organizations working for the welfare of

the weaker sections.

vii. Towards economic policy : An enterprise should sub serve the national policy of
establishing small business and egalitatian social order by encouraging the adoption
of appropriate technology and by aiming at import substitution and self-reliance and
dispersal of economic activity.

2.8. POLITICAL :

The political institution of the country including the Government and Legislature that
assume the responsibility for regulating the activities of business and receive funds from
business firms. The Government earns a major part of its revenue from the various kinds of
taxes and duties collected from the business world. Moreover, Government itself makes
income from Government undertakings. Revenue is badly need for administrative developmental
and defence expenditure. Business people also largely subscribe to Government securities. In
mixed economies, where both public and private sectors co-exists, profit is not allowed to the
chief objective. In India, which follows mixed economy, it is widely recognised by the business
managers that emphasis on only the maximization of profit will misdirect the business enterprise
has to keep social objectives in view. If a business enterprise does not fulfil its social obligations
it will be forced to do so by the Government sooner or later.

2.9. TECHNICAL :

This segment consists of technical know-how and production and management

technology available to business organizations at any point of time of over a period of time.

2.10. HUMAN OBJECTIVES :

Human factor plays a very significant role in the process of business indifferent contexts
and in different forms. It is human efforts of different types, their zeal, and commitment,
loyalty, determination, willing cooperation, which are responsible for achieving organizational
19
goals. It is possible to get willing cooperation from all the sections of human beings in the
context of business interest of employees, managers, entrepreneur’s etc., only when their
expectations are met by the business organization. Some of the important human objective is
i. reasonable remuneration and benefits to employees.

ii. development of human resources.

iii. participation in decision making, and job satisfaction, etc.

2.11. NATIONAL OBJECTIVES :

While social objective are general nature, the national objectives are special significant
for business plays a significant role in the implementation of national plans, priorities and
interests. In a democratic country like India social justice and growth with stability are the
major national goals. The other national objectives include (1) Development of small-scale
industries, (2) Production according to national priority, (3) National self-reliance, (4)
Development of exports and (5) Development training of skilled personnel. Thus business is
an institutional set-up by society to regulate the behaviour pattern of individuals and groups
engaged in economic activity. It must always function under the influence of social norms.

2.12. INTERESTED GROUPS :

Various groups that have a stake in the business help and contribute to the firm’s
continuity and prosperity and in turn claim a return in different forms from the firm. These
stakeholders consists of consumers, employees, stockholders, creditors, suppliers and distributors
and the Government. A business firm’s continuity and prosperity depend upon its relations
with all these interest groups. The following diagram indicates the relations of business firm
with different interest groups that constitute its stakeholders.

Government Competitors

Employees THE BUSINESS Suppliers

Creditors FIRMS Distributors

Customers Share Holders

Diagram : Interested Stake Holders

Various groups are interested in the working of a business enterprise. It needs to have
a multiplicity of objectives in order to reconcile the conflicting interests of the stakeholders
and to ensure harmony in its dealing with them. According to Peter Drucker, a business firm
should have the following objectives. There are :
20
A. Creation of public markets (Market Standing) : Every business should have the
objective of creating a profitable market. This can be achieved by attracting customers.
According to Roger Falk, “Customer is the foundation of all business and business is
for the most part the creation of customers”. As the fate of business depends on the
customers, the businessman should establish his standing in the market by constantly
searching for customers who have the desire and capacity to pay for his products.

B. Productivity : To achieve the objective of productivity the firm should use its resources
in the best possible way and secure the greatest possible output with the minimum
output.

C. Adequate Physical & Financial resources : Another objective of business is to

secure adequate physical and financial resources so as to be able to supply the goods
and services needed by the customers.

D. Adequate returns on the capital : Yet another objective in the earning of adequate
profit for expansion and growth of business enterprise. Profit is essential for the
survival of business and also for the rendering of a distinct service to the community.

E. Development of human resources : In the efficient management of a business

enterprise, the human factor plays an important role. The development of human
resources will act as a Catalyst for the other sources they influencing the performance
of the business unit in other areas. Hence efforts should be made by the businessmen
to develop human resources.

2.13. DETERMINANTS OF BUSINESS :

In the contemporary business world the process has become complex. Reasons for this
may be two folds. On one hand the change in preferences of life-styles and purchasing power
of customer, and technological changes on the other hand. Thus managing a business becomes
not only difficult but also risky. To withstand and meet the challenges of the business goals,
it is essential to keep certain determinant factors responsible for the successful organisation
of business activity. They are :

a. Determination of objectives : The basic requirement of any business is to determine

the objectives. Objectives serve as standards against which performance is measured.
The setting of goals and their acceptance by employees promote voluntary cooperation
and coordination. The objective stand out as guide lines for organizational performance.
The objectives should be accurate. Objectives should be realistic and flexible. While
determining the objectives, the interest and aspirants of the owner’s economic resources,
competition, Government policy, consumer preference etc., are to be taken care of.

b. Setting Planning : To achieve the set objectives systematic plan and organisation
structure has to be planned. The structure has to be planned. The structure and the size
of the organisation should be optimum and well equipped to make use of the resources.

21
c. Finance : It is instrumental in giving a practical shape to the business dreams and
achieving business objectives. The size of the business will determine to a larger
extent, about capital quantum required by an organization. Short, long and medium
term finance is to be catered as per the need of the organization.

d. Location Factors : Location factors are important for particularly to the manufacturing
industries. Factors such as the volume of production, technical, managerial, marketing
factors etc., will influence the business location and layout of organizations.

e. Research and Development : In the modern world product changes are taking place
very rapidly. There are many factors responsible for this. It is only that organization
can survive in competition of changes by formulating its strategies to scope up with
the situation. It is only possible through setting up a well-equipped research and
development wing in the organisation. R&D will safe guard to withstand against
innovation and also to prevent from the stage of decline the product.

2.14. QUALITIES OF A BUSINESSMAN :

A businessman is a person who does business. He may be manufacturer, trader or

provider of service. For the successful business organisation he should posses the following
Qualities.

a. Modern businessman should have certain expectations, so that he can work towards
the attainment of them. This can be seen from the life profiles of industrialists like
Tata, Birla and others. They have achieved the higher level goals set certain qualities,
values, ideals, commitment, strong will etc. Generally, profit motive is the objective
of every organisation. But it need not resort to unfair practices in the process of
making profits. The businessman has to understand the role and contribution of different
sections of the society such as the employees, the customers, Government etc., and try
to meet their expectations and aspirations.

b. Industrial revolutions and depressions provided certain experiences to the business

people. This made the businessman to realize the importance of the interests of the
other sections like customer, employees and others. It is this foresightedness has made
responsible for the growth of modern activity of business.

c. Initiative, risk taking is the important quality of a successful businessman. This quality
drives towards the attainment of long-term and short-term objectives. Right decision
making at appropriate time is an essential qualtiy of a businessman. The attitude,
behaviour, expectations, aspirations and the activities of a businessman should be
accurate and stable.

d. Business ethics is important that includes honesty, social responsibility. It means ensuring
the supply of quality goods at reasonable prices to customers, paying taxes to the
Government regularly and promptly establishing sound business process etc., are all
part of the business morality.
22
e. Every successful businessman should have sound personal qualities. These include
leadership, efficiency, integrity, training, distinct personality, commonsense, self-
confidence etc.
f. The difficulties that are encountered in the process of setting new enterprises can
broadly be classified into the following categories.

i. Product survey and analysis.

ii. Location of the plant.

iii. Determinant factors relating to organisation structure and size of the Plant
technology to be used.

iv. Feasibility report and financial planning and

v. Provision of physical facilities etc.

2.15. CHECK YOUR PROGRESS (A) :

What do you mean by social responsibility of business?

........................................................................................................................................................................
.......................................................................................................................................................................
...........................................................................................................................................................................
.................................................................................................................................................................................

CHECK YOUR PROGRESS (B)

Write short answers : Innovation.

........................................................................................................................................................................
.......................................................................................................................................................................
...........................................................................................................................................................................
.................................................................................................................................................................................

2.16. SUMMING UP :

The purpose of the business is not just to earn profit but to serve the different group’s
connected with this business activity. The business, to a major extent depends upon the
coordination between the business unit and its environment. It is through the objectives,
nature and size of business and its scope can be understood. Objectives are vital for the
survival and growth of the business enterprise. The interested groups in the business are
customers, shareholders, employees, distributors, creditors, suppliers, competitors and finally
the government. The business apart from serving the interested groups, it should have some
objectives like maintain productivity, creation of market providing financial resources for the
business etc. Determinants of well-defined objectives lead to unity cooperation and control in
23
the organisation. Since, business is an internal part of the society, the objectives of business
should try to meet the expectations and aspirations of different sections. The business in the
modern times has different perspective of having the social responsibility for its business.
Social responsibility is nothing but promoting the welfare of the society as a whole along wtih
its own interest. The need for social responsibility is an important issue to be considered for
the purpose of social development. In the olden days business was only for the earning profit.
In the present days there are people’s representatives elected to serve the needs of the public
and protect the interest of the society. Since, different aspects of the society change continuously,
as a branch of the society, business objective should also be flexible and subject to changes.
In the ever-changing environment, to attain the objectives of the business, enterprise holds
possess certain conditions. These include determinants of objectives, proper location, layout
adequate finance, Research and Development and effective leadership etc. The businessman
should posses certain qualities that help him to run the business successfully. These include,
foresight, initiative prompt decisions, business ethics, and personal qualities etc. Setting up of
a new venture concern involves many effort and full of risks and uncertainities. Therefore, it
is essential to analyse all those factors that influence the setting up of a new enterprise very
carefully, systematically and scientifically.

2.18. MODEL ANSWERS :

a. The social responsibility of business refers to such decisions of a business concern that
promote the welfare of society as a whole along with own interst. The buses concern
acts in such a manner that it will realize social gains along with the traditional economic
gain which the business concern seeks. According to Andrews, by social responsibility
we mean the intelligent and objective concern. This is for the welfare of society that
restrain individual and corporate behaviour from ultimately destructive activities, no
matter how immediately profitable, and leads in the direction of positive contributions
to human exterminate variously as the latter may be defined. Thus the responsibility
of business involves the pursuing of cash policies, the amazing the such decisions or
the following of such lines of action as are desirable in terms of the objectives and
values of society.

b. Innovation may take place several forms viz., (1) Improvement in the productive
process results in the lowering of cost of production and the price. (2) Devising of new
and better products. (3) Finding new uses for a product and (4) creating of new wants.
In the beginning profit concept we replaced by “profit-cum-service”. At present the
concept of PROFIT-THROUGH SERVICE” IS THE POPULAR AND WIDELY
ACCEPTED BASIC OR CORE OBJECTIVES OF MODERN BUSINES.

2.19. MODEL EXAMINATION QUESTIONS :

1. Give brief explanation of the economic and social objectives of business.

2. Explain in detail the social responsibilities of business towards its employees, customers
and the community at large.
24
3. Discuss different business objectives.

4. “Setting up of new business enterprises is like giving birth to infants” Discuss.

5. “Business is not for profit” Comment.

6. Explain the various factors that are to be analyzed while setting up a new business
organisation.

WRITE SHORT ANSWERS TO THE FOLLOWING :

1. What is business environment?

2. Qualities of a good businessman?

3. Necessity of leadership in business.

4. Requisites of a successful business.

2.20. GLOSSARY :

Business Environment : The sum totals of physical and other factors that influence
a business and is influenced by it.
Social Responsibility : It refers to such decisions of a business concern that promote
the welfare of the society as a whole along with its interests.

2.21. RECOMMENDED BOOKS :

1. Bhushan Y.K., “Fundamentals of Business Organisation and Mangement”, Sultan Chand

& Sons, New Delhi, 1978.

2. Howen, H.R., “The social responsibilities of Business”, Marper and Row, New York,
1953.

3. Krishna Swami O.R., “essentials of Commerce”, Eagle Press Publication Division,

Madras, 1978.
4. Reddy, P.N. & Gulshan, “Principles of Business Organisation and Management”,
S.Chand & Sons, New Delhi.
5. Steinor George, “Business and Society”, Random House, New York, 1971.

6. Wheeler, D.O., “Business : An introduction Analysis”, Harper and Row Publishers,

New York.

*****
25
 3. ENTREPRENEURS

OBJECTIVES :

After completion of this Lesson you will be able to

* Prsent the concept, meaning and definition and characteristics of entrepreneur.

* Understand the working profile of an entrepreneur.

* Explain the types of entrepreneurs.

* Describe the functions an entrepreneur.

* Distinguish between entrepreneur and manager.

STRUCTURE :

3.1. Introduction

3.2. Concept and meaning of entrepreneur

3.3. Defintion of Entrepreneur

3.4. Characteristics

3.5. Working profile

3.6. Types of Entrepreneurs

3.7. Functions of Entrepreneurs

3.8. Distinction between entrepreneur and manager

3.1. INTRODUCTION :

This lesson focusses attention on the concept and meaning of an entrepreneur and its
definition. It discusses the various characteristics of an entrepreneur. The types of different
entrepreneurs and the variety of functions carried out by them. The distinction between an
entrepreneur and the manager is also included in this lesson.

3.2. CONCEPT AND MEANING OF ENTREPRENEUR :

The word ‘entrepreneur’ is derived from the French word ‘entreprendre’ which means
‘to undertake’. The word has an interesting history starting from French language till date. In
the early 18th century, R. Cantillon, an Irishman living in France, was the first person to use

26
the term entrepreneur as a person who buys factor services at certain prices with a view to
sell its product at uncertain prices in future. He conceived of an entrepreneur as bearer of
‘non-insurable risk’. According to Cantillon, entrepreneur carried on production and exchange
of goods at some risk, facing the possibility of bankruptcy, when the demand for thier product
was depressed. He also emphasised that the entrepreneur was unaware of the eventual price
which he would receive for his product. J.B.Say, another Frenchman, expanded Cantillon’s
ideas and conceptualised the entrepreneur as an organiser of the business fim, central to its
distributive and productive functions.

3.3. DEFINITION OF AN ENTREPRENEUR :

Many definitions can be found in the literature. The webster’s new world dictionary
defines an entrepreneur as “one who organises a business understanding assuming the risk for
the sake of the profit.

According to Francis A. Walker, “the true entrepreneur is one who is endowed with
more than average capacities in the task of organising and coordinating the various factors of
production. He should be a pioneer, a captain of industry. The supply of such entrepreneurship
is however quite limited and enterprise in general consists of several grades of organisational
skill and capability. More efficient entrepreneurs receive a surplus reward over and above
managerial wages and this sum constitutes true profit ascribable to this superior talent.
Peter F. Drucker defines an entrepreneur as the one who always searches for change,
responds to it and exploits it as an opportunity. Drucker states that innovation is the specific
tool of entrepreneurs, the means by which they exploit changes as an opportunity for different
business or service.

3.4. CHARACTERISTICS OF AN ENTERPRENEUR :

An entrepreneur should possess all such characteristics with the help of which he can
perform as a successfully. Most common attributes of an entrepreneur can be courage, good-
judgement, initiative, skillful, competent, perseverance and emotional stability. Let us discuss
these characteristics in details.

1. Calculated Risk-taker : A risk situation occurs when one is required to make a choice
between two or more alternative whose potential outcomes are not known and must
be subjectively evaluated. A risk situation involves potential gain or loss. The greater
the possible loss, the greater is the risk involved.

2. Innovator : Schumpeter differentiates between an inventor and innovator. An inventor

discovers new methods and new materials and an innovator is the one who utilizes
those discoveries and inventions. Not only this, the entrepreneur further exploits the
inventions commercially and thus produces newer and better goods which give him
profit and satisfaction.

27
3. Organiser : An entrepreneur has to bring together various factors of production,
minimise losses and reduce the cost of production. Initially, he may take all the
decisions but as the enterprise grows, he starts delegating the authority. He produces
that best results as an organiser.

4. Creative : Creativity, as a field knowledge, seeks to explain how humans, either

individually or collectively, reach solutions that are both novel and useful. Innovation
means the effort to create purposeful ventures.

5. Achievement Motivated : Achievement motivation is a drive to overcome challenges,

to advance and to grow. An entrepreneur is achivement-oriented person, not ‘money
hungry’. He works for his desire for challenge, accomplishment and service to others.
6. Technically Competent : Success of an entrepreneur depends largely upon his ability
to adopt latest technology. Technical knowledge implies the ability to devise and use
new and better ways of producing and marketing goods and services. An entrepreneur
must have a reasonable level of technical knowledge. Technical knowledge is the
ability that people can acquire with hard work.

7. Self-confident : It is necessary for an entrepreneur to be self-confident. He should

have faith in himself, only then he can trust others.

8. Socially Responsible : In the context of the universal urge for social change and
economic development, the old concept of an entrepreneur seeking certain advantages
for himself is no longer acceptable. The changing environment calls for a socially
conscious entrepreneur who is not threatened by progress of others. On the contrary,
he acts in full awareness of social repercussions of his actions.

9. Optimistic : An entrepreneur should approach his task with a hope of success and
optimistic attitude. He attempts any task with the hope that he will succeed rather than
with a fear of failure. Such a hope of success enhances his confidence and drives him
towards success.

10. Equipped with capability to Drive : Drive is a person’s motivation toward a task.
It comprises of such personality traits as responsibility, vigour, initiative, persistence
and ambition. An entrepreneur must exert considerable effort in establishing and
managing his business. Those entrepreneurs who work hard in planning, organising,
co-ordinating and controlling their business are more likely to hve a successful business
than the entrepreneur who is lost and haphazard.

11. Blessed with Mental Ability : Mental ability that contributes to the success of an
entrepreneur consists of overall intelligence, i.e., IQ, creative thinking ability and
analytical thinking ability. An entrepreneur must be intelligent, adaptable, creative and
he must be able to engage in analysis of various problems and situations in order to
deal with them.

12. Human Relations Ability : Personality factors such as emotional stability, personal
relations, sociability, consideration and tactfulness are important contributors to
28
 entrepreneur’s success. One of the most important facets of human relations ability is
one’s ability to “put himself in someone else’s place” and to know how the other
person feels. This is the ability to practise empathy.
13. Communication Ability : An entrepreneur must possess the quality of communicating
effectively in written and oral communications. Good communication also means that
both the sender and the receiver understand and are being understood.

14. Decision-Making : An entrepreneur must be clear and creative when it comes to

decision-making. He must believe in himself and should be possessing ability to take
decisions effectively. Decisions taken should be based on quantitative facts. Decisions
which affect organisation’s future and are likely to be irreversible must be taken with
great care.

15. Business Planning : The decision to become an entrepreneur is the first step followed
by the choice of the product. As the business venture is undertaken, need for planning
arises. It is the rigor and thoroughness of the business plan which could be behind the
successful entrepreneur throughout his venture’s life.

3.5. WORKING PROFILE OF ENTREPRENEURS :

Entrepreneurs are people who have the ability to see and evaluate business opportunities;
to gather the necessary resources to take advantage of them; and to initiate appropriate action
to ensure success.

Entrepreneurs are calculated risk takers, they enjoy the excitement of a challenge, but
they do not gample. Entrepreneurs avoid low-risk situations because there is a lack of challenge
and avoid high-risk situations because they want to succeed. They like achievable challenges.
The following list of characteristics and traits provide a working profile of entrepreneurs.
-------------------------------------------------------------------------------------------------------------------
CHARACTERISTICS TRAITS
-------------------------------------------------------------------------------------------------------------------
Self-confidence Confidence, Independence, Optimism, Individuality.
Drive Responsibility, Vigour, Initiative, Persistence, Ambition.

Task-result oriented Need for achievement, Profit-oriented, Energy.

Risk-taker Risk taking ability, likes challenges.

Mental Ability Overall intelligence (IQ), Creative thinking, analytical thinking

ability.

Leadership Leadership behaviour, gets alongwith others, responsive to

situations, criticism.

29
Human Relations Ability Emotional stability, Healthy personal relations, Sociability,
Tactfulness, consideration.

Originality Innovative, Creative, Resourceful, Knowledge.

Communication Ability Perceptive, Foresight, Future oriented.

-------------------------------------------------------------------------------------------------------------------

The list includes personality traits which an entrepreneur should possess or have
potential to develop, if he wishes to be entrepreneurial. One may not have all these traits but
more of these one possesses, greater are his chances of being a successful entrepreneur.

Many of these traits are highly inter-related and one need not possess all to be a good
entrepreneur.

3.6. TYPES OF ENTREPRENEURS :

In the initial stages of economic development, entrepreneurs tend to be shy and humble
but as the development process picks up speed, they tend to become more enthusiastic and
confident. They help make the business environment healthy and development oriented. Highly
enthusiastic and innovative entrepreneurs exist only in developed countries as level of their
economic and technological development has reached a certain level whereas in developing
and under-developed countries, imitiative entrepreneurs are more successful.

However, the various types or entrepreneur are classified as under :

1. According to the type of Business :

Business entrepreneurs are those entrepreneurs who conceive the idea of a new product
or service and then translate their ideas into reality. Entrepreneur examines the various
possibilities of sources of finance, supply of labour, raw-materials or finished product
as the case may be.
Business entrepreneur may be undertaking the trading business or manufacturing
business but initially the size of the business is very small. As the entrepreneur flourishes,
he tends to expand his business.

2. According to Motivation :

(i) Pure entrepreneur : Pure entrepreneur is one who may or may not possess an
aptitude for entrepreneurship but is tempted by the monetary rewards or profits
to be earned from the business venture. He is status-conscious and wants
recognition.
(ii) Induced entrepreneur : Induced entrepreneur is attracted by the various
incentives, subsidies and facilities offered by the government.

30
3. According to the Use of Technology :

(i) Technical entrepreneur : The strength of a technical entrepreneur is in his skill

in production techniques. He concentrates more on production than on marketing.
He possesses craftsman skill in himself which he applies to develop and to
improve the technical aspect of the product.

(ii) Non-technical entrepreneur : Unlike technical entrepreneur, non-technical

entrepreneur is not concerned with the technical aspect of the product rather he
spends more time in developing alternative strategies of the marketing and
distribution to promote his business. His target is not to change the production
technique but how to increase the demand of the product in which he is dealing.
(iii) Professional entrepreneur : Professional entrepreneur means an entrepreneur
who is interested in floating a business but does not want to manage or operate
it. Once the business is established, he sells it out and catches on to float a new
business.

4. According to Stages of Development :

(i) First generation entrepreneur : First generation entrepreneur are those

entrepreneurs who do not possess any entrepreneurial background. They start an
industrial unit by means of their own innovative skills.
(ii) Second generation entrepreneur : Second generation entrepreneur are those
entrepreneurs who inherit the family business firms and pass it from one generation
to another.

(iii) Classical entrepreneur : A classical entrepreneur is a stereotype entrepreneur

whose aim is to maximize his economic returns at a level consistent with the
survival of the unit but with or without an element of growth.

5. Classification given by Danhof :

(i) Innovating entrepreneur : Innovative entrepreneurs are generally aggressive

and possess the art of cleverly putting the attractive possibilities into practice.
An innovating entrepreneur is one who introduces new goods, inaugurates new
methods of production, discovers new market and re-organises the enterprise.
He arranges money, launches an enterprise, assembles the various factors, chooses
the competent managers and sets his enterprise go.

(ii) Imitative entrepreneurs : Imitative entrepreneurs are characterised by readiness

to adopt successful innovations inagurated by successful innovating entrepreneurs.
There are also Fabian and Drone type of entrepreneurs. Innovative entrepreneur
is creative, while imitative entrepreneur is adoptive.

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6. According to Capital Ownership :

(i) Private entrepreneur : When an individual or a group of individuals set up an

enterprise, arrange finance, bear the risk and adopt the latest techniques in the
business with the intention to earn profits, he or the group is called as private
entrepreneur/entrepreneurs.

(ii) State entrepreneur : As the name indicates, state entrepreneur means the trading
or industrial venture undertaken by the state or the government itself.
(iii) Joint entrepreneur : Joint entrepreneur means the combination of private
entrepreneur and state entrepreneur who join hands.
7. According to Gender and Age

(i) Man entrepreneur

(ii) Woman entrepreneur

(iii) Young entrepreneur

(iv) Old entrepreneur

(v) Middle-aged entrepreneur

8. According to Area

(i) Urban entrepreneur

(ii) Rural entrepreneur

9. According to Scale

(i) Large scale industry entrepreneur

(ii) Medium scale industry entrepreneur

(iii) Small scale industry entrepreneur

(iv) Tiny industry entrepreneur.

3.7. FUNCTIONS OF AN ENTREPRENEUR :

An entrepreneur has to carry out a combination of functions (like risk taking, innovation,
motivation, organising, controlling etc.) in keeping pace with time and environment. The
entrepreneur has to react to new ideas, new demands, exploit the opportunities and contribues
towards technical progress. Thus, he is a nucleus of high growth of the enterprise.

Schumpeter said that the basic function of an entrepreneur was to innovate. He was
never a risk-bearer. He said that though the basic function of an entrepreneur is to innovate,
this function must always appear mixed up with other kinds of activity.

32
 The entrepreneur performs the function of reducing uncertainty in his plan of investment
and expansion of the enterprise. He also undertakes risk-taking as the specific function of an
entrepreneur.
Decision Maker : Some writers are of the view that the function of the entrepreneur
is to take decisions regarding the activities of the concern. He is expected to take decisions
about the type of business to be done and the way of doing it.

Organisation and Management. Marshall recognised organisation and management

of the enterprise as the important functions of an entrepreneur. When the organisation grows
bigger, the entrepreneur effectively delegates authority and finds responsibility at various
levels of management. But it is the entrepreneur who has to perform the function of expansion
and contraction of the total business and its branches.

The entrepreneur is in essence an institution which comprises of all people required

to perform various functions. The task of such people is to innovate, adjust or combine
various factors of production, and expand on account of change in demand and market
conditions. They must foresee the opportunities and must also be in a position to make
opportunities out of a given situation.
3.8. DISTINCTION BETWEEN AN ENTREPRENEUR AND A MANAGER :

Generally, the two terms, entrepreneur and manager are used interchangeably but they
differ in their meaning.
-------------------------------------------------------------------------------------------------------------------
AREA OF SIMILARITY ENTERPRENEURS MANAGERS
-------------------------------------------------------------------------------------------------------------------
1. Status An entrepreneur is the owner of A manager is just an employee
his enterprise. He makes his own in the enterprise which is owned
investment and owns his business. and run by entrepreneur.

2. Target The main target of an entrepreneur The main goal or motive of a

is to start his venture by setting up manager is give his services to
as a sole-trader or firm or a company. an enterprise set up by someone
He sets his own goals and strives else i.e. an entrepreneur.
to achieve them.

3. Decision making All of the policies and strategic While all those managerial,
decisions, like those comprising operationl decisions which would
of expansion, diversification, take- have impact on the short-and
overs, mergers, capital budgeting medium-term results are taken by
affairs, pricing policy etc., are the managers.
taken by the entrepreneur.

4. Rectification of wrong The wrong decisions taken by the Whereas the wrong decisions
decisions entrepreneur may not be rectificable taken by the manager can be
and may result in losses or even amended and rectified by the
closure of the unit. entrepreneur.

5. Innovation An entrepreneur innovates and A manager is merely an officer

exploits his innovation commercially. or an executive who is appointed
33
 He keeps on changing the factors for the promotion of the unit. He
combination in order to increase simply implements the plans
profit and productivity. He acts an prepared by the entrepreneur and
innovator also called a ‘change-agent’. gives then practical shape. He is
just a product of change.

6. Risk bearing An entrepreneur being the owner of A manager doesn’t bear any risk
his unit undertakes all risk and because he is paid fixed salary.
uncertainity of running his enterprise.

7. Skills The skill expected from an Whereas manager depends on

entrepreneur is in the form of public dealing abilities and
creativity, innovation, desire for conceptual abilities.
high achievement, intution etc.

8. Qualification An entrepreneur doesn’t need to On the other hand, a manager

have distinct degree from a reputed now a days need to posses degree
university. Rather qualities like in the stream of management
foresightness, risk-taking, hard work, theory and practice. He has to
creative thinking etc., are more appear for an interview to get a
important. job.

9. Rewards The reward of an entrepreneur is the A manager gets his monthly

profit earned by him. Entrepreneur salary as his reward for the
reward in uncertain and variable. services rendered by him. And
Higher the profits, better the rewards his rewards are certain & fixed
and vice-versa. and regular.

-------------------------------------------------------------------------------------------------------------------

3.9. SUMMARY :

The meaning of an entrepreneur has been defined by militarymen, economists,

psychologists and sociologists. In Indian context, we define entrepreneur as one who launches
his own venture whereas a pure entrepreneur is the one who brings about any innovation
never occurred before. An entrepreneur doesn’t have specific features. An entrepreneur could
be a sensistive person, fat, thin, worrier, creative, competent, leader, social but some key
qualities have been identified which every entrepreneur must possess in order to succeed.
Those qualities are innovation, risk-taking, hard-work, self-confidence, goal-setting and above
all, their burning desire to excel. An entrepreneur is not a package of qualities. Different
entrepreneur exhibit different traits. There are various types of entrepreneur like business
entrepreneur, trading entrepreneur, industrial entrepreneur, pure entrepreneur, induced
entrepreneur, technical entrepreneur, non-technical entrepreneur, professional entrepreneur,
first generation and second generation entrepreneur etc.

An entrepreneur performs various types of functions. Growth of his enterprise depends

upon the way, he performs various functions like innovation, risk-taking, decision-making,
organisation and management.

34
3.10. MODEL EXAMINATION QUESTIONS :

1. Define the concept of an entrepreneur. Also discuss his characteristics.

2. What is a Business Plan? Is it essential to make a business plan. If yes, why?

3. Who is an entrepreneur? Discuss and distinguish between characteristics and traits.

4. How would you classify different types of entrepreneurship.

5. An entrepreneur has to carry out a combinations of functions. In this light, discuss

various functions to be performed by an entrepreneur.

SHORT QUESTIONS

1. Functions of entrepreneur.

2. Entrepreneur.
3. Risk and Uncertainty.

4. Types of Entrepreneur.

5. Meaning and concept of entrepreneur.

6. Entrepreneur and manager.

3.11. BOOKS RECOMMENDED :

1. Renu Arora and S.K.Sood, Fundamentals of Entrepreneurship and Small Business,

Kalyani Publishers, New Delhi, 2003.

2. Khanka, S.S., Entrepreneurship Development, S.Chand & Co., New Delhi, 2002.
3. Gupta, C.B. and N.P.Srinivasan, Entrepreneurial Development, Sultan Chand & Sons,
New Delhi, 1993.

4. Rathore, B.S. and J.S.Saini, A.Hand book of Entrepreneurship, Aapga Publications,

Panchkula, 1997.

*****

35
 4. SOURCES OF FINANCE

OBJECTIVES :

After reading this lesson you will be able to

* Learn about capital, its requirements.

* Know about short and longterm finances and financial institutions.

* Understand overcapitalisation and under capitalisation and their evils.

STRUCTURE :

4.1. Introduction

4.2. Requirements of Capital

4.3. Classification of Capital

4.4. Types of finance

4.5. Sources of Long term finance

4.6. Some of the important financial institutions

4.7. Short term and medium term finances

4.8. Capitablisation - over capitalisation and under capitalisation

4.9. Evils of over capitalisation

4.10. Evils of under capitalisation

4.11. Self - Assessment questions

4.1. INTRODUCTION :

“Money plays many things” is the right statement when we take into account the role
played by it in the formation of Industrial Units. It is apt to say that “finance is the life blood
of industry”. To start a company, a large amount of capital is necessary. Capital is required
for two purposes : one is to acquire fixed assets and the other is for meeting the day to day
expenses. The actual amount of money required depends upon the nature of the industry and
the magnitude of the business.

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4.2. REQUIREMENTS OF CAPITAL :

The factors that determine the requirements of total capital are as follows :

i. For purchasing fixed assets : Capital is required for purchasing fixed assets such as
land and Buildings, Plant and Machinery, Furniture and Fittings and also for vehicles
and other equipment.
ii. Cost of Promotion : This includes all expenses incurred for, preliminary investigation,
legal expenses and market surveys etc.

iii. Cost of Financing : Expenses such as brokerage, underwriting commission, expenses

on securing finances etc.

iv. Cost of tangiable assets : Amount to be paid for tangiable assets such as goodwill,
copyrights, patents etc., influence the requirements of capital.

4.3. CLASSIFICATION OF CAPITAL :

Capital is divided into two categories.

1. Fixed Capital, 2. Working Capital.

4.3.1. Fixed Capital :

This capital is the amount of money which is required to create production facilities
through purchase of fixed assets such as Land and Buildings, Plant and Machinery
furniture and fittings etc. The Capital invested in these assets indicates fixed capital
which is locked for long period of time. These assets are required to conduct the day
to day operations. No business can be stated without adequate amount of fixed capital.
Even in an already running business, fixed capital is required for improvement and
expansion of the business.

4.3.2. Working Capital :

This money is required for the purpose of meeting the day to day requirements of the
business, such as purchase of raw-materials, payment of Wages etc., working capital
refers to that part of the company’s capital which is required for financing short term
or current assets such as cash, debtors, inventories and marketable securities. In
otherwords, working capital is the amount required to cover the cost of operating the
enterprise.

37
4.4. TYPES OF FINANCE :

1. Long term finance, 2. Short term finance

4.4.1. Long term finance :

Money required to acquire capital goods which are used in the production such as
Land and Buildings, Plant and Machinery is called fixed capital. Repayment of their
finance to the owner of such funds will take a long period, as the investment in such
assets is very heavy. Therefore it is termed as long term finance.

4.4.2. Short term finance :

When the repayment of money will be within a short period of time, then it is called
short term finance. This type of finance is required for maintaining the routine operation
of the organisation for producing goods and services. This type of finance is used to
purchase raw material, wage payments etc.

4.5. SOURCES OF LONG TERM FINANCE :

4.5.1. Shares :

A share is an interest of a shareholder in the company. A company will be able to

acquire its long term finance though the issue of shares to the public for subscription.
Capital can be raised by a company by the issue of different kinds of shares. A public
company can issue only two types of shares namely equity shares and preference
shares. People who are prepared to undertake risk will busy equity shares. These
equity shares will not have any preference for the payment of dividend or for the
return of capital at the time of winding up of the company. These share holders get
a share in the profits or assets of the company after the claims of the preference
shareholders are satisfied. This equity share capital can be easily secured without
creating any change on the assets of the company. Equity shares are also attractive
from the view point of investors. If the company learns bumper profits, equity share
holders get greater dividends. There share holders enjoy greater voting rights.

4.5.1.1.Preference Shares :

These shares issued by a public company carry preferential right in regard to payment
of dividend and return of capital. These shares carry a fixed rate of dividend out of
the profits of the company. A part of the fixed capital can be secured through the issue
of preference shares. At the time of liquidation of the company, these share holders
have priority for the return of capital after the eviditors are satisfied. No charge need
be ceased on the assets of the company in favour of preference share holders. These
preference shares are also of different kinds such as cumulative preference shares,
participating preference shares Redamable Preference shares etc.

38
4.5.2. Debentures :

Another method of seeming fixed capital for long term purpose is the sale of debentures
to the public. A debenture is an instrument issued by a company under its common
seal acknowledging a debt and containing the terms and conditions of the issue of
debentures. It is nothing but a loan raised by the company at a fixed rate of interest,
and the bond given in return for the loan is the called the debenture. The amont
secured through the sale of debentures is called loan capital. There debentures are of
different types companies generally issue redamable debentures on the mortgage of the
assets of the company. This method is generally adopted by the existing companies to
secure fixed capital for expansion and modernisation. In the case of liquidation of the
company, the debenture holders are paid first.

4.5.3. Ploughing Back of Profits :

All the profits of the company are not distributed to the shareholders, but a part of it
is retained or reinverted in the company. The process of retaining profits year after
year and their utilization in the business is known as “ploughing back of profits”. This
is good for the company and to the sharesholders and also for the society as a whole.
It strengthens the financial position of the company and also improves its credit
standing.

It is actually an economic step and is also known as self financing, internal financing
or inter financing. This is also a best source of financing expansion and modernisation
of the company.

4.5.4. Managing Agents :

For sometime, during the stage of industrial development, managing agents played an
important role in promoting and financing a number of industries. These managing
agents used to subscribe to the shares and debentures of the company and also financed
companies on long term basis for expansion and moderisation. With the abolition of
the managing agency system, this source is no more in existence.

4.5.5. Industrial Banks :

These Banks provide long term finance. They advance long term loans repayable over
a period of Rs.15 to 20 years. These Banks are also called as “Development Banks”.
They provide not only the capital, but also enterprise and management required for the
development of industry. The Govt. of India in this connection has set up a number
of financial institutions for speedy industrial growth. As a step in this direction, the
Industrial finance corporation was setup 1948, for meeting the long term requirements
of the industry. This corporation caters to the needs of coporate and co-operative
sectors. Later on, a number of state financial corporations were set upto provide long
term loans to small scale and medium sized industries. The National Industrial
Development Corporation was established in 1954 for giving a boost to start new
industries. Again in 1955 Industrial credit and Investment corporation was established
39
 for giving financial assistance to industries in the private sector. In the year 1964
Industrial Development Bank of India was established as an apex institution in industrial
finance. All these financial institutions have played and also have been playing a role
of paramount importance in accelerating the pace of industrial progress.

These financial institutions are 4 working at the national level and 22 state. Industrial
Development Investment Corporations. And there are 18 state financial corporations.
A part from these specialised financial institutions, there are some other financial
institutions such as commercial banks, industrial co-operatives, Unit Trust of India,
Life Insurance Corporation etc., which cater to the needs of industries in our country.

4.6. SOME OF THE IMPORTANT FINANCIAL INSTITUTIONS :

4.6.1. Industrial Finance Corporation of India (IFCI) :

This was established in the year 1948. The main objective is to provide medium and
long term credit to industries. This was started with an authorised capital of Rs.10
crores divided into 20,000 shares of Rs.5,000/- each. 50% of the paidup capital is held
by IDBI. (Industrial Development Bank of India). The following are the functions of
IFCI.
i. Granting loans repayable over a period of 25 years.
ii. Underwriting the issue of shares, stock and debentures.
iii. Subscribing to the shares and debentures of public limited companies.
iv. Guaranteeing the loans raised by Industries.
a. IFCI grants loans to set up new industries.
b. for expansion and modernisation of existing industries.
c. for meeting existing liabilities or working capital requirements.
d. for renovation of the industries.
4.6.2. State Financial Corporation (SFC) :

This caters to the financial needs of industries which are beyond the scope of IFCI.
This was established in the year 1951 with a capital ranging from 50 lakhs to 5 crores,
as per the description of the state govt. SFCs also raise funds by the issue of bonds,
borrowings from RBI, loans from state Govt. etc.

4.6.3. Industrial Development Bank of India (IDBI) :

This was established in 1964 as wholly owned subsidiary of Reserve Bank of India
and later the ownership was transferred to central govt. in 1976. The main object is
to co-ordinate the activities of other finnacial institutions and to act as a central agency
from which the other financial institution can draw.

40
4.6.4. Industrial Credit and Investment Corporation of India (ICICI) : This was set up
in the year 1955 only with a view to assist the industries in the private sector. It gives
loans for acquiring capital assets such as land, buildings and machinery.

4.7. SHORT TERM FINANCES AND MEDIUM TERM FINANCES :

The other sources which provide short term and medium term finance are as follows:

1. Commercial Banks 2. Public Deposits 3. Private Deposits

4. Indigenous Bankers 5. Trade Credit 6. Advances

4.7.1 Commercial Banks :

These are the most important source of short term finance. For many industries,
working capital requirements are provided by commercial Banks. They give loans
repayable within period ranging from 6 months to one year. They discount bills and
provide overdrafts and cash credit facilities. Banks generally provide the follows :
i. Loans

ii. Cash Credits

iii. Overdrafts

iv. Purchaging and discounting bills.

i. Loans :

As per the requirements of the borrower, the amount is sanctioned by the bank. The
amount may be paid to the borrower either in cash or credited to his account. The
borrower has to pay interest on the loan granted by the Bank. The loan is generally
repayable in instalments. Interested is changed quarterly. Only short term or medium
term loans are provided by banks.

ii. Cash Credits :

This is a credit facility extended by the Bank to the customer. The Bank allows the
customer to borrow money up to a certain limit against some guarantees. The customer
can withdraw from his cash credit limit according to his needs.

iii. Overdrafts :

It is also a kind of loan given by the Banker to his customer. A current account holder
is allowed to with draw more than the balance to his credit up to a limit. The interest
is charged on daily overdrawn balances. The difference between the cash credit and
overdraft is that overdraft is allowed for a shorter period, and the cash credit is
allowed for a longer period. Overdrafts can be either secured or unsecured or partly
secured.

41
iv. Purchasing and discounting bills :

The bills are discounted by the bank. The creditor draws a bill on the debtor and after
it is being accepted by the debtor, the creditor without writing fill the due date, can
discount the bill with the bank and gets cash. The bank also purchases bills payable
on demand and credits the customer’s account with the amount of bill less discount.

Indigenous Bankers : Private money lenders can borrow from the indigenous bankers
for the purpose of meeting the working capital requirements. They charge a very high rate of
interest. These Bankers exploit the customers to a large extent. In the absence of commercial
banks, they enjoy the monopoly. But now with the development of Commercial Banks, their
role is considerably reduced. But still some of the business houses have to depend upon
indigenous Bankers for meeting their working capital requirements.

Advances : Some Business houses get advances from their customers for short term
financial requirements. It is a cheap source of finance and inorder to minimise their investment
in working capital. Some business houses, having long production cycle, manufacturing
industrial products prefer to take advances from their customers.

4.8. CAPITALISATION :

It is the amount raised by a company for its long term financial needs by the issue of
shares, debentures and other forms of long term borrowing. The other meaning of capitalisation
is that it is “a method of deciding the plan of financing”. The promoter of a company have
to decide the amount of finance required by the company and also have to decide the types
of shares and securities to be issued and the extent of their issue. Therefore the term
capitalisation is used to mean both the quantitative aspect and also the qualitative aspect of
financing.
Capitalisation can be determined on the basis of i) earnings theory and ii) cost theory.
In the case of earnings theory, the capitalisation will be determined on the basis of
earnings of the company. For example if a company hopes to make a profit of Rs.10 lakhs
in a year and if 10% is the normal rate of return in that business, then the amount of
capitalisation will be Rs.1 crore.

In the case of cost theory the capitalisation is determined by the amount required to
establish and run the company. The amount required is determined by the cost of fixed assets
like land and buildings and machinery, preliminary expenses, cost of material, labour etc.

4.8.1. Over Capitalisation :

When a company does not earn enough project to secure a fair return on the
capitalisation, then the company is said to be over capitalised. In otherwords, it is over
- estimatation of the earnings of the company. Similarly over capitalisation occurs
when a low rate of return was adopted for the purpose of capitalisation. The result is

42
 that the company will not be able to pay a fair divided on the shares. Consequently,
the value of share will be below par in the market.

4.8.1.1. Evils of over capitalisation :

i. Market value of share falls heavily.

ii. It is difficult for share holders to sell their shares in the market.

iii. Fair dividend is not possible.

iv. Not possible to borrow money from banks on the security of shares.

v. Company will not be able to borrow from banks and other institution as its credit
rating will be below.

vi. No additional capital can be raised by the company for development, expansion
and modernisation.

vii. It encourages dishonesty on the part of the Management.

These evils of over capitalisation can be over come by increasing the earning capacity
of the company. This is possible by improving the efficiency of labour and management.
It is does not work, the last resort for the company is either Reorganisation or
Reconstruction.

4.8.2. Under-capitalisation :

When the company does not have sufficient funds to meet its regular and long term
needs, it is called under-capitalisation. In such a case the company cannot work smoothly and
efficiently and properly due to lack of finance. For example, the company needs Rs.50 lakhs
to buy plant, machinery, buildings and stocks. But the company has only Rs.40 lakhs to meet
these long term needs. Then the company may borrow from Banks, Public and others for short
periods to meet the long term needs. If Banks recall their loans and the public asks for
repayment of deposits, the company will have to face financial difficulties which may ultimately
lead to liquidation of the company.

Under capitalisation is the result of under-estimation of capital requirements at the

time of the formation of the company. The following are its evils :

i. The company may go out of business because of financial difficulties.

ii. Cannot buy raw materials in large quantities at concessions & discounts due to lack
of capital.

iii. It cannot pay its creditors in time.

iv. Management will try to understate the profits by financial manipulation of accounts.

v. Complete concentration by management is not possible in managing the affairs.

43
vi. The company may not be able to carry out its repairs properly in time and maintain
the machinaries & equipment in good condition.

The best remedy for under capitalisation is to raise more funds by selling shares to
existing share holders and issuing debentures. This will help the company to get the required
funds for proper and efficient working of the company.

Of the two evils of overcapitalisation & undercapitalisation, overcapitalisation is more

dangerous to the company, shareholders and public.

16.9. SELF-ASSESSMENT QUESTIONS :

i. What are the sources of long term finance? Explain briefly.

ii. Briefly state the sources of short term and medium term finance?
iii. What is capitalisation? Listout the evils of overcapitalisation?

SATE WHETHER THE FOLLOWING ARE TRUE OR FALSE :

a. Fixed capital is used for purchasing raw materials.

b. Working capital is used to buy Building.

c. Industrial Finance Corporation of India was established in the year 1948.

d. Cash credit is a kind of loan extended by the bank to its customer.

*****

44