Unit-IV

Project Appraisal: Concept of Project Appraisal, Methods of Project Appraisal, and

Environmental clearance of SMEs. Financing of Enterprise: Meaning and need for financial
planning, Source of Finance, Capital Structure, Capitalization, Term Loans, Sources of short-
term Finance, Venture Capital, Export Finance.
Forms of business Ownership: Sole Proprietorship, Partnership, Company, Cooperative, And
Selection of an appropriate form of ownership structure,
Institutional Finance of entrepreneurs: Need for institutional finance, Institutional Finance.
Institutional Support to Entrepreneurs: Need for institutional support, Institutional Support
to small Entrepreneurs.

CONCEPT OF PROJECT APPRAISAL

Simply speaking, project appraisal means the assessment of a project. Project appraisal is made
for both proposed and executed projects. In case of the former, project appraisal is called ex-
ante analysis and in case of the latter post-ante analysis.
Project appraisal is a costs and benefits analysis of different aspects of a proposed project with
an objective to adjudge its viability. A project involves employment of scarce resources. An
entrepreneur needs to appraise various alternative projects before allocating the scarce
resources for the best project. Thus, project appraisal helps select the best project among
available alternative projects. For appraising a project, its economic, financial, technical,
market, managerial and social aspects are analysed. Financial institutions do project appraisal
to assess its credit-worthiness before extending finance to a project. For a financial institution,
project appraisal is a process whereby a leading financial
An institution makes an independent and objective assessment of the various aspects of an
investment proposition for arriving at a financial decision and is aimed at determining the
viability of a project and sometimes, also in modifying its scope and content so as to improve
its viability. However, sometimes project appraisal and project evaluation are used
interchangeably.
METHODS OF PROJECT APPRAISAL
Appraisal of a proposed project includes the following analyses:
1. Economic Analysis
[Link] Analysis
3. Market Analysis
[Link] Feasibility
5. Managerial Competence
These are discussed one by one.
[Link] Analysis
Under economic analysis, the project aspects highlighted include requirements for raw
material, level of capacity utilization, anticipated sales, anticipated expenses and the probable
profits. It is said that a business should have always a volume of profit clearly in view which
will govern other economic variables like sales, purchases, expenses and alike. It will have to
be calculated how much sales would be necessary to earn the targeted profit. Undoubtedly,
demand for the product will be estimated for anticipating sales volume. Therefore, demand for
the product needs to be carefully spelled out as it is, to a great extent, a deciding factor of
feasibility of the project concern. How to estimate demand for the project is discussed later in
the chapter.
In addition to the above, the location of the enterprise decided after considering a gamut of
points also needs to be mentioned in the project. The Government policies in this regard should
be taken into consideration. The Government offers specific incentives and concessions for
setting up industries in notified backward areas. Therefore, it has to be ascertained whether the
proposed enterprise comes under this category or not and whether the Government has already
decided any specific location for this kind of enterprise.
[Link] Analysis
Finance is one of the most important pre-requisites to establish an enterprise. It is finance only
that facilitates an entrepreneur to bring together the labour of one, machine of another and raw
material of yet another to combine them to produce goods. In order to adjudge the financial
viability of the project, the following aspects need to be carefully analysed:
1. Assessment of the financial requirements both - fixed capital and working capital need
to be properly made. You might be knowing that fixed capital normally called ‘fixed
assets’ are those tangible and material facilities...
2. which purchased once are used again and again. Land and buildings, plants and
machinery, and equipment are the familiar examples of fixed assets/fixed capital. The
requirements for fixed assets/capital will vary from enterprise to enterprise depending
upon the type of operation, scale of operation and time when the investment is made.
But, while assessing the fixed capital requirements, all items relating to the asset like
the cost of the asset, architect and engineer’s fees, electrification and installation
charges (which normally come to 10 per cent of the value of machinery), transportation,
pre-operation expenses of trial runs, etc., should be duly taken into consideration.
Similarly, if any expense is to be incurred in remodelling, repair and additions of
buildings should also be highlighted in the project report.
3. In accounting, working capital means excess of current assets over current liabilities.
Generally, 2:1 is considered as the optimum current ratio. Current assets refer to those
assets which can be converted into cash within a period of one week. Current liabilities
refer to those obligations which can be payable within a period of one week. In short,
working capital is that amount of funds which is needed in day-to-day business
operations. In other words, it is like circulating money changing from cash to
inventories and from inventories to receivables and again converted into cash. This
cycle goes on and on. Thus, working capital serves as a lubricant for any enterprise, be
 it large or small. Therefore, the requirements of working capital should be clearly
provided for. Inadequacy of working capital may not only adversely affect the operation
of the enterprise but also bring the enterprise to a grinding halt.
4. What constitutes working capital and what factors decide working capital requirements
are discussed later in detail in Chapter 26.
5. The activity level of an enterprise expressed as capacity utilization, needs to be well
spelt out in the business plan or project report. However, the enterprise sometimes fails
to achieve the targeted level of capacity due to various business vicissitudes like
unforeseen shortage of raw material, unexpected disruption in power supply, inability
to penetrate the market mechanism, etc. Then, a question arises as to what extent an
enterprise should continue its production to meet all its obligations/liabilities. ‘Break-
even analysis’ (BEP) gives an answer to it. In brief, break-even analysis indicates the
level of production at which there is neither profit nor loss in the enterprise. This level
of production is, accordingly, called ‘break-even level’.

[Link] Analysis

Before the production actually starts, the entrepreneur needs to anticipate the possible market
for the product. He/she has to anticipate who will be the possible customers for his product and
where and when his product will be sold. There is a trite saying in this regard: "The
manufacturer of an iron nails must know who will buy his iron nails." It is said that if the proof
of pudding lies in eating, the proof of all production lies in marketing/consumption (Khanka
1996, 24). In fact, the potential of the market constitutes the determinant of probable rewards
from entrepreneurial career.

Thus, knowing the anticipated market for the product to be produced becomes an important
element in every business plan. The various methods used to anticipate the potential market,
what is named in Managerial Economics as demand forecasting, range from the naive to
sophisticated ones. The commonly used methods to estimate the demand for a product are as
follows:
1. Opinion Polling Method:
In this method, the opinions of the ultimate users, i.e. customers of the product, are estimated.
This may be attempted with the help of either a complete survey of all customers (called
complete enumeration) or by selecting a few consuming units out of the relevant population
(called sample survey). Let us discuss these in some details.
(a) Complete Enumeration Survey:
In this survey, all the probable customers of the product are approached and their probable
demands for the product are estimated and then summed. Estimating sales under this method
is very simple. It is obtained by simply adding the probable demands of all customers. An
example should make it clear.
Suppose, there are total N customers of X product and everybody will demand for D numbers
of it. Then, the total anticipated demand will be:
∑i=1NDi\sum_{i=1}^{N} D_ii=1∑NDi
Though the principal merit of this method is that it obtains the first-hand and unbiased
information, yet it is beset with some disadvantages also. For example, to approach a large
number of customers scattered all over market becomes tedious, costly and cumbersome.
Added to this, the consumers themselves may not divulge their purchase plans due to reasons
like their personal as well as commercial/business privacies.
(Sample Survey:
Under this method, only some number of consumers out of their total population is approached
and data on their probable demands for the product during the forecast period are collected and
summed.

(c) Sales Experience Method:

Under this method, a sample market is surveyed before the new product is offered for sale. The
results of the market surveyed are then projected to the universe in order to anticipate the total
demand for the product.

In principle, the survey market should be the true representative of the national market which
is not always true. Suppose, if Delhi is selected as a sample market, it may not be a true
representative of a small place, say Silchar in Assam simply because the characteristic features
of Delhi are altogether different from those of a small town like Silchar. Again, if we select
Agra as a sample market, sales in Agra would be influenced by the size of the floating tourist’s
population throughout the year. But this feature is not experienced by many other places again
like Silchar in Assam.
(d) Vicarious Method:
Under the vicarious method, the consumers of the product are not approached directly but
indirectly through some dealers who have a feel of their customers. The dealers’ opinions about
the customers’ opinion are elicited. Being based on dealers’ opinions, the method is bound to
suffer from the bias on the part of the dealers. Then, the results derived are likely to be
unrealistic. However, these hang-ups are not avoidable also.
2. Life Cycle Segmentation Analysis:
It is well established that like a man, every product has its own life span. In practice, a product
sells slowly in the beginning. Backed by sales promotion strategies over a period, its sales pick
up. In the due course of time, the peak sale is reached. After that point, the sales begin to
decline. After some time, the product loses its demand and dies. This is the natural death of a
product. Thus, every product passes through its 'life cycle'. This is precisely the reason why
firms go for new products one after another to keep themselves alive.
Based on the above, the product life cycle has been divided into the following five stages:
1. Introduction
2. Growth
3. Maturity
4. Saturation
 5. Decline

Technical Feasibility

While making project appraisal, the technical feasibility of the project needs to be taken into
consideration. In the simplest sense, technical feasibility implies to mean the adequacy of the
proposed plant and equipment to produce the product within the prescribed norms. As regards
know-how, it denotes the availability or otherwise of a fund of knowledge to run the
proposed plant and machinery. It should be ensured whether that know-how is available with
the entrepreneur or is to be procured from elsewhere. In the latter case, arrangement made to
procure it should be clearly checked up. If project requires any collaboration, then, the terms
and conditions of the collaboration should also be spelt out comprehensively and carefully. In
case of foreign technical collaboration, one needs to be aware of the legal provisions in force
from time to time specifying the list of products for which only such collaboration is allowed
under specific terms and conditions. The entrepreneur, therefore, contemplating for foreign
collaboration should check these legal provisions with reference to their projects.

While assessing the technical feasibility of the project, the following inputs covered in the
project should also be taken into consideration:

(i) Availability of land and site.

(ii) Availability of other inputs like water, power, transport, communication facilities.
(iii) Availability of servicing facilities like machine shops, electric repair shop, etc.
(iv) Coping-with anti-pollution law.
(v) Availability of work force as per required skill and arrangements proposed for training in-
plant and outside.
(vi) Availability of required raw material as per quantity and quality.

Management Competence

Management ability or competence plays an important role in making an enterprise a success

or otherwise. Strictly speaking, in the absence of managerial competence, the projects which
are otherwise feasible may fail. On the contrary, even a poor project may become a successful
one with good managerial ability.

ENVIRONMENTAL CLEARANCE FOR SMEs

Before we discuss about procedure involved in seeking clearance for environmental pollution,
it seems pertinent first to understand what the environmental pollution is. Environmental
pollution includes two terms, namely, environment and pollution. In simple words,
environment means all what surrounds and that affects and influences the survival, growth, and
development of organisms. In other words, environment means aggregate of surrounding
things. Pollution means the presence of dangerous unnatural ingredients causing imbalance in
the ecosystem and health hazards to human beings and animals. Thus, pollution can be any
unnatural ingredients which damage the ecosystem and destroy the delicate balance in the
ecosystem. Such unnatural ingredients may be gases (causing air pollution), solids/liquids
(causing water, food and land pollution) or sound (causing sound pollution). All of them cause
imbalance in the ecosystem directly or indirectly and have potential to cause health hazards to
human beings and animals. Hence, pollution has become a matter of great concern and
consideration.
What is environmental pollution? The environmental pollution can be defined as the
introduction of different harmful pollutants into environment that makes the environment
unhealthy to live in. In an elementary understanding, environmental pollution is a situation
when the natural environment is unable to process the changes that are being brought about by
human activities. In other words, environmental pollution is a situation when the harmful
effects are due to the changes being brought about in the normal course of things by human
activities. Speaking in technical sense, the problem of environmental pollution basically arises
when the natural environment becomes unable to decompose the non-natural elements, known
in scientific lexicon as 'anthropogenic pollutants.'

The negative effects of environmental pollution are commonly evident in the form of unclean
air and water, the two essential elements for life to sustain. The most common pollutants
causing environmental pollution, or say, unhealthy environment are usually chemicals,
garbage, and waste water. Environmental pollution is happening in many parts of the world,
especially in the form of air and water pollution. The best examples for air pollution are some
of the cities like Delhi, Mumbai, Kolkata, Kanpur, and Cuttack and the burning example for
water pollution is the highly polluted water of the Ganga River in our country.

Many developed countries have introduced certain laws to not only regulate various types of
pollution but also the laws to mitigate the adverse effects of...

Pollution levels need to be controlled all the time if we want to keep our environment safe and
healthy. Without proper pollution control, environmental issues become severe. Then, the
question is how to protect the environment? The answer is preventing the introduction of
pollutants into the environment. The best way to protect the environment from pollution.

There are basically three kinds of environmental pollution:

1. Air Pollution: The strongest air pollutants are nitrogen dioxide, sulphur dioxide,
carbon monoxide, ozone, airborne particles and volatile organic compounds (VOCs).
2. Water Pollution: The strongest water pollutants are insecticides, pollutants from
livestock operations, volatile organic compounds (VOCs), food processing waste and
chemical waste.
3. Soil Pollution: The strongest soil pollutants are hydrocarbons, solvents, and heavy
metals.

Among all of the above, the most damaging pollutants are fossil fuels and have been one of the
most significant contributing factors to global warming. The one of the most significant
contributing factors to the global environmental pollution problem of the time. The evil effects
of fossil fuels are that this cause air pollution and their presence in products like plastics,
solvents, lubricating oils, detergents, asphalt, and chemicals for industrial use cause soil
pollution. Not only that, but they also cause water pollution.

As mentioned in Article 51A (g), to protect and improve the natural environment shall be the
fundamental duty of the citizens of India. Accordingly, entrepreneurs setting up new ventures
in the SME sector also need to protect the environment. The Union of India has enacted certain
regulatory environmental protection laws and an entrepreneur needs to take clearance under
these laws before actually setting up his/her small-scale enterprise. Following are the three
major regulatory environmental protection laws the entrepreneurs have to abide by before
setting up his/her enterprise:

1. The Environment (Protection) Act, 1986, which is the umbrella Legislation.

2. The Water (Prevention & Control of Pollution) Act, 1981, as amended in 1978 and
1988.
3. The Air (Prevention & Control of Pollution) Act, 1981, as amended in 1987.

Fiscal Benefits to Units for Environmental Protection

Environmental protection provides the industrial units various benefits but is not confined to
the following only:

• Depreciation allowance at the rate of 100 per cent for installing pollution control
devices.
• Customs duty at reduced rates of 35 per cent plus 5 per cent auxiliary charges levied on
imported equipment and spares for pollution control.
• Customs duty at the reduced rate of 25 per cent and full exemption from auxiliary
charges for kits required for conversion of petrol-driven vehicles to compressed natural
gas-driven vehicles.
• Excise duty at the reduced rate of 5 per cent on manufactured goods that are used for
pollution control.
• Excise duty exemption for bricks and blocks manufactured from fly ash and
phosphor-gypsum.
• Exemption under section 35 CCB of the Income Tax Act is given to assess who incur
expenditure by way of payments on any sum towards association or institutions which
carry out programs for conservation of natural resources.
• Financial assistance towards capital investment up to 25 per cent or ₹50 lakh,
whichever is less, is given as subsidy to industrialists from the small-scale sector for
setting up common effluent treatment facilities.
• Incentives in terms of rebate on water cess payable under the Water (Prevention &
Control of Pollution) Cess Amendment Act, 1991.
 • Provision of loans at reduced rates of interest by financial institutions for installing
pollution control devices.
• Funded by the United States Agency for Industrial Development (USAID); the
Industrial Credit and Investment Corporation of India (ICICI) has a 25 million Trade
in Environmental Services and Technologies (TEST) scheme, which carries loans at
12.5 per cent with no exchange risk for the dollar assistance.
• Industrial pollution control projects funded by the World Bank; the Bank offers loans
on concessional terms, which is received by the MOEF and disbursed through
different financial institutions.
Environmental Restrictions for SSI Sector
Entrepreneurs are required to obtain Statutory clearances relating to Pollution Control and
Environment for setting up an industrial project. A Notification (SO 60(E) dated 27.1.94) issued
under the Environment Protection Act 1986 has listed 29 projects in respect of which
environmental clearance needs to be obtained from the Ministry of Environment, Government
of India. This list includes industries like petro-chemical complexes, petroleum refineries,
cement, thermal power plants, bulk drugs, fertilisers, dyes, paper etc. However, if investment
is less than ₹500 million, such clearance is not necessary, unless it is for pesticides, bulk drugs
and pharmaceuticals, asbestos and asbestos products, integrated paint complexes, mining
projects, tourism projects of certain parameters, tarred roads in Himalayan areas, distilleries,
dyes, foundries and electroplating industries.
Further, any item reserved for the small-scale sector with investment of less than ₹10 million
is also exempt from obtaining environmental clearance from the Central Government under the
Notification. Powers have been delegated to the State Governments for grant of environmental
clearance for certain categories of thermal power plants. Setting up industries in certain
locations considered ecologically fragile (e.g. Aravalli Range, coastal areas, Doon valley,
Dahanu, etc.) are guided by separate guidelines issued by the Ministry of Environment of the
Government of India.
The Government of India has rationalised and simplified environmental clearances procedure
for small-scale industries except in the case of 17 hazardous industries. Now a mere
acknowledgment of the application by the State Environment Board would be sufficient for
SSIs. The seventeen hazardous items are:

1. Fertilizer (Nitrogen/Phosphate)
2. Sugar
3. Cement
4. Fermentation and Distillery
5. Aluminium
6. Petro-chemicals
7. Thermal power
 8. Oil refinery
9. Sulphuric acid
10. Tanneries
11. Copper Smelter
12. Zinc Smelter
13. Iron and Steel
14. Pulp and Paper
15. Dye and Dye intermediaries
16. Pesticides manufacturing and formulation
17. Basic Drugs and Pharmaceuticals
Speaking at the valedictory function of a seminar on "Global Environment and Disaster
Management: Law and Society" in the national capital on 24th July 2011 Sunday, the Prime
Minister said that environmental safeguards are no doubt stronger today than they were two
decades ago. India still needs to focus on creating a low carbon economy. He said, "We hope
to establish an independent regulator - the National Environment Appraisal and Monitoring
Authority soon to revamp the process of granting environmental clearance and help protect the
ecology without bringing back the hated licence permit raj." This authority could lead to a
complete change in the process of granting environmental clearances to projects. Staffed by
dedicated professionals, it will work on a full-time basis to evolve better and more objective
standards of scrutiny for granting environmental clearance.

The Environmental Clearance Process

Getting environmental clearance involves a process covering aspects like screening, scoping,
and evaluation of the upcoming project. The main purpose behind environmental clearance is
to assess the impact of the proposed upcoming project on the environment and people and, in
turn, to try to abate or minimize the same to the maximum extent possible. The various steps
involved in environmental clearance are discussed as follows:

1. Screening

1. The process begins with identifying the location of the proposed unit by the
entrepreneur. If the proposed location of the unit does not agree with the existing
prescribed guidelines, the entrepreneur has to identify some other alternative location
for his/her unit.

2. Scoping

The entrepreneur then assesses if the proposed unit falls under the purview of environmental
clearance as per the Government of India’s notification issued on 27th January 1994. If it is
mentioned in the schedule of the notification, the entrepreneur is required to conduct an
 Environmental Impact Assessment (EIA) study either directly or through a consultant. The
process to be followed for assessing environmental impact includes the following activities:

3. The promoter of the projects is required to provide all relevant and required information as
indicated in the guidelines along with the EIA statement/environmental management plan.

4. After the preliminary scrutiny by the Ministry of Environment and Forest (MoEF), the
Appraisal Committee evaluates the impact on environment and accordingly makes its
recommendations for approval, rejection, or modifications in the project.

5. The above recommendations form the basis of the Ministry’s final decision regarding
approval/rejection regarding environmental clearance. The project proponent submits an
application for environmental clearance with the MoEF if it falls under Project A category or
the state government if it falls under Project B category which is further categorized into B1
and B2 projects/units. The units that fall under B2 category do not require EIA.

6. All units seeking environmental clearance under the Water or Air Acts or Authorization under
the Hazardous Wastes (Management & Handling) Rules beginning 1993, are required to submit
duly filled-in environmental statements for the period ending 31 March on or before 30
September every year to the concerned State Pollution Control Board (SPCB). The Central and
State Pollution Control Boards are responsible for enforcing legal action against the industrial
units that are found environment polluters.

Public Hearing
The next mandatory step involved in seeking environmental clearance for the proposed unit is
public hearing, which is conducted prior to the issue of NOC from SPCB. Public hearing
provides a legal space for people of an area to come face-to-face with the project proponent
and the government and express their concerns about the impact of the proposed unit on them.
Following is the process involved in public hearing:
The District Collector is the chairperson of the public hearing committee. Other members of
the committee include the official from the district development body, SPCB, Department of
Environment and Forest, Taluka and Gram Panchayat representative, and senior citizen of the
district, etc. The hearing committee hears the objections/suggestions from the public and after
inserting certain clauses, it is passed on to the next stage of approval, i.e., Ministry of
Environment and Forest (MoEF).
Now, the entrepreneur approaches the concerned State Pollution Control Board (SPCB)

If the location involves the use of forest land, the State Forest Department for the environmental
clearance is approached. The application form is submitted with the EIA report, EMP, details
of the public hearing, and NOC granted by the state regulators. The SPCB evaluates and
assesses the quantity and quality of effluents likely to be generated by the proposed unit as well
as the efficacy of the control measures proposed by the entrepreneur to meet the prescribed
 standards. If the SPCB is satisfied that the proposed unit will meet all the prescribed effluent
and emissions standards, it issues its environmental clearance called No Objection Certificate
(NOC) to establish the proposed [Link]

The final step involved in the process of environmental clearance is environmental evaluation.
The documents submitted by an entrepreneur are first scrutinized by a multi-disciplinary staff
functioning in the Ministry of Environment and Forests, who may also undertake site visits
wherever required, interact with the entrepreneur and hold consultations with experts on
specific issues as and when necessary. After this preliminary scrutiny, the proposals are placed
before specially constituted committees of experts whose composition is specified in the EIA
Notification. Such committees, known as Environmental Appraisal Committees, have been
constituted for each sector, such as River Valley Industries, Mining, etc., and these committees
meet regularly to appraise the proposals received in the Ministry.

On the basis of the exercise described in the foregoing paragraphs, the Appraisal Committees
make their recommendations for approval or rejection of particular projects. The
recommendations of the committees are then processed in the Ministry of Environment and
Forests for approval or rejection.

When a project requires both environmental clearance as well as approval

under the Forest (Conservation) Act, 1980,

proposals for both are required to be submitted simultaneously to the concerned divisions of
the ministry. The processing is also done simultaneously for clearance/rejection of the project.
If the project does not involve diversion of forest land, the case is processed only for
environmental clearance.

Once all the requisite documents and data from the project authorities are received and public
hearings (where required) have also been held, assessment and evaluation of the project from
the environment angle is completed within 90 days and the decision of the ministry either
approved or rejected shall be conveyed within 30 days thereafter. The clearance granted shall
be valid for a period of five years for commencement of the construction or operation of the
project.

The Environmental Clearance Process

Industrial projects located in any of the following notified ecologically sensitive areas would
require environmental clearance irrespective of the type of project:
• Religious and historic places
• Archaeological monuments
• Scenic areas
• Hill resorts
• Beach resorts
• Coastal areas rich in mangroves, corals, breeding grounds of specific species
• Estuaries
• Gulf areas
• Biosphere reserves
• National parks and sanctuaries
• National lakes and swamps
 • Seismic zones

• Tribal settlements

• Areas of scientific and geological interest

• Security-related Defence installations

• Border areas (international)

• Airports
Financing of Enterprise
"What blood is to human life, finance is to business enterprise?" —
MEANING AND NEED FOR FINANCIAL PLANNING
Finance is one of the important prerequisites to start an enterprise. In fact, it is the availability
of finance that facilitates an entrepreneur to bring together land, labour, machinery and raw
material together to combine them to produce goods. The significance of finance in production
is elucidated like a lubricant to the process of production (Cameron 1967: 2). There are others
also who hold even the metaphorical views that finance is the life-blood of enterprise (Desai
2009: 3). The trite phrase "whoever has the gold makes the rule" also underlines the
The significance of finance for small enterprises, in particular, and industry, in general.
Financing an enterprise—whether large or small—is a critical element for success in business.
Instances are galore to cite that many enterprises, though potentially successful, failed because
they were under-capitalised. Therefore, what follows is that every enterprise should clearly
chalk out its future financial requirements at its very beginning itself.
The decisions taken by the entrepreneur well in advance regarding the future financial aspects
of his/her enterprise is called "financial planning." In other words, financial planning deals with
futurity of present decision in terms of financial aspects of an enterprise. In short, financial
planning is a financial forecast of the enterprise in the beginning itself.
In a financial plan/financial forecast, the entrepreneur should clearly answer the following three
questions:
1. How much money is needed?
2. Where will money come from?
3. When does the money need to be available?
The answers to these questions are given as follows:
As regards the money needed, it can be estimated by developing a statement of various assets
required by the enterprise. Yes, the structure of assets to be used will vary from enterprise to
enterprise depending upon the nature of the product to be produced or service to be rendered,
as the case may be. While estimating the money needed, the entrepreneur should take the
following three things into consideration:
1. There should be adequate money to pay the purchase considerations.
2. There should be sufficient capital at his/her disposal to support the business operations up to
the three initial months of the enterprise.
3. Lastly, enough provision should be made to meet unexpected/unplanned business expenses:
The general practice has been to provide for from 10 to 15 percent of purchase consideration
to cover such expenses.
Thus, the total of these three amounts will constitute the total money needed to start the
enterprise. Integral to the total amount needed is to decide about its arrangement or sources.
You know that in every business/enterprise, capital is arranged from two sources—internal and
external. Internal sources refer to the owner's own money known as ‘equity’. Particularly in the
case of small enterprises, the owner's money called equity is very thin. Therefore, an
overwhelming portion of money needed is arranged from the external sources like financial
institutions and commercial banks, etc. We shall discuss these, in more detail, in section 17.4.
There are two ways of classifying the financial needs of an enterprise:
1. On the basis of extent of permanence, the financial needs are classified into two types:
o (i) Fixed Capital, and

ii) Working Capital.

2. On the basis of period of use, we can classify the financial needs into the following
two types:
o (i) Long-term Capital/Finance, and
o (ii) Short-term Capital/Finance.

• Fixed Capital: The money invested in some fixed assets or durable assets like land,
building, machinery, equipment, furniture, etc., is known as fixed capital. These assets
are meant for permanent use, that is, for a long period of time.
• Working Capital: The money invested in current assets like raw material, finished
goods, debtors, etc., is known as working capital. In other words, money required for
day-to-day operations of business/enterprise is called ‘working capital’.
• Long-term Capital: This is such money whose repayment is arranged for more than
five years in the future. The sources of long-term finance could be owner’s equity, term-
loans from financial institutions, credit facilities from the commercial banks, hire-
purchase facilities from specific organisations, etc.
• Short-term Capital: This is a borrowed capital/money that is to be repaid within one
year. The sources of short-term finance include bank borrowings for working capital,
deposits or borrowings from friends and relatives, etc.

Classification of Financial Needs

1. Based on permanence
o Fixed capital
 o Working capital
2. Based on period of use
o Long-term capital
o Short-term capital

From the point of view of financial health of an enterprise, short-term finance/funds should be
utilized for acquiring current assets.
Current assets, for example, include the items like raw material, finished goods, semi-finished
goods, debtors, etc. Basically, these are the items which keep changing their shape.
They can normally be converted into cash within a period of one year. On the other hand, long-
term finance should be used for acquiring assets which are of long nature. These are commonly
termed as ‘fixed assets’. The examples of fixed assets could be, land and building, plant and
machinery, furniture, etc.

SOURCES OF FINANCE

We have already made a mention in the previous Section 17.1 that the various sources from
which an enterprise can raise the required funds could broadly be classified into two sources:

Internal Sources

Under this source, funds are raised from within the enterprise itself. The internal sources of
financing could be the owner's capital known as equity, deposits, and loans given by the owner,
the partners, the directors, as the case may be, to the enterprise.

One source for raising funds internally may be personal savings by the entrepreneur on his/her
personal assets like Provident Fund, Life Insurance Policy, buildings, investments, etc. In
addition to these, in case of an ongoing enterprise, funds could also be raised through the
retention of profits or conversion of some assets into funds.

The cardinal principle of financial management also suggests that an entrepreneur should
religiously plough back a good portion of his/her profits into the enterprise itself. However, the
scope of raising funds from internal sources, particularly in the case of small-scale enterprises,
remains highly limited.

External Sources

In short, funds raised from other than internal sources are from external sources. The external
sources usually include the following:

1. Deposits or borrowings from relatives and friends and others.

2. Borrowings from the banks for working capital purposes.
3. Credit facilities from the commercial banks.
4. Term-loans from financial institutions.
5. Hire-purchase or leasing facility from the National Small Industries Corporation
(NSIC) and State Small Industries Corporations (SSIC).
External Sources
In short, funds raised from other than internal sources are from external sources. The external
sources usually include the following:
1. Deposits or borrowings from relatives and friends and others.
2. Borrowings from the banks for working capital purposes.
3. Credit facilities from the commercial banks.
4. Term-loans from financial institutions.
5. Hire-purchase or leasing facility from the National Small Industries Corporation
(NSIC) and State Small Industries Corporations (SSIC).
6. Seed/Margin money, subsidies from the Government and the financial institutions.
If we now lump both the sources together, these can broadly be classified as follows:
• Personal funds or Equity Capital.
• Loans from relatives and friends.
• Mortgage Loans.
• Term-Loans.
• Subsidiaries.
• In the majority of cases, more than one source was stated by the entrepreneurs for
arranging their initial capital. For analytical purposes, only one source from which the
entrepreneurs received most or all of their initial capital was taken into account. The
heavy dependence upon institutional finance for arranging initial capital is depicted in
Figure 17.2 also.
• It is seen from Table 17.1 that the majority of the entrepreneurs (54%) arranged their
initial capital from institutional sources, followed by those who arranged the same from
their own internal sources. Of course, those who rather arranged the funds from
relatives and friends for arranging their capital requirements were rare. The reason is
that one relies on relatives and friends as a last resort. One is usually unwilling to
divulge what he/she considers secret information to others, especially relatives and
friends, for reasons of personal esteem. At the same time, the popularity of financial
institutions and banks as also their lower rates of interest on loans may be important
reasons for one’s heavier reliance on these institutions for seeking financial assistance.

Financing of Enterprise
However, this finding goes against the findings of Nafzigir who found that the small-scale
entrepreneurs usually did not have access to funds from organised financial institutions. As a
result, 44% entrepreneurs received most or all of it from their relatives and friendsThis
difference in findings is, perhaps, explained by the fact that the scene might have undergone a
considerable change after bank nationalisation in July 1969. The reason is that the purpose-
oriented lending is now made to replace security-oriented lending.
The sources used for raising funds determine what is called in financial terminology ‘capital
structure’. The following section 17.3 deals, in detail, with this aspect.
CAPITAL STRUCTURE
What is capital structure? You have just learnt that an enterprise/business raises funds from the
internal and external sources. These take the forms of ownership capital and borrowed capital
respectively. The former is also known as equity and the latter as debt. The composition of
equity and debt in overall capital of an enterprise is called capital structure. In simple words,
capital structure is the ratio between debt and equity capital. Hence, it is also expressed as the
debt-equity ratio.
Here, it must be noted that the term capital structure differs from financial structure. Capital
structure means the permanent financing of the enterprise represented primarily by long-term
sources of funds, i.e., debt and equity. Thus, it excludes funds raised from short-term sources.
But, financial structure refers to how the firm’s assets are financed by raising funds from both
long-term and short-term sources.
A business enterprise needs to maintain a proper ratio between these two in order to function
smoothly and efficiently. Then, the obvious question arises as to what should be the proper, or
say, optimum capital structure? In fact, it depends inter alia upon the business conditions of
the enterprise concern. As a general principle, for a successful business in favourable
conditions, debt capital may be twice or even more than equity capital. But, for a business
reeling under unfavourable conditions, say incurring losses, the proportion of debt capital
should be as low as possible. This is because on account of fluctuation in earnings and
inadequacy of cash, the enterprise may not pay interest and the amount of loan. In consequence,
the creditors and suppliers will look upon the financial position of the enterprise as unreliable
and, hence, may stop extending credit. Such position will culminate to make the enterprise
insolvent.
In simple words, an optimum capital structure can be defined as a financing mix incurring the
least cost but yielding the maximum returns. It is obtained when the market value per equity
share is the maximum. Ezra Solomon (1969: 42) has defined capital structure in the following
words:
"Optimum leverage can be defined as that mix of debt and equity which will maximise the
market value of a company, i.e., the aggregate value of the claims and ownership interests
represented on the credit side of the Balance Sheet."
"Advantage of having an optimum financial structure, if such an optimum does exist, is two-
fold. It minimises the company’s cost of capital which in turn its ability to increase and find
new wealth by creating investment opportunities. Also, by increasing the firm’s opportunity
to engage in future wealth-creating investment, it increases the economy’s rate of investment
and growth."
An optimum capital structure bears the following features:
(i) The capital structure should involve the minimum cost and the maximum yields (David
1959: 91-116).
(ii) The adopted capital structure should be flexible enough to fulfil the future requirements
of the capital as and when needed.
(iii) The use of debts should be within the repaying capacity of the enterprise. In fact, failure
to recognize this important aspect is the common cause of financial strain among the small-
scale enterprises.
(iv) The capital structure should ensure the proper control over the affairs of the enterprise. In
any case, it should not be a control-diluting one.
While one can add certain other features to these for some particular enterprises, the said
features appear to be common and major ones.
Factors Determining Capital Structure

Maintaining the capital structure in any enterprise depends on a variety of factors. These
include:

1. Nature of Business:
The nature of the business itself is one of the factors determining capital structure to be
maintained. The businesses subject to wide fluctuations in sales need to maintain a
smaller proportion of borrowed funds, i.e., debt capital. Companies manufacturing
televisions, refrigerators, machine tools, and the like are examples of businesses subject
to fluctuations in their sales. On the contrary, the business firms dealing in items/goods
having inelastic demand like essential consumer goods may have a larger proportion of
borrowed capital. The reason is that these firms generally have stable earnings.
Factors Determining Capital Structure
Maintaining the capital structure in any enterprise depends on a variety of factors. These
include:
1. Nature of Business:
The nature of the business itself is one of the factors determining capital structure to be
maintained. The businesses subject to wide fluctuations in sales need to maintain a
smaller proportion of borrowed funds, i.e., debt capital. Companies manufacturing
televisions, refrigerators, machine tools, and the like are examples of businesses subject
to fluctuations in their sales. On the contrary, the business firms dealing in items/goods
having inelastic demand like essential consumer goods may have a larger proportion of
borrowed capital. The reason is that these firms generally have stable earnings.

The capital structure of companies is also determined by the competitiveness found

among them. For example, in the case of the ready-made garments industry, competition
is mainly based on styles and fashions which are subject to frequent and unpredictable
changes. As such, these firms have to depend less on borrowed capital and more on
equity or owner's capital.

2. Size of the Enterprise:

Small enterprises have to rely less on borrowed capital and depend more on owner's
capital. This is because investors consider lending to small firms more risky. On the other
hand, large enterprises are considered less risky. Therefore, investors believe that their
 money is safe and, hence, prefer to lend money to large enterprises. This enables the large
enterprises to raise funds from different sources.
3. Trading on Equity:
In case the rate of return on capital employed is more than the rate of interest on
debentures or the rate of dividend on preference shares, it is called trading on equity or
leverage effect. In such a case, there is greater dependence on borrowed capital in the
capital structure.
[Link] Flows:
The ability of a business to discharge its fixed obligations depends upon the availability of
cash, i.e., cash flows. As such, the more the cash inflows, the more will be the proportion
of borrowed capital in the capital structure. The reverse will happen in a converse situation.
5. Purpose of Financing:
The purpose of financing also affects the capital structure of the enterprises. In case funds
are required for some directly productive purposes, for example, the purchase of new
machinery, the enterprise may rely on external sources for raising the required funds. This
is because the enterprise will be in a position to pay the fixed charges, or say, interest out
of the profits so earned. In contrast, in case the enterprise is required to raise funds for
unproductive purposes like spending on the employees’ welfare facilities, it will have to
depend on owner’s capital. In other words, it will raise funds by issuing equity shares.
[Link] for Future:
The scope of changing the capital structure in the future happens to be a basic consideration
for determining the capital structure of an enterprise. As a general principle, it will always
be safe to keep the best security to be issued in the last instead of issuing all types of
securities in one stroke only.
In this regard, what Gerstenberg opined is worth mentioning:
"Manager of corporate financing operations must always think of rainy days or
emergencies. The general rule is to keep your best security or some of your best securities
till the last."
CAPITALISATION
What is capitalisation? In common parlance, capitalisation means the total amount of capital
employed in an enterprise. However, different scholars have defined the term ‘capitalisation’
differently. These are broadly classified into two categories:
(1) Broad Sense, and (2) Narrow Sense. Let us discuss what these do mean.
Broad Sense
In broad sense, capitalisation means the determination of the quantity of finance and also the
quality of finance. In other words, it means both the amount of finance and modes of finance. Thus,
in broad sense, the term ‘capitalisation’ is synonymous with the term financial planning.
Narrow Sense
According to the narrow sense, the term capitalisation is similar to capital structure. It refers to the
determination of quantum of long-term funds required to run an enterprise. Thus, in narrow sense,
capitalisation includes par value of share capital, reserves and surplus and long-term debts.
Gerstenberg has defined the term ‘capitalisation’ in these words:
"Capitalisation comprises ownership capital which includes capital stocks and surplus in whatever
form it may appear and borrowed capital which consists of bonds or similar evidence of long-term
debt."
Since the narrow sense is more specific in its meaning that is why it is more popular in use. Integral
to meaning of capitalisation is the proper or optimum size of capitalisation. There are two generally
used theories of capitalisation for a new business enterprise. These are:
1. The Historical Cost Theory
2. The Earnings Theory
Let us understand how the value of a new enterprise is capitalised in the two theories.
The Historical Cost Theory
According to this theory, capitalisation of a new enterprise is considered to be the equivalent of the
cost actually incurred in setting up an enterprise. In other words, the amount of capitalisation of a
new enterprise is the total of the cost of fixed assets, working capital and the cost incurred in setting
up the enterprise (e.g., preliminary expenses, underwriting commission, expenses on issue of
shares, etc.). The historical cost theory lays greater stress on current outlays than on the
requirements for future business.
The Earnings Theory
In the earnings theory, the basis for determining the value of an enterprise is its earning capacity.
For this, a new enterprise estimates its average annual future earnings and it is capitalised by the
normal earning rate (also termed as capitalisation rate) prevalent in the similar business/enterprise.
Let us explain this point with an example.
Suppose, a new enterprise estimates its annual average earnings at ₹ 75,000. The enterprises in the
same activity are earning at the rate of 10% on their capital employed. Then, the quantum of
capitalisation on the basis of earnings for the new enterprise will be ₹ 7,50,000, i.e. 75,000 × 100
/ 10.
However, this theory has a limitation for determining the amount of capitalisation for new
enterprises. The new enterprises find it difficult to estimate correctly the amount of their future
earnings. In case the earnings are not correctly estimated, the capitalisation based on it would prove
risky for the enterprise. Therefore, it is advisable to adopt the historical cost theory of capitalisation
in case of new enterprises.
You have just learnt the actual capitalisation and proper capitalisation of an enterprise. These refer
to what is and what should be the quantum of capitalisation respectively in an enterprise. In
practice, there may be three situations:
(i) When actual capitalisation is equal to proper capitalisation.
(ii) When actual capitalisation is more than proper capitalisation, i.e. over-capitalisation.
(iii) When actual capitalisation is less than proper capitalisation, i.e., under-capitalisation.

Over-Capitalisation

Over-capitalisation signifies a situation when an enterprise possesses excess assets in relation

to its requirement. Such a situation has its bearing on earning capacity of the enterprise. In case
of over-capitalisation, the actual earnings are lower than the expected ones. On account of
lower rates of return, the enterprise becomes unable to pay its fixed obligations, i.e. interest
and dividend, at the desired rates. Thus, in case of over-capitalisation, the enterprise fails to
secure fair return on its capital investments. This point is more clarified with the following
example.
Causes of Over-Capitalisation
An enterprise may become over-capitalised due to both internal and external factors.
Following are the important reasons causing over-capitalisation in an enterprise:
1. Raising of more money by issue of shares and debentures than what the enterprise can
profitably use.
2. Borrowing of large money at a rate of interest fairly higher than the actual rate of
return on its capital employed.
3. Acquiring fixed assets on excessive amounts.
4. Inadequate provisions for depreciation and replacement of fixed assets.
5. Payment of dividends at a fairly high rate.
6. High rates of taxation imposed by the Government.
7. Over-estimation of earnings for enterprise concern.
Since causes bear effects, let us also look at the evil effects of over-capitalisation.
Evil effects of Over-Capitalisation
Over-capitalisation has the following evil effects on owners, enterprises, and society:
1. On Owners - Because of a fall on dividends, the shareholders/owners lose heavily.
Further, the owners are not in a position to dispose of their shares at profitable prices
due to a fall in the market value of their shares. Thus, the owners are the biggest
losers in case of over-capitalisation of an enterprise.
2. On Enterprise - In over-capitalisation, the market value of the enterprise’s stock
falls, and it finds difficult to raise capital. Quite often, the enterprises resort...
On Society

Over-capitalised enterprises often come to societal rejection. Society gradually withdraws its
acceptance of the products produced by such enterprises. No wonder, the enterprises go into
liquidation in the course of time. Closure or liquidation of enterprises causes losses to society
in terms of production, employment, wastage of resources, etc.
Remedies for Over-Capitalisation
In order to rectify over-capitalisation, the enterprise may resort to the following remedies:
1. To reduce the claims of shareholders.
2. To reduce the rate of interest on debentures and the rate of dividend on preference
shares.
3. To reduce the number of equity shares.
4. If possible, to reduce the par value of stock.
These all remedial measures leave sufficient funds with the enterprise. The enterprise can make
use of these funds for the purposes of replacement of assets and expansion of business activity.
These, in turn, help in increasing the earning capacity of the company and thus, rectifying over-
capitalisation in the enterprise.
Under-Capitalisation
Under-capitalisation is just the reverse of over-capitalisation. Properly speaking, an enterprise
is said to be under-capitalised when its actual capitalisation is lower than the proper
capitalisation. In case of under-capitalisation, the rate of dividend and the market value of
shares are fairly higher than the market value of shares of similar enterprises.

Causes of Under-Capitalisation:

The causes of under-capitalisation are:

1. Under-estimation of initial rate of earnings.

2. Utilization of high efficiency for exploiting every possibility available.
3. Using lower rate of capitalisation.
4. Under-estimation of required funds.
5. Retaining profits because of conservative dividend policy followed by the enterprise.
6. Setting up of an enterprise in recessionary conditions. After the recession period is
over, enterprises start earning profits at an unusually high rate.
7. Because of excessive earnings, enterprises are exposed to a heavy incidence/burden of
taxation.

Effects of Under-Capitalisation:

The effects of under-capitalisation are:

It encourages cut-throat competition in the market. High profit earning...

Effects of Under-Capitalisation:
The effects of under-capitalisation are:
• The capacities of under-capitalised enterprises lure new entrepreneurs to plunge into
manufacturing.
• High rate of dividend given to the shareholders propels the workers to demand for
higher wages and salaries.
• Under-capitalisation enables management to manipulate the value of shares of
enterprises.
• The Government charges higher taxation.
Remedies for Under-Capitalisation:
Under-capitalisation may be rectified by taking the following remedial measures:
1. To split up the shares of the enterprise.
2. To issue bonus shares.
3. To increase the par value of shares/stock.
4. To declare dividend payable in stock, if large surplus is available.
Now, it is clear that both over-capitalisation and under-capitalisation are not desirable as both
bear evil effects. Notwithstanding, over-capitalisation is more dangerous. Under-capitalisation
is easily corrected but over-capitalisation not so easily. Furthermore, under-capitalisation is
indicative of sound financial position and efficient management of the enterprises. That is why
under-capitalisation is not considered as an economic problem but a problem of adjusting the
capital structure of an enterprise. Every enterprise should try to have a proper or fair
capitalisation.
TERM LOANS
Simply stated, loans taken for a definite period of time are called ‘term loans’. Based on period,
loans are broadly classified into two types:
1. Short-term Loans, and
2. Long-term Loans.

Long-Term Loans

These are the loans taken for a fairly long duration of time ranging from 5 years to 10 or 15
years. Long-term loans are raised to meet the financial requirements of enterprise/company
for acquiring the fixed assets which include the following:

(i) Land and site development

(ii) Building and civil works
(iii) Plant and machinery
(iv) Installation expenses
(v) Miscellaneous fixed assets comprising vehicles, furniture and fixtures, office equipment
and so on.

Sources of Term-Loans
In case of units to be located in backward areas, another element of miscellaneous fixed cost
includes expenditure to be incurred in infrastructure facilities like roads, railway sidings, water
supply, power connection, etc.
Term-loans, or say, long-term loans are also required for expansion of productive capacity by
replacing or adding to the existing equipment.
The following are the sources of raising term loans:
1. Issue of Shares
2. Issue of Debentures
3. Loans from Financial Institutions
4. Loans from Commercial Banks
5. Public Deposits
6. Retention of Profits
Sources of Raising Term (Long) Loans.
• Shares

• Debentures
 • Financial Institutions
• Commercial Banks
• Public Deposits
• Retention of Profits
Shares
A share is a unit into which the total capital of a company is divided. As per Section 85 of the
Companies Act, 1956, a public limited company can issue the following two kinds of shares:
1. Preference Shares: These are the shares which carry a preferential right over equity shares
with reference to dividend. They also carry a preferential right over equity shares with
reference to the payment of capital at the time of winding up or repayment of capital. The
preference shares may be of various types such as cumulative and non-cumulative,
redeemable and irredeemable, participating and non-participating, and convertible and non-
convertible.
2. Equity Shares: Shares which are not preference shares are equity shares. In other words,
equity shares are entitled to dividend and capital after the payment of dividend and capital
on preference shares. Based on the types of shares, there are two types of capital:
o (i) Preference Share Capital
o (ii) Equity Share Capital
Procedure for Issue of Shares
The procedure followed for the issue of shares is as follows:
1. Issue of Prospectus - First of all, in order to give the prospective investors required
and relevant information, the company issues a statement called a prospectus. It also
contains information on the manner in which the amount of money will be collected.
2. Receipt of Applications - The company receives applications in response to its
prospectus through a scheduled bank.
3. Allotment of Shares - After the subscription is over and ‘minimum subscription’ is
received, the shares are allotted to the applicants within 120 days from the date of
prospectus. In case the minimum subscription is not received, the issue cannot proceed
with the allotment of shares, but the application money must be refunded to the
applicant within 130 days of the issue of the prospectus.
Debentures
The issue of debentures is another method of raising term loans from the public. A debenture
is an instrument acknowledging a debt by a company to a person or persons. Section 2 (12) of
the Indian Companies Act, 1956 defines a debenture as follows:
"Debenture includes debenture stock, bonds, and any other securities of the company whether
constituting a charge on the company’s assets or not."
A company can issue various types of debentures, viz. redeemable and irredeemable, registered
and bearer, secured and unsecured, and convertible and non-convertible debentures.
The procedure for the issue of debentures is, more or less, the same as those for the issue of
shares.
Difference between Shares and Debentures
The major points of distinction between shares and debentures are as follows:
1. Representation - A share represents a portion of capital whereas a debenture represents
a portion of debt of a company.
2. Status - A shareholder is a member of the company, but a debenture holder is a creditor
of the company.
3. Return - A shareholder is paid a dividend while a debenture holder is paid interest.
4. Right of Control - The shareholders have a right of control over the working of the
company whereas the debenture holders don’t have such a right.
5. Repayment - Debentures are normally issued for a specified period after which they
are repaid. But, such repayment is not possible in the case of shares.
6. Purchase - A company cannot purchase its own shares from the market, but it can
purchase its own debentures and cancel them.
7. Order of Repayment - In liquidation, debenture holders get priority in payment, but
shareholders are the last to get payment after all claims have been fully satisfied.

SOURCES OF SHORT-TERM FINANCE

Short-term finance is obtained for a period up to one year. These are required to meet the day-
to-day business requirements. In other words, short-term finance is obtained to meet the
working capital requirements of the enterprise.
The sources of short-term finance can include but not be confined to the following only:
1. Loans from Commercial Banks
2. Public Deposits
3. Trade Credit
4. Factoring
5. Discounting Bills of Exchange
6. Bank Overdraft and Cash Credit
7. Advances from Customers
8. Accrual Accounts
VENTURE CAPITAL
Venture capital is a form of financing especially designed for funding high-technology, high-
risk, and perceived high-reward projects. While a conventional financier seeks to fund projects
with proven technologies and already established markets, a venture capitalist provides funds
to entrepreneurs pursuing new and hitherto unexplored avenues and ideas. Thus, venture capital
helps new entrepreneurs translate their new ideas into commercial production. It especially
helps in financing high-technology projects and helps translate research and development into
production.
International Finance Corporation, Washington (IFCW) defines venture capital as equity
or equity-featured capital seeking investment in new ideas, new companies, new products, new
processes, or new services that offer the potential of high returns on investment. It may also
include investment in turnaround situations.
The origin of the concept of venture capital is traced back to 1946 with the establishment of
the American Research and Development Corporation of General Doriot. There is no looking
back since then. Now, it has become a new concept in the field of funding technology-based
projects. However, the concept of venture capital is of recent origin in India.
In India, the venture capital industry had its formal introduction in the Budget Speech of the
Finance Minister in 1988. Though extremely focused on a technology development objective,
the introduction recognized the need for the return of patient capital with the ability to
participate in high-risk projects in exchange for high rewards (Sivaloganathan and Rao 1996:
295-313). Coincidentally, at the same time, the Industrial Credit and Investment Corporation
of India Limited (ICICI) came forth with initiatives for addressing technology investment
deficits. As one such example of initiative, the Venture Capital Division was spun off into the
Technology Development and Information Company of India Limited (TDICI) which has since
emerged as a significant player and a pioneer in the field of venture capital industry in the
country.
Immediately after the Budget Speech announcement, a cess of 5 per cent was levied on all
payments for import of technology / know-how resulting in the creation of a sizable pool of
funds. The venture fund that was created out of this cess was to be administered by the
Industrial Development Bank of India (IDBI) for providing financial assistance to industrial
enterprises attempting commercial application of indigenous technology on adapting imported
technology to wider domestic applications. Besides, many of the development banks and
development finance institutions have also entered venture capital business in the recent years.
Going purely by the number of venture capital firms in India today, one could possibly argue
that there exists a venture capital industry in the country. It augurs well for future industrial
development of the country.
The Government of India issued some guidelines on November 18, 1988 mainly to promote a
broad framework for the operations of the venture capital companies in the country. The main
features of these guidelines are given hereunder:
1. All India Financial Institutions, the State Bank of India (SBI) and other scheduled banks
are eligible to float such a fund.
2. Minimum size of the fund should be ₹10 crores.
3. In the event of public issue, the promoters’ share is to be more than 40% of the issued
capital.
4. Foreign holding will be allowed up to 25% provided it comes from multilateral
international financial organisations, developmental institutions or mutual funds.
 5. The Non-Resident Indians (NRIs) investment is allowed up to 74% in the capital on a
non-repatriable basis and up to 25-40% on a repatriable basis.
6. Debt-equity ratio should be limited to 1:1.5.
7. Venture capital funds are not allowed to operate in money market operations, bill re-
discounting, portfolio investments and financial consultancy services.
8. The venture capitalist will pay tax at the rate of 20% on its dividend income and long-
term capital gains. But, an investor is entitled to tax exemption on dividends subject to
a maximum of ₹10,000 and will have to pay tax at 20% on capital gains.
EXPORT FINANCE
The term export finance refers to credit facilities and techniques of payments at the pre-
shipment and post-shipment stages. Export finance, whether short-term or medium term, is
provided exclusively by the Indian and foreign commercial banks which are the members of
the Foreign Exchange Dealer’s Association. The Reserve Bank of India (RBI) and the
Industrial Development Bank of India (IDBI) provide refinance facilities to the commercial
banks. Export-Import Bank of India (commonly known as EXIM Bank) also extends finance
to exporters and to overseas projects abroad joint ventures and construction projects abroad.
Pre-shipment Finance
Pre-shipment finance refers to the financial assistance provided to the exporters before actual
shipment of goods. Pre-shipment finance is provided to the exporters for the purposes like
purchase of raw materials, their processing and converting into finished goods and packaging
them. For these purposes, the following pre-shipment finance is made available:
1. Packaging credit
2. Advance against Incentives
3. Advance against Duty
Pre-shipment credits are granted by the banks under concessional rates of interest at 7.5 per
cent. Credit can be extended up to a maximum period of 6 months.
Post-Shipment Finance
Post-shipment finance may be as “any loan or advance granted or any other credit provided by
a bank to an exporter of goods from India from the date of extending the credit after shipment
of goods to the date of realization of export proceeds.” Thus, post-shipment finance serves as
a bridge loan for the period between shipment of goods and the realization of proceeds. Such
loan is usually provided for a maximum period of 6 months. Interest is charged at the rate of
8.65 per cent.
Business involves risk but export business is more prone to risks. With a view to reduce risk
element in export business, the government has set up the Export Credit and Guarantee
Corporation (ECGC) which provides export assistance in
Forms of business Ownership:
Sole Proprietorship
Forms of Business Ownership
Integral to these is the decision to choose upon the legal form of enterprise within the
framework of which the entrepreneur plans to operate his/her enterprise. Legal form of an
enterprise is necessary for various reasons. As and when the entrepreneur wishes to raise a loan,
a banker, a financial institution and even a private money lender like to know the ownership
form of the enterprise. Therefore, the entrepreneur needs to give serious thinking about what
legal form to choose for his/her new enterprise. What form of ownership will be chosen
depends upon the factors like one's personal capacity to take decisions, bear the risk, economic
soundness, educational attainment, etc. It is against this backdrop, this chapter describes the
various forms of business ownership or organisation, their comparative advantages and
disadvantages, selection of an appropriate form of ownership and the ownership form in small-
scale enterprises in India.
1 Sole Proprietorship
Proprietorship (also called sole trade organisation) is the oldest form of business ownership in
India. In a proprietorship, the enterprise is owned and controlled by one person. He is master
of his show. He sows, reaps, and harvests the output of his effort. He manages the business on
his own. If necessary, he may take the help of his family members, relatives and employ some
employees.
Features
The main features of proprietorship form of business can be listed as follows:
1. One Man Ownership: In proprietorship, only one man is the owner of the business.
2. No Separate Business Entity: No distinction is made between the business concern
and the proprietor. Both are one and the same.
3. No Separation between Ownership and Management: In proprietorship, ownership
rests with the proprietor himself/herself. The proprietor is a manager also.
4. Unlimited Liability: Unlimited liability means that in case the enterprise incurs losses,
the private property of the proprietor can also be utilized for meeting business losses,
obligations to outside parties.
5. Entire Profits or Losses to the Proprietor: Being the sole owner of the enterprise, the
proprietor enjoys all the profits earned and bears the full brunt of losses incurred by the
enterprise.
6. Less Formalities: A proprietorship business can be started without observing much
legal formalities. There are some businesses that too can be commenced even after
obtaining necessary manufacturing license and permits.
Advantages
The various advantages that proprietorship form of business offers are as follows:
 1. Simple Form of Organisation: Proprietorship is the simplest form of organisation. The
entrepreneur can start his/her enterprise after obtaining license and permits. There is no
need to go through the legal formalities. For starting a small enterprise, no formal
registration is statutorily needed.
2. Owner’s Freedom to Take Decisions: The owner, i.e. the proprietor is free to make all
decisions and reap all the fruits of his labour. There is no other person who can interfere
or weigh him down.
3. High Secrecy: Secrecy is another major advantage offered by proprietorship. This is
because the whole business is handled by the proprietor himself and, as such, the
business secrets are known to him only. Added to it, the proprietor is not bound to reveal
or publish his accounts. In present-day business atmosphere, the less a competitor
knows about one’s business, better off one is. What the competitors can make is
guesstimates only.
4. Tax Advantage: As compared to other forms of ownership, the proprietorship form of
ownership enjoys certain tax advantages. For example, proprietor’s income is taxed
only once while corporate income is, at occasion...
5. Easy Dissolution
In proprietorship business, the entrepreneur is all in all. As there are no co-owners or
partners, therefore, there is no scope for the difference of opinion in the case the
proprietor/entrepreneur wants to dissolve the business. It is due to the easy formation and
dissolution, proprietorship is often used to test the business ideas.
Disadvantages
Proprietorship form of ownership suffers from some disadvantages also. The important ones
are:

1. Limited Resources:
A proprietor has limited resources at his/her command. The proprietor mainly relies
on his/her funds and savings and, to a limited extent, borrowings from relatives and
friends. Thus, the scope for raising funds is highly limited in proprietorship. This, in
turn, deters the expansion and development of an enterprise.
2. Limited Ability:
Proprietorship is characterized as a one-man show. One man may be expert in one or
two areas, but not in all areas like production, finance, marketing personnel, etc. Thus,
due to the lack of adequate and relevant knowledge, the decisions taken by him may
be imbalanced.
3. Unlimited Liability:
Proprietorship is characterized by unlimited liability also. It means that in case of loss,
the private property of the proprietor will also be used to clear the business
obligations. Hence, the proprietor avoids taking risks.
4. Limited Life of Enterprise Form:
The life of a proprietary enterprise depends solely upon the life of the proprietor.
When he dies or becomes insolvent or insane or permanently incapacitated, there is
very likelihood of closure of enterprise. Say, enterprise also dies with its proprietor.
PARTNERSHIP
The proprietorship form of ownership suffers from certain limitations such as limited resources,
limited skill, and unlimited liability. Expansion in business requires more capital and
managerial skills and also involves more risk. A proprietor finds him unable to fulfill these
requirements. This calls for more persons coming together with different edges and starting a
business. For example, a person who lacks managerial skills but may have capital. Another
person who is a good manager but may not have capital. When these persons come together,
pool their capital and skills, and organize a business, it is called partnership. Partnership grows
essentially because of the limitations or disadvantages of proprietorship.
Let us consider a few definitions of partnership.
The Indian Partnership Act, 1932, Section 4, defined partnership as
"the relation between persons who have agreed to share the profits of business carried on by
all or any of them acting for all".
The Uniform Partnership Act of the USA defined a partnership "as an association of two or
more persons to carry on as co-owners a business for profit".
According to J. L. Hanson, "a partnership is a form of business organisation in which two or
more persons up to a maximum of twenty join together to undertake some form of business
activity".
Now, we can define partnership as an association of two or more persons who have agreed to
share the profits of a business which they run together. This business may be carried on by all
or anyone of them acting for all. The persons who own the partnership business are individually
called ‘partners’, and collectively they are called a ‘firm’ or ‘partnership firm’. The name under
which partnership business is carried on is called ‘Firm Name’. In a way, the firm is nothing
but an abbreviation for partners.
Main Features
Based on the above definitions, we can now list the main features of the partnership form of
business ownership/organisation in a more orderly manner as follows:
1. More Persons: As against proprietorship, there should be at least two persons subject
to a maximum of ten persons for banking business and twenty for non-banking business
to form a partnership firm.
2. Profit and Loss Sharing: There is an agreement among the partners to share the profits
earned and losses incurred in partnership business.
3. Contractual Relationship: Partnership is formed by an agreement—oral or written—
among the partners.
4. Existence of Lawful Business: Partnership is formed to carry on some lawful business
and share its profits or losses. If the purpose is to carry on charitable works, for example,
it is not regarded as partnership.
5. Utmost Good Faith and Honesty: A partnership business solely rests on utmost good
faith and trust among the partners.
 6. Unlimited Liability: Like proprietorship, each partner has unlimited liability in the
firm. This means that if the assets of the partnership firm fail to meet the firm’s
obligations, the partners’ private assets will also be used for the purpose.
7. Restrictions on Transfer of Share: No partner can transfer his share to an outside
person without seeking the consent of all other partners.
8. Principal-Agent Relationship: The partnership firm may be carried on by all
partners or any of them acting for all. While dealing with the firm’s transactions, each
partner is entitled to represent the firm and other partners. In this way, a partner is an
agent of the firm and of the other partners.
Advantages
As an ownership form of business, partnership offers the following advantages:
1. Easy Formation: Partnership is a contractual agreement between the partners to run
an enterprise. Hence, it is relatively easy to form. Legal formalities...
Advantages (continued)
More Capital Available: We have just seen that sole proprietorship suffers from the
limitation of limited funds. Partnership overcomes this problem to a great extent,
because now there are more than one person who provide funds to the enterprise. It also
increases the borrowing capacity of the firm. Moreover, lending institutions also
perceive less risk in granting credit to a partnership as compared to a proprietorship
because the risk of loss is spread over a number of partners rather than only one.
Combined Talent, Judgement and Skill: As there are more than one owners in
partnership, all the partners are involved in decision making. Usually, partners are
pooled from different specialized areas to complement each other. For example, if there
are three partners, one partner might be a specialist in production, another in finance
and the third in marketing. This gives the firm an advantage of collective expertise for
taking better decisions. Thus, the old maxim of “two heads being better than one”
(Cohn 1987:80) aptly applies to partnership.
Diffusion of Risk: You have just seen that the entire losses are borne by the sole
proprietor only but in case of partnership, the losses of the firm are shared by all the
partners as per their agreed profit-sharing ratios. Thus, the share of loss in case of each
partner will be less than that in case of proprietorship.
Flexibility: Like proprietorship, the partnership business is also flexible. The partners
can easily appreciate and quickly react to the changing conditions. No giant business
organisation can stifle so quick and creative responses to new opportunities.
2. Tax Advantage: Taxation rates applicable to partnership are lower than proprietorship
and company forms of business ownership.
Disadvantages
In spite of the above advantages, there are certain drawbacks also associated with the
partnership form of business organisation. Descriptions of these drawbacks or disadvantages
are as follows:

1. Unlimited Liability: In partnership firm, the liability of partners is unlimited. Just as

in proprietorship, the partners' personal assets may be at risk if the business cannot pay
its debts.

2. Divided Authority: Sometimes the earlier stated maxim of two heads better than one
may turn into "too many cooks spoil the broth." Each partner can discharge his
responsibilities in his concerned individual area. But, in case of areas like policy
formulation for the whole enterprise, there are chances for conflicts between the
partners. Disagreements between the partners over enterprise matters have destroyed
many a partnership.

3. Lack of Continuity: Death or withdrawal of one partner causes the partnership to come
to an end. So, there remains uncertainty in continuity of partnership.

Risk of Implied Authority:

Each partner is an agent for the partnership business. Hence, the decisions made by him bind
all the partners. At times, an incompetent partner may lend the firm into difficulties by taking
wrong decisions. Risk involved in decisions taken by one partner are to be borne by other
partners also. Choosing a business partner is, therefore, much like choosing a marriage mate
like partner.
Partnership Deed
By now, you have learnt that partnership is an agreement between persons to carry on a
business. The agreement entered into between partners may be oral or written. But, it is always
desirable to have a written agreement so as to avoid misunderstandings and unnecessary
litigations in future. When the agreement is in written form, it is called a "Partnership Deed."
It must be duly signed by the partners, stamped, and registered. Any alteration in partnership
deed can be made with the mutual consent of all the partners.
Although it is left to the choice of the partners of the firm to decide themselves as to what
should be mentioned in their partnership deed, yet a partnership deed generally contains the
following:
1. Name of the firm.
2. Nature of the business.
3. Names of partners.
4. Place of the business.
5. Amount of capital to be contributed by each partner.
6. Profit-sharing ratio between the partners.
7. Loans and advances from the partners and the rate of interest thereon.
8. Drawings allowed to the partners and the rate of interest thereon.
9. Amount of salary and commission, if any, payable to the partners.
10. Duties, powers, and obligations of partners.
11. Maintenance of accounts and arrangement for their audit.
12. Mode of valuation of goodwill in the event of admission, retirement, or death of a
partner.
Registration of the Firm
Under the Indian Partnership Act, 1932, the registration of the firm is not compulsory. Because
an unregistered firm suffers from certain limitations, hence the registration of the firm is
desirable. Registration can be done at any time.
The registration of a partnership firm involves the following procedure:
The firm will have to apply to the Registrar of Firms of the respective State Government in a
prescribed application form. The form should be duly signed by all the partners. The
application form should contain the following information:
1. The firm-name.
2. The name of business place.
3. Names of other places, if any, where the firm is carrying on its business.
4. Date of commencement of business.
5. Date when each partner joined the firm.
6. Full names and permanent addresses of all the partners.
7. The duration of the firm, if any.
When the Registrar of Firms is satisfied that all formalities relating to registration have been
fully complied with, he makes an entry in the Register of Firms. Thus, the firm is considered
to be registered. The Registrar issues a certificate called ‘Registration Certificate’ to the firm.
The Register of Firms remains open for inspection on payment of a prescribed fee for the
purpose.
Dissolution of Firm
There is a difference between the dissolution of a partnership and the dissolution of a firm.
Dissolution of a partnership occurs when a partner ceases to be associated with the business,
whereas the dissolution of a firm is the winding up of the business. In other words, in the case
of the dissolution of a partnership, the business of the firm does not come to an end, but there
is a new agreement between the remaining partners. But in the case of the dissolution of a firm,
the business of the firm is closed up. In brief, the dissolution of a partnership does not imply
the dissolution of a firm. But, the dissolution of a firm implies the dissolution of a partnership
also.
Following are the various ways in which a firm may be dissolved:
1. Dissolution by Agreement: The partnership firm may be dissolved in accordance with
a contract already made between the partners.
2. Compulsory Dissolution: A firm stands compulsorily dissolved under the following
circumstances:
(a) By the adjudication of all the partners or of all the partners but one as insolvent,
or
(b) By the happening of any such event that makes the business unlawful.
3. Dissolution due to Contingencies:
 A firm stands dissolved on the happening of any of the following contingencies:
(a) On expiry of partnership period, if constituted for a fixed period.
(b) On completion of the firm’s venture for which the... (text continues on next page)

Dissolution of Firm

There is a difference between the dissolution of a partnership and the dissolution of a firm.
Dissolution of a partnership occurs when a partner ceases to be associated with the business,
whereas the dissolution of a firm is the winding up of the business. In other words, in the case
of the dissolution of a partnership, the business of the firm does not come to an end, but there
is a new agreement between the remaining partners. But in the case of the dissolution of a
firm, the business of the firm is closed up. In brief, the dissolution of a partnership does not
imply the dissolution of a firm. But, the dissolution of a firm implies the dissolution of a
partnership also.
Following are the various ways in which a firm may be dissolved:
1. Dissolution by Agreement: The partnership firm may be dissolved in accordance
with a contract already made between the partners.
2. Compulsory Dissolution:
A firm stands compulsorily dissolved under the following circumstances:
(a) By the adjudication of all the partners or of all the partners but one as insolvent,
or
(b) By the happening of any such event that makes the business unlawful.
3. Dissolution due to Contingencies:
A firm stands dissolved on the happening of any of the following contingencies:
(a) On expiry of partnership period, if constituted for a fixed period.
(b) On completion of the firm’s venture for which the firm was formed.
(c) On the death of a partner.
(d) On the adjudication of a partner as an insolvent.
4. Dissolution by Court:
Under any of the following cases, a court may order the dissolution of a firm:
(a) Any partner has become of unsound mind.
(b) Any partner has become permanently incapable of performing his duties as a
partner.
(c) A partner’s misconduct is likely to affect prejudicially the business of the firm.
Settlement of Accounts on Dissolution
Settlement of accounts means the closure of all accounts in the books of the firm as the firm’s
business no longer exists. According to Section 48 of the Indian Partnership Act, 1932, the
procedure for the settlement of accounts after the dissolution of the firm is as follows:
The assets of the firm are disposed of, and the amounts so realized are applied in the
following manner:
i. Payment of debts due to third parties.
ii. Ratable payment of loans and advances made by the partners to the firm.
iii. Payment of partners’ capital.
iv. Payment of surplus, if any, to the partners in their profit-sharing ratio.
The losses of the firm on dissolution have to be made up:
i. First, out of accumulated past profits.
ii. Then, out of capitals of partners.
iii. Thereafter, out of contributions from the private estates of the partners in their profit-
sharing ratios.
It is important to mention that the private property of the partner is to be used first to pay his
private debts, and only the surplus, if any, can be used to pay firm’s liabilities. Similarly,
firm’s assets are first used to pay firm’s liabilities. Only surplus can be used to pay the
partner’s private liabilities.

COMPANY

You have seen above that in both proprietorship and partnership forms of ownership, resources
and the life of the organisation were limited and liabilities were unlimited. Given such a
situation, a developing industrial world needed a legal form of ownership that would provide
limited liability for the owners and perpetual life for the business. This is answered through the
company form of organisation. Therefore, what follows next is the meaning of a company, its
main features, advantages, and disadvantages.

Meaning

Let us first understand what a company is. A company is an artificial person being created by
the law that has an existence separate and apart from its owners. In other words, a company is
an artificial person created by law, with a distinctive name, a common seal and perpetual
succession of members. It can sue and be sued in its own name. Let us consider a few
definitions of company.

Definitions of a Company
The Indian Companies Act, 1956 defines a joint stock company as
"a company limited by shares having a permanent paid-up or nominal share capital of fixed
amount divided into shares also of fixed amount, held and transferable as stock, and formed
on the principles of having in its members only the holders of those shares or stocks and no
other persons."
One of the most widely quoted definitions of a company (called a corporation in the USA) is
given by Chief Justice Marshall, who states:
"A corporation is an artificial being, invisible, intangible and existing only in contemplation
of law. Being the mere creature of law, it possesses only those properties which the charter of
its creation confers upon it, either expressly or an incidental to its very existence."
Lord Justice Lindley defines a company as
"an association of many persons who contribute money or money’s worth to a common stock
and employ it for a common purpose. The common stock so contributed is denoted in money
and is the capital of the company. The persons who contribute it or to whom it belongs are
members. The proportion of capital to which each member is entitled is his share."
In brief, a company can be defined as an artificial (legal) person with its independent legal
entity.
Main Features of a Company

Based on the above definitions, given below are the main features of company form of
ownership:

1. Artificial Legal Person:

A company is an artificial person created by law. Though it has no body, no
conscience, still it exists as a person. Like a person, it can enter into contracts in its
own name and likewise may sue and be sued in its own name.
2. Separate Legal Entity:
A company has a distinct entity separate from its owners or shareholders. Therefore, a
shareholder of the company can enter into contract with the company. He/she can sue
the company and be sued by the company.
3. Common Seal:
Being an artificial person, a company cannot sign the documents. Hence, it uses a
common seal on which its name is engraved. Putting the common seal on papers
relating to the company's transactions makes them binding on the company.
4. Perpetual Existence:
Unlike partnership, the existence of a company is not affected by the death, lunacy,
insolvency or retirement of its members or directors. This is because the company
enjoys a separate legal existence from that of its members. It is said, "Members may
come, members may go but the company goes forever." It is created by law and is
dissolved by law itself.
5. Limited Liability:
The liability of the members of a company is normally limited to the amount of shares
held or guarantee given by them.
6. Transferability of Shares:
The member of a public limited company can sell his shares to others without the
consent of other shareholders.
7. Separation of Ownership from Management

Since shareholders, i.e., owners, being scattered all over the country, give the right to
the directors to manage the affairs of the company. The directors are the
representatives of the shareholders. Thus, ownership is separated from management.

8. Number of Members

In the case of a public limited company, the minimum number is seven, and there is
no maximum limit. But for a private limited company, the minimum number of
members is two, and the maximum number is fifty.
Private and Public Company
Private Company

Under Section 3 (i) (iii) of the Companies Act 1956, a private company has been defined
as a company which by its Articles of Association:
(a) Restricts the right to transfer the shares, if any,
(b) Limits the number of its members to fifty, and
(c) Prohibits any invitation to the public to subscribe for the shares or the debentures of
the company.
Public Company

Under Section 3 (i) (ii) of the Companies Act 1956, a public company is a company
that is not a private company. By implication, a public company is one that places no
restrictions by its Articles of Association on the transfer of shares or on the maximum
 number of members. It can invite the public to subscribe for its shares and debentures
and public deposits.

The distinctions between a private company and a public company have been detailed
in a more orderly manner in the following Table 16.1.

Bases of
Private Company Public Company
Difference
The minimum number of The minimum number of
1. Members members is two, and the members is seven, and there
maximum is fifty. is no maximum limit.
Minimum number of Minimum number of
2. Directors
directors needed is two. directors needed is three.
Filing of prospectus or a
Filing of Prospectus or a
statement ‘in lieu of
statement ‘in lieu of
3. prospectus’ with the
prospectus’ with the
Prospectus Registrar of Companies is
Registrar of Companies is
not necessary before the
necessary.
company can allot shares.
Two members need to sign
4. Seven members need to sign
the memorandum and
Documents the documents.
articles of association.

Bases of Difference Private Company Public Company

It may commence allotment of
It cannot commence allotment of
5. Allotment of shares before minimum
shares unless minimum subscription
Shares subscription has been applied
has been applied for.
for.
6. Commencement It can commence business soon It cannot commence business without
of Business after incorporation. obtaining a certificate to that effect.
7. Transfer of Transfer of shares is restricted by
Shares are freely transferable.
Shares the articles.
8. Filing of It need not file its Balance Sheet It must file its Balance Sheet with
Balance Sheet with the Registrar. the Registrar.
It need not hold the statutory
It must hold a statutory meeting
9. Statutory meeting nor is it necessary for it to
and forward the same to the
Meeting forward the statutory report to the
Registrar.
Registrar.
No provisions of the Companies
Act regarding appointment of These provisions apply to at least
10. Directors directors, their consent to act, or to three directors of a public
pay for qualification shares apply to company.
them.

Privileges of a Private Company

In spite of certain restrictions imposed on a private company, it enjoys certain privileges also
under the Companies Act. That is why a substantial number of entrepreneurs prefer to form a
private company. Following are the important privileges granted to a private company:

(i) For forming a private company, only two members are required.
(ii) A private company is required to have only two directors.
(iii) Such a company is not required to file a prospectus or a statement in lieu of a prospectus
with the Registrar of Companies.
(iv) It can commence its business immediately after incorporation.

(v) It is also not required to hold a statutory meeting nor is it required to file a statutory
report.

(vi) The directors of a private company are not required to give their consent to act or to take
up their qualification shares prior to their appointment.
(vii) A non-member cannot inspect the copies of the Profit & Loss A/c filed with the Registrar
of Companies.
(viii) Limit on payment of maximum managerial remuneration does not apply to a private
company.

(ix) Restrictions on appointment and reappointment of managing director do not apply to

such a company.

(x) A private company is not required to maintain an index of its membership.

Advantages

The important advantages of the company form of ownership are as follows:

1. Limited Liability: The liability of shareholders, unless and otherwise stated, is

limited to the face value of shares held by them or the guarantee given by them.

2. Perpetual Existence: Death, insanity, or insolvency of shareholders or directors do

not affect the company’s existence. A company has a separate legal entity with
perpetual succession.

3. Professional Management: In company business, the management is in the hands of

the directors who are elected by the shareholders and are well-experienced persons. In
order to manage the day-to-day activities, salaried professional managers are
appointed. Thus, the company business offers professional management.

4. Expansion Potential: As there is no limit to the maximum number of shareholders in

a public limited company, expansion of business is easy by issuing new shares and
debentures. Companies normally use their reserves for expansion purposes.

5. Transferability of Shares: If the shareholders of a company are displeased with the

progress of the business, they can sell their shares at any time. During all this change
of ownership, the business continues to operate.
6. Diffusion of Risk: As the membership is very large, the whole business risk is
divided among the several members of the company. This is an advantage,
particularly for small investors.

Disadvantages
In spite of its several advantages, the company form of ownership also suffers from some
disadvantages. The important ones are:
1. Lack of Secrecy: As per the legal provisions, a company has to make various
statements available to the Registrar of Companies, Financial Institutions, and the
general public. It is further reduced when the company provides its annual report to the
shareholders, as the competitors also find out the details of its financial data.
 2. Restrictions: Compared to proprietorship and partnership, a company has to comply
with more legal requirements. It consumes considerable time and effort.
3. Management Mischiefs: Sometimes, the managers and directors misuse the company
resources for their personal benefits. This brings losses to the company and company is
closed.
4. Lack of Personal Interest: Unlike proprietorship and partnership, the day-to-day
affairs of a company are looked after by salaried managers. Since they are employees,
not the owners, they do have hardly any personal interest and commitment in the
company. This may result in inefficiency and, in turn, losses.

COOPERATIVE

Cooperative is yet another form of business ownership. The co-operative form of

organisation is based on the philosophy of self-help and mutual help. It differs from the
other three forms of business ownership. The basic difference is a cooperative
organisation aims at rendering services in place of earning profits. The meaning of
cooperative can be understood better with the help of some definitions on it.
The Indian Cooperative Societies Act, 1912, Section 4, defined cooperative as “a
society which has its objective of promotion of economic interests of its members in
accordance with cooperative principles”.
According to International Labour Organisation, “Co-operative organisation is an
association of persons, usually of limited means, who have voluntarily joined together
to achieve a common economic end through the formation of a democratically
controlled business organisation, making equitable contributions to the capital required
and accepting a fair share of risks and benefits of the undertaking”.
Thus, we can now define cooperative as a voluntary organisation of those who are
economically weak to stand on their own legs. They come together not to earn profits
but improve their common economic interests through business propositions. The basic
objectives of such organisations are self-help and mutual help.
A cooperative organisation needs to be registered with the Registrar of Co-operative
Societies of the State in which the society’s registered office is located. It should have
a minimum of 10 members and no limit for maximum number of members. The
members are the owners. They contribute capital to the organisation and get dividends.
The liability of the members is limited.
Main Features
Based on the above definitions, we can now list out the main features of the cooperative form
of business ownership as follows:
1. Voluntary Organisation: Cooperative societies are voluntary organisations, open to
all who have a common interest. A person can join a cooperative society as and when
he likes, continue for as long as he likes, and leave the society at his will.
2. Democratic Management: A cooperative society is managed by a managing
committee which is elected by the members on the basis of 'one member, one vote'.
Each member has equal rights to express his opinion.
3. Service Motive: The primary objective of a cooperative society is to provide service
to its members. Profit is not the main motive, although it may be essential to support
the activities of the society.
4. Capital and Return Thereon: The capital of a cooperative society is raised from its
members through the issue of shares. However, the return on capital is generally
limited. A member gets a dividend as a return on his capital, which does not exceed 10
percent per annum.
5. Government Control: In India, the formation, management, and winding up of
cooperative societies are governed by the Cooperative Societies Act and the rules made
thereunder. Thus, cooperative societies are subject to a certain amount of government
regulation and control.
6. Distribution of Surplus: The surplus (i.e., profit left after meeting the expenses) of
a cooperative society is distributed among its members. The members generally decide
the basis of distribution of surplus in the annual general meeting. Usually, the major
part of the surplus is not distributed among the members but is kept in the general
reserve for the development and expansion of the society.

Advantages

You have learnt the main features of co-operative form of business organisation. In
view of these features, this form of ownership offers the following advantages:

1. Easy Formation: Compared to the formation of a company, formation of a

cooperative society is easy. Any ten adult persons can voluntarily form themselves into
an association and get it registered with the Registrar of Co-operatives. The formation
of a cooperative society also does not involve long and complicated legal formalities.

2. Limited Liability: Like company form of ownership, the liability of members is

limited to the extent of their capital in the cooperative societies.

3. Perpetual Existence: A cooperative society has a separate legal entity. Hence, the
death, insolvency, retirement, lunacy, etc., of the members do not affect the perpetual
existence of a cooperative society.

4. Social Service: The basic philosophy of cooperatives is self-help and mutual help.
Thus, cooperatives foster fellow feeling among their members and inculcate moral
values in them for a better living.

5. Open Membership: The membership of cooperative societies is open to all

irrespective of caste, color, creed, and economic status. There is no limit to the
maximum number of members.

6. Tax Advantage: Unlike other forms of business ownership, a cooperative society is

exempted from income tax and surcharge on its earnings up to a certain limit. Besides,
it is also exempted from stamp duty and registration fees.

7. State Assistance: The government has adopted cooperatives as an effective

instrument of socio-economic change. Hence, the government offers a number of
 grants, loans, and financial assistance to cooperative societies to make their working
more effective.

8. Democratic Management: The management of cooperative societies is entrusted to

the managing committee duly elected by the members on the basis of 'one member, one
vote,' irrespective of the number of shares held by them. Proxy is not allowed in
cooperative societies. Thus, the management in cooperatives is democratic.

Disadvantages

In spite of its numerous advantages, cooperatives also have some disadvantages which
must be seriously considered before opting for this form of business ownership. The
important disadvantages are:

1. Lack of Secrecy: A cooperative society has to submit its annual reports and accounts
to the Registrar of Cooperative Societies. Hence, it becomes quite difficult for it to
maintain the secrecy of its business affairs.

2. Lack of Business Acumen:The members of cooperative societies generally lack

business acumen. When such members become the members of the Board of Directors,
the affairs of the society are not conducted efficiently. They cannot employ professional
managers because it is neither compatible with their avowed ends nor do the limited
resources allow for the same.

3. Lack of Interest:The paid office-bearers of the cooperative do not take personal

interest in the functioning of the society's affairs.

Selection of an appropriate form of ownership structure:

In a way, selecting one best form of business ownership is like looking for a shirt that
may fit everybody in the family. The best form of ownership is one which helps an
entrepreneur attain the business objectives decided upon by him/her. While selecting
the best form of business ownership, the entrepreneur should keep the following
considerations in his/her mind:
1. Nature of Business: The selection of an appropriate form of business ownership
depends upon, to a great extent, the nature of the proposed business itself. For example,
the businesses that require personal attention and skill for their success are usually
organised as proprietary concerns. Business requiring pooling of large funds and skills
are generally run as partnership firms. For business involved in large-scale production,
the company form of business ownership is preferred.
2. Area of Operations: The area of business operation has also an important bearing on
the selection of the form of business ownership. If the operation of a business is
confined to an area or locality only, the appropriate form of ownership will be
proprietorship. On the contrary, in case the area of operation is widespread catering to
national and international markets, the suitable form of business ownership may be a
company.
3. Degree of Control: In case, direct control over business operations is required, the
suitable form of ownership may be proprietorship or partnership. In case direct control
over business operations is not needed, the best form of business ownership will be a
company.
4. Capital Requirements: The capital required in the business also determines the
selection of business ownership. If business requires a small amount of capital, the best
form of ownership may be either proprietorship or partnership. In case of huge capital
requirements, the company form of ownership will be the best.
5. Extent of Risk and Liability: Business involves risk. If an entrepreneur is ready and
capable to bear risk involved in business, he can organise his business on proprietorship
or partnership. But if the entrepreneur is hesitant to bear the risk involved in business,
he/she can go for a company where individual risk is limited.
6. Duration of Business: If business is proposed for a definite duration and on an ad hoc
basis, proprietorship or partnership are better forms of business ownership. The reason
is that they are easy to form and dissolve. In case, the business is to be run on permanent
basis, it can be organized as a company or a cooperative.
7. Government Regulations: If an entrepreneur does not like much government
involvement in his/her business, he can select proprietorship or partnership as the form
of his business ownership instead of a company or cooperative where the government
rules and regulations apply more.

Institutional Finance of entrepreneurs

NEED FOR INSTITUTIONAL FINANCE

By now you have already learnt how an entrepreneur gets his/her business enterprise
established. This is just one step over in the process of enterprise development. In order
to actually make the enterprise running, the entrepreneur needs to undertake some more
activities. For example, he/she needs to procure material, machinery, men, etc. to
produce some product(s).
Finance is required to procure all these inputs and resources required to run an
enterprise. For example, it is finance only that enables an entrepreneur to buy raw
material or input from someone, purchase machinery and equipment from someone
else, hire manpower from labour market, meet day-to-day business expenses and others.
These resources and inputs can not be procured without finance.
The fact remains that it is the availability of finance that keeps the enterprise wheel on,
or say, that keeps enterprise running on continuous basis. It is due to this vital role of
finance in enterprise running, finance is regarded as life-blood of an enterprise.
Now an important question arises is where does this finance come from? Alternatively
speaking, what are the sources of entrepreneurial finance?
There are two major sources of entrepreneurial finance: entrepreneur’s own funds and
funds from outside like financial institutions. There is ample research evidence
available to state that the scope for entrepreneur’s own funds is highly limited. The
reason is not difficult to seek.
Majority of entrepreneurs are unemployed before assuming to entrepreneurial career.
As such, they lack in their own funds required to run the enterprise. Therefore, they
depend on outside funds required to run their enterprises. The result is either some
prospective entrepreneurs give up the idea to start their enterprises or start enterprises
with inadequate funds. The consequence is the enterprises suffer from inadequate funds
since beginning itself. Such a state of enterprise affairs is just like enterprise
malnutrition. Thus, the future of enterprise is a common man's guess: sickness and
closure. An idea about the magnitude of this problem can be had from the fact that about
10 per cent of total small enterprises in the country are sick of which 90 per cent units
have become non-viable, i.e., the incidence of sickness has advanced to the extent
beyond repair. Lack of funds has been found one of the major causes of sickness in
small enterprises As stated earlier, lack of funds causes malnutrition to small enterprises
which, in turn, leads to high infant mortality rates among the small enterprises .
In view of above, there is a need for extending financial support to entrepreneurs so that
they do not suffer from shortage of funds and, in turn, do not fall prey to sickness and
 ultimately closure. Thus, the need for institutional finance for small entrepreneurs can
be imbued with multiplicity of justifications in a more orderly manner as follows:
• Small enterprises in India are literally small in size and resources including financial
resources.
• Due to the lack of own funds, small entrepreneurs fall prey to local money lenders who
are generally known as exploiters by charging exorbitant high rate of interest.
• Burden of high interest rate on borrowed capital from local money lenders, on the one
hand, and failure of entrepreneurs in repaying loans due to their weak financial position,
on the other, makes their financial position the more vulnerable.
• Failure in repaying loans in extreme cases leads the money lenders to usurp the assets
of small entrepreneurs.
• Availability of funds from local money lenders is, moreover, uncertain and untimely
also.
• Small entrepreneurs need protective finance under set rules and regulations not the
exploitative finance without any prescribed rules and regulations.

Finance is one of the essential requirements of any enterprise. Small entrepreneurs, therefore,
need to know very clearly about the type and extent of their financial requirements. Integral to
financial requirements is to know about the possible alternative sources from which finance
can be availed of. Given the shortage or lack of entrepreneurs’ own funds/resources, the
Government of India, as a part of its policy of promotion of small-scale sector in the country,
has set up a host of institutions to meet the financial requirements of small entrepreneurs. The
present Chapter is, therefore, devoted to discuss the financial assistance given by various
institutions to small entrepreneurs to set up their enterprises.
INSTITUTIONAL FINANCE
For the convenience of presentation, we have classified the institutional finance available to
the entrepreneurs under two broad categories:
1. Commercial Banks
2. Other Financial Institutions
A detailed description on both follows in seriatim.
1. Commercial Banks
The Scheduled Commercial Banks (SCBs) in the country (288) comprise the State Bank of
India and its associated banks, nationalized banks, private sector banks, regional rural banks
(RRBs), and foreign banks. Presently, the total number of branches of SCB stands at 62,067,
of these 35,060 (56.5% of the total) are in rural areas.
For a long period, commercial banks did not come forward to extend financial assistance to the
small-scale industries because of the SSIs' weak economic base. The first lead in this regard
was taken by the State Bank of India (SBI), in consultation with the Reserve Bank of India
(RBI), in March 1956, by setting up a pilot scheme for the provision of credit for small-scale
industries.
In the beginning, the scheme was confined to 9 branches of the SBI which was later extended
to its all branches. The commercial banks started taking initiative in financing SSIs in a greater
way only after the bank nationalization in July 1969. Normally the commercial banks provide
assistance for working capital requirements of SSIs.
Over the years, they have also started providing ‘term’ finance as is indicated by the data
compiled by the RBI that of all the advances given to SSIs by the commercial banks, the share
of the term loan accounted for nearly 30%. A notable feature in the financing of SSIs has been
the introduction of the Lead Bank Scheme by the RBI. Under this scheme, each district has
been allotted to one scheduled commercial bank for intensive development of banking
facilities.
The introduction of Credit Guarantee Scheme (CGS) in 1960 was a big fillip in the field of
commercial bank financing to SSIs. Initially, this scheme was introduced in 22 districts on an
experimental basis.
Later, it was extended to all over the country. Further, the RBI set up a committee under the
Chairmanship of Shri P. R. Nayak, to look into the adequacy of institutional credit to SSIs.
Based on the recommendations of the committee, the RBI introduced a special package of
measures for financing SSIs and advised banks to take various measures aimed at increasing
the credit flow to the SSIs and arresting the problem of sickness in the small-scale industrial
sector..
Other Financial Institutions
Industrial Development Bank of India (IDBI)
Prior to 1964, there was not any apex organization to coordinate the functions of various
financial institutions. Then V. V. Bhatt (1974: 151) rightly pointed out that the country needed
a central development banking institution for providing "dynamic leadership in the task of
promoting a widely diffused and diversified and yet viable process of industrialization." It was
to fulfill this objective, the Government of India for the first time on July 1, 1964 established
the Industrial Development Bank of India (IDBI) under the Act of Parliament as an apex
principal financial institution to coordinate the financial functions of various financial
institutions in the country. Initially, it was set up as wholly-owned subsidiary of the Reserve
Bank of India. In February 1976, the IDBI was made an autonomous institution and its
ownership passed on from the Reserve Bank of India to the Government of India.
As it is not feasible for the IDBI to reach a large number of small-scale industries scattered all
over the country, the flow of its assistance to the vast number of small-scale industries has,
therefore, been indirect in the form of refinancing of loans granted by banks and the State
Financial Corporations (SFCs).
That the IDBI has shown its particular interest in the development of small-scale industries is
demonstrated by the setting up of the Small Industries Development Fund (SIDF) in May 1986,
the National Equity Fund Scheme (NEFS) in 1988, and the Voluntary Executive Corporation
Cell (VECC) for providing support in the nature of equity to tiny and small-scale industries
engaged in manufacturing, cost not exceeding ₹5 lakhs. The scheme is administered by the
IDBI through nationalized banks. The IDBI has also introduced the single-window assistance
scheme for grant of term-loans and working capital loans to new, tiny, and small-scale
enterprises. As per data available, IDBI has extended about one-third of total industrial
assistance to small-sector alone.
In order to make the IDBI's coordinating role more effective, the Narasimham Committee
(1991) has suggested that the IDBI should give up its direct financing function and perform
only promotional apex and refinancing role in respect of other institutions like SFCs and
SIDBI. The direct lending function should be entrusted to a separate finance company
especially set up for this purpose.

Industrial Finance Corporation of India Ltd. (IFCI)

The Government of India set up the Industrial Finance Corporation of India (IFCI) under IFCI
Act in July 1948. Since July 1, 1993, it has been brought under Companies Act, 1956. The IFCI
extends financial assistance to the industrial sector through rupee and foreign currency loans,
underwriting / direct subscriptions to shares/debentures and guarantees and also offers financial
services through its facilities of equipment procurement, equipment finance, buyers' and
suppliers' credit, equipment leasing and finance to leasing and hire purchase companies.
 It also provides merchant banking with its Head Office in Delhi and a bureau in Mumbai.
The financial resources of the IFCI are constituted of the following three components: (i) Share
capital, (ii) Bonds and Debentures; and (iii) Other Borrowings. The IFCI started its lending
operations on a modest scale in 1948. In recent years, the IFCI has started new promotional
schemes, such as (a) interest subsidy scheme for woman entrepreneurs; (b) consultancy fee
subsidy schemes for providing marketing assistance to small-scale industries; (c) encouraging
the modernization of tiny, small-scale, ancillary units; and (d) control of pollution in the small
and medium-scale industries. The IFCI has also shown its increasing concern in the
development of backward districts.
No doubt, the IFCI has experienced impressive performance over the years. At the same time,
it is also true that there are certain flaws in its functioning which have invited criticism from
different quarters. To quote: (i) The IFCI’s lending operations have encouraged the
concentration of wealth and capital. It still pursues a discriminatory policy to the disadvantage
of medium and small-scale units. (ii) There are great delays in sanctioning of loans and, then
making the amount of the loan available. (iii) The IFCI has failed to exercise necessary control
over the defaulting and misusing borrowers.
Industrial Credit and Investment Corporations of India Ltd. (ICICI)
Industrial Credit and Investment Corporations of India Ltd. (ICICI) was set up in January 1955
under the Indian Companies Act with the primary objective of developing small and medium
industries in the private sector. Its issued capital has been subscribed by the Indian banks,
insurance companies, and the individuals and the Corporations of the United States, the British
Eastern Exchange Bank, and other companies and the general public in India.
The ICICI performs the following functions:
1. It provides assistance by way of rupee and foreign currency loans, underwriting, and direct
subscriptions to shares/debentures.
2. It offers a variety of financial services such as deferred credit, leasing credit, installment sale,
asset credit, and venture capital.
3. It guarantees loans from other private investment sources.

The ICICI has recently set up a Merchant Banking Division which is working very creditably.
It has also set up ICICI Asset Management Company Ltd. in June 1993 to operate the schemes
of the ICICI Mutual Fund. Besides, another subsidiary called ICICI Inventors Services Ltd.
(March 1994) and ICICI Banking Corporations Ltd. (January 1994) have also started
operations.

The ICICI assists all sectors, that is, the private sector, the joint sector, the public sector, and
the cooperative sectors. It is worth mentioning that the private sector, mainly comprising of
small-scale industries, continued to claim the largest share (90.1%) of ICICI sanctions.

Industrial Reconstruction Bank of India (IRBI)

The Government of India set up the Industrial Reconstruction Corporation of India (IRCI) in
April 1971 under the Indian Companies Act mainly to look after the special problems of ‘sick’
units and provide assistance for their speedy reconstruction and rehabilitation. In August 1984,
the Government of India passed an Act converting the Industrial Reconstruction Corporation
of India (IRCI) into the Industrial Reconstruction Bank of India (IRBI). The IRBI had to
function as the principal all-India credit and reconstruction agency for the revival, assisting,
and promoting industrial development and rehabilitating industrial concerns.

The IRBI had diversified its activities into ancillary lines such as consultancy services,
merchant banking, and equipment leasing. All these activities allied to its task of rehabilitation
of sick industrial units. Through its merchant banking services, IRBI enables units in the
process of amalgamation, merger, and reconstruction. Equipment leasing was, in fact, an
extension of the IRBI hire-purchase scheme.
State Financial Corporations (SFCs)

With an objective to cater to the financial requirements of a large number of small-scale units,
the State Financial Corporation Act was passed by the Parliament on September 28, 1951,
under which the State Financial Corporation (SFCs) could be set up. The first SFC was set up
in Punjab in 1953. Today, there are in all 21 SFCs in the country which exist almost in every
State and Union Territory (UT) of the country. The management of the State Financial
Corporation comprises of a board of directors, a Managing Director, and an Executive
Committee. An SFC can open its offices at different places within the state.

The SFCs provide long-term finance to small and medium-sized industrial units organized as
proprietorship, partnership, cooperative, public or private companies. The SFCs also grant
financial assistance to hotels, transport operators, and other enterprises.

State Industrial Development Corporations (SIDCs)

The State Industrial Development Corporations (SIDCs) were incorporated under the
Companies Act, 1956, in the sixties and early seventies as wholly-owned State Government
Undertakings for promoting industrial development in the country. The main functions of
SIDCs are to provide assistance in the form of term-loans, underwriting direct subscription to
shares/debentures.

Small Industries Development Bank of India (SIDBI)

With a view to ensuring a larger flow of financial and non-financial assistance to the small-
scale sector, the Government of India set up the Small Industries Development Bank of India
(SIDBI) under a special Act of the Parliament in October 1989 as a wholly-owned subsidiary
of the IDBI. The bank commenced its operations from April 2, 1990, with its head office in
Lucknow. The SIDBI has taken over the outstanding portfolio of the IDBI relating to the small-
scale sector.

The important functions performed by SIDBI include:

1. To initiate steps for technological upgradation and modernisation of existing units.

2. To expand the channels for marketing the products of the SSI sector in domestic and
international markets.
3. To promote employment-oriented industries especially in semi-urban areas to create
more employment opportunities and thereby checking migration of people to urban
areas.

Export-Import Bank of India (EXIM Bank)

The Export-Import Bank of India, commonly known as the EXIM Bank, was set up on January
1, 1982, to take over the operations of the international finance wing of the IDBI and to provide
financial assistance to exporters and importers to promote India’s foreign trade. It also provides
refinance facilities to the commercial banks and financial institutions for their export-financing
activities. The important functions of the Exim Bank are as follows:

1. Financing of export and import of goods and services both of India and outside India.
2. Providing finance for joint ventures in foreign countries.
3. Undertaking merchant banking functions of companies engaged in foreign trade.
4. Providing technical and administrative assistance to the parties engaged in the export
and import business.
5. Offering buyers’ credit and lines of credit to the foreign governments and banks.
6. Providing advance information and business advisory services to Indian exports in
respect of multilaterally funded projects overseas.
During the year 1994-95, the EXIM Bank introduced the ‘Clusters of Excellence’ programme
for upgradation of quality standards and obtaining ISO 9000 certification in various parts of
the country. The Bank also entered into a framework cooperation agreement with the European
Bank for Reconstruction and Development (EBRD) for acquiring advance information on
EBRD-funded projects in order to enter into co-financing proposals with EBRD in Eastern
Europe and CIS.

With a view to promoting exports, EXIM Bank has introduced the following three schemes:

1. Production Equipment Finance Programme

2. Export Marketing Finance
3. Export Vendor Development Finance

Institutional Support to Entrepreneurs

"Financial assistance and concessions cannot, in any case, adequately compensate for lack of
infrastructure such as transport and communication."

Integral to finance is support available to entrepreneurs from various institutions. Finance and
support are just like legs on an enterprise, necessary for the enterprise to function effectively.
Both are also needed to see that availability of finance is a necessary condition but not the only
condition to make an enterprise run effectively. Non-financial support is also equally necessary
to make an enterprise function smoothly. The reason is not difficult to seek. Availability of
finance on soft terms cannot duly compensate for the lack of infrastructural facilities.

Need for Institutional Support

Starting a business or industrial unit requires various resources and facilities. Small-scale
enterprises, given their small resources, find it difficult to have all these resources and facilities
on their own. Finance has been an important resource to start and run an enterprise because it
facilitates the entrepreneurs to procure land, labour, material, machine, and so on from different
parties to run their enterprises. Hence, finance is considered as "life-blood" for an enterprise.
Recognizing it, the Government through her financial institutions and nationalized banks, has
come forward to help small entrepreneurs by providing them funds called ‘developmental
funds’ on easy and liberal terms and conditions. Admittedly, finance is an important resource
but not the only condition to run an enterprise.

In order to start any economic activity, a minimum level of prior built-up of infrastructural
facilities is needed. Financial assistance and concessions cannot, in any case, adequately
compensate for the deficiencies of infrastructure such as transport and communication. This is
one of the reasons why industries have not been developing in backward areas in spite of
financial assistance and concessions given by the Government to the entrepreneurs to establish
industries there.

Creation of infrastructural facilities involves huge funds which the small entrepreneurs do lack.
In view of this, various central and state Government institutions have come forward to help
small entrepreneurs in this regard by providing them various kinds of support and facilities.
Availability of the institutional support helps make the economic environment more conducive
to business or industry. Therefore, presenting in this chapter an overview of various kinds of
support and facilities provided by various institutions to the entrepreneurs to help them
establish and run their enterprises.

Institutional Support to Small Entrepreneurs

[Link] Small Industries Corporation Ltd (NSIC)

The National Small Industries Corporation Ltd. (NSIC), an ISO 9000 certified company, since
its establishment in 1955, has been working to fulfill its mission of promoting, aiding and
fostering the growth of small-scale industries and industry-related small-scale
services/businesses in the country. Over a period of six decades of transition, growth and
development, the NSIC has proved its strength within the country and abroad by promoting
modernization, upgradation of technology, quality consciousness, strengthening linkages for
small and medium enterprises and enhancing export projects.

At present, the NSIC operates through 6 Zonal Offices, 26 Branch Offices, 15 Sub-offices, 5
Technical Services Centres, 3 Extension Centres, and 2 Software Technology Parks supported
by a team of over 5000 professionals spread across the country. To manage operations in Gulf
and African countries, the NSIC operates from its offices in Dubai and Johannesburg.
Functions of NSIC
NSIC provides a wide range of services, predominantly promotional in character, to small-
scale industries. Its main functions are to:
• Provide machinery on hire-purchase scheme to small-scale industries.
• Provide equipment leasing facility.
• Help in export marketing of the products of small-scale industries.
• Participate in the bulk purchase programme of the Government.
• Develop prototype of machines and equipment to pass on to small-scale industries for
commercial production.
• Distribute basic raw material among small-scale industries through raw material
depots.
• Help in development and up-gradation of technology and implementation of
modernization programmes of small-scale industries.
• Impart training in various industrial trades.
• Set up small-scale industries in other developing countries on a turnkey basis.
• Undertake the construction of industrial estates.

NSIC carries forward its mission to assist small enterprises with a set of specially tailored
schemes designed to put them in competitive and advantageous positions. The schemes
comprise of facilitating marketing support, credit support, technology support, and other
support services. These are discussed in seriatim as follows:
Marketing Support
Marketing, a strategic tool for business development, is critical to the growth and survival of
small enterprises in today’s intensely competitive market. NSIC acts as a facilitator to promote
small industries' products and has devised a number of schemes to support small enterprises in
their marketing efforts, both in and outside the country.
Consortia and Tender Marketing:
Small enterprises in their individual capacity face problems to procure and execute large orders,
which inhibit and restrict their growth. NSIC accordingly adopts a Consortia approach and
forms consortia of units manufacturing the same products; thereby easing marketing problems
of SSIs. NSIC explores the market and secures orders in bulk quantities. These orders are then
distributed to small units in tune with their production capacity.
Single Point Registration for Government Purchase:
NSIC operates a Single Point Registration Scheme under the Government Purchase
Programme, wherein registered SSI units get purchase preference in Government Purchase
Programme, exemption from payment of Earnest Money Deposit, etc. The units registered
under this scheme get the following facilities:
• Issue of tender sets free of cost.
• Advance intimation of tenders issued by DGS&D.
• Exemption from payment of earnest money.
• Waiver of security deposit, up to the monetary limit for which the unit is registered.
• Issue of competency certificate in case the value of an order exceeds the monetary limit,
after due verification.
Exhibitions and Technology Fairs:

To showcase the competencies of Indian SSIs and to capture market opportunities, NSIC
participates in select International and National Exhibitions and Trade Fairs every year. NSIC
facilitates the participation of small enterprises by providing concessions in rental, etc.
Participation in these events exposes SSI units to international practices and enhances their
business skills.

Buyer-Seller Meets:

Bulk and departmental buyers such as the Railway, Defence, Communication departments, and
large companies are invited to participate in buyer-seller meets to enrich SSI units' knowledge
regarding terms and conditions, quality standards, etc., required by the buyer.

Export of Products and Projects:

NSIC is a recognized export house and exports products and projects of small industries of
India to other countries. The major areas of operation are:

• Exports of products such as handicrafts, leather items, hand tools, pipes/fittings,

builders’ hardware, etc.
• Supply of small industry products on a turnkey basis.

Credit Support

NSIC provides credit support to small enterprises in the following areas:

Equipment Financing:

The Corporation is facilitating small enterprises in securing loans for the purchase of equipment
and machinery.

Tie-up with Commercial Banks:

To meet the credit requirements of small enterprises, NSIC has tied up with commercial banks
for the sanction of term loans and working capital facilities as per the convenience of the small
enterprises. The accredited small enterprises under the performance and credit rating scheme
of NSIC will stand a good chance to get credit from these commercial banks at liberal rates.

Financing for Procurement of Raw Material (Short-Term):

NSIC’s Raw Material Assistance Scheme aims at helping small-scale industries/enterprises by

way of financing the purchase of raw material (both indigenous and imported). The salient
features of the scheme are:

• Financial assistance for procurement of raw materials up to 90 days.

• Bulk purchase of basic raw materials at competitive rates.
• NSIC facilitates the import of scarce raw materials.
• NSIC takes care of all the procedures, documentation & issue of a letter of credit in
case of imports.

Financing of Marketing Activities:

NSIC facilitates financing of marketing activities such as Internal Marketing, Exports, and Bill
Discounting, Finance through syndication with banks. In order to ensure smooth credit flow to
small enterprises, NSIC is entering into strategic alliances with commercial banks to facilitate
long-term/working capital financing of small enterprises across the country. The arrangement
envisages forwarding loan applications of interested small enterprises by NSIC to the banks
and sharing the processing fee.
Performance and Credit Rating Scheme for Small Industries:
By providing a performance and credit rating scheme, NSIC enables small enterprises to know
the strengths and weaknesses of their existing operations and take effective measures to
enhance their organizational strength. The scheme is operated through empanelled agencies
like CARE, CRISIL, ICRA ONICRA, and FITCH. Small enterprises have the liberty to choose
among any of the rating agencies empanelled with NSIC. Rating agencies will charge the credit
rating according to their policies. The benefits the small enterprises derive from these agencies
are as follows:

• An independent, trusted third-party opinion on capabilities and creditworthiness of SSI

units.
• Facilitate prompt credit decisions from banks on proposals of SSI units.
• 75% of the credit rating fee subject to a maximum of ₹25,000/- will be reimbursed to
the small enterprise having a turnover up to ₹50 lakh by way of grants.
• 75% of the credit rating fee subject to a maximum of ₹30,000/- will be reimbursed to
the small enterprise having a turnover above ₹50 lakh to ₹200 lakh by way of grants.
• 75% of the credit rating fee subject to a maximum of ₹40,000/- will be reimbursed to
the small enterprise having a turnover above ₹200 lakh by way of grants.
• The accredited small enterprises under the scheme will benefit from commercial banks.
• The credit rating also improves the market image of the small enterprise in domestic
and international markets.
Technology Support
Technology is the key to enhancing an enterprise’s competitive advantage in today’s dynamic
information age. Small enterprises need to develop and implement a technology strategy in
addition to financial, marketing, and operational strategies and adopt the one that helps
integrate their operations with their environment, customers, and suppliers.
NSIC offers small enterprises the following support services through its Technical Services
Centers and Extension Centres:
1. Advising on application of new techniques.
2. Material testing facilities through accredited laboratories.
3. Product design including CAD.
4. Common facility support in machining, EDM, CNC, DNC etc.
5. Energy and environment services at selected centres.
6. Classroom and practical training for skill upgradation.
Support Services
NSIC provides the following support services to small-scale enterprises:
Infomediary Services:
Information plays a vital role in the success of any business. Recognizing the importance
of information and its relevance to SSI units, NSIC provides Infomediary Services to small
units. Besides hosting a website, NSIC hosts sector-specific portals for focused information
dissemination. Some of the important services are:
• Supplier database
• Market intelligence
• Technology providers
• Information providers
• Linkages with relevant institutions
• E to E services
• E to B services
Software Technology Parks:
NSIC Software Technology Parks (STPs) facilitate small industries in setting up 100%
export-oriented units for software exports. They also act as a nodal point to activate
software exports directly through NSIC. These STPs extend support in terms of the
requisite infrastructure to the SSI units to start business operations with a minimum lead
time. The scheme is governed by STPI regulations of the Ministry of Information
Technology, Government of India. NSIC established the first STP in Okhla, New Delhi
in 1995 and the second in Chennai in 2001. Several small-scale enterprises have taken
advantage of these parks and contributed export earnings to the exchequer.
Science and Technology Park / Technology Business Incubators: Emerging
technological and knowledge-based entrepreneurial ideas have to be fostered and
developed in a supportive environment before they become tenable for commercial
investments. Hence, the need arises for incubation centres. The Corporation is in the
process of setting up a Science and Technology Entrepreneur’s Park in the premises of
NTSC-Rajkot in association with the Department of Science and Technology (DST),
Government of India during 2004-05 in the general engineering discipline. IT incubator is
set up very recently.
International Cooperation: NSIC facilitates sustainable international partnerships. The
emphasis is on sustainable business relations rather than on one-way transactions. Since its
inception, NSIC has contributed to strengthening enterprise-to-enterprise cooperation,
south-south cooperation, and sharing best practices and experiences with other developing
countries. The salient features of the scheme are:
• Exchange of business/technology mission with various countries
• Exploration of new markets & areas of cooperation
• Identification of new export markets by participating in sector-specific exhibitions all
over the world
• Sharing of Indian experiences with other developing countries
Small Industries Development Organisation (SIDO)
Small Industries Development Organization (SIDO) is a subordinate office of the
Department of SSI & Auxiliary and Rural Industry (ARI). It is an apex body and a nodal
agency for formulating, coordinating, and monitoring the policies and programs for the
promotion and development of small-scale industries. The Development Commissioner is
the head of the SIDO. He is assisted by various directors and advisers in evolving and
implementing various programmes of policies and management, consultancy, industrial
investigation, possibilities for the development of different types of small-scale industries,
industrial estates, industrial development, and extension. These functions are performed
through a national network of institutions and associated agencies created for specific
functions. At present, the SIDO functions through 27 offices, 31 Small Industries Service
Institutes (SISI), 37 Extension Centres, 3 Product-cum-Process Development Centres, and
4 Production Centres.
All small-scale industries except those falling within the specialized boards and agencies
like Khadi and Village Industries (KVI), Coir Board, Central Silk Board, etc., fall under
the purview of the SIDO.
The main functions performed by the SIDO in each of its three categories of functions are:
Functions Relating to Co-ordination
• To evolve a national policy for the development of small-scale industries.
• To co-ordinate the policies and programmes of various State Governments.
• To maintain a proper liaison with the related Central Ministries, Planning Commission,
State Governments, Financial Institutions, etc.
• To co-ordinate the programmes for the development of industrial estates.
Functions Relating to Industrial Development
• To reserve items for production by small-scale industries.
• To collect data on consumer items imported and then, encourage the setting up of
industrial units to produce these items by giving coordinated assistance.
• To render required support for the development of ancillary units.
• To encourage small-scale industries to actively participate in Government Stores
Purchase Program by giving them necessary guidance, market advice, and assistance.
Function Relating to Extension
• To make provision to technical services for improving technical process, production
planning, selecting appropriate machinery, and preparing factory layout and design.
• To provide consultancy and training services to strengthen the competitiveness of
small-scale industries.
Small-Scale Industries Board (SSIB)
The Government of India constituted Small-Scale Industries Board (SSIB) in 1954 to
advise on the development of small-scale industries in the country. The SSIB is also
known as the Central Small Industries Board. The range of developmental work in small-
scale industries involves several departments/ministries and several organs of the
Central/State Governments. Hence, the Small-Scale Industries Board has been constituted
and established as an apex advisory to facilitate co-ordination and inter-institutional
linkage among several departments/ministries of the central and state Governments.
The Industries Minister of the Government of India is the Chairman of the SSIB. The SSIB
comprises 50 members including State Industry Minister, some Members of Parliament,
and Secretaries of various Departments of Government of India, financial institutions,
public sector undertakings, industry associations, and eminent experts in the field.
State Small Industries Development Corporations (SSIDC)
The State Small Industries Development Corporations (SSIDCs) were set up in various
States under the Companies Act, 1956 as State Government Undertakings to cater to the
primary developmental needs of the small, tiny, and village industries in the State/Union
Territories under their jurisdiction. Incorporation under the Companies Act has provided
SSIDCs with greater operational flexibility and wider scope for undertaking a variety of
activities for the benefit of the small sector.
The important functions performed by the SSIDCs include:
• To procure and distribute scarce raw materials.
• To supply machinery on a hire purchase system.
• To provide assistance for marketing of the products of small-scale industries.
 • To construct industrial estates/sheds, providing allied infrastructure facilities and their
maintenance.
• To extend seed capital assistance on behalf of the State Government.
• Provide management assistance to production units.

Small Industries Service Institutes (SISIs)

The Small Industries Service Institutes (SISIs) are set up to provide consultancy and training
to small entrepreneurs – both existing and prospective. The activities of SISIs are co-
coordinated by the Industrial Management Training Division of the DCSSI’s office. There
are 28 SISIs and 30 branch SISIs set up in State capitals and other places all over the country.
The main functions of SISIs include:
• To serve as interface between Central and State Governments.
• To render technical support services.
• To conduct Entrepreneurship Development Programmes.
• To initiate promotional programs.
The SISIs also render assistance in the following areas:
• Economic Consultancy / Information / EDP Consultancy.
• Project profiles.
• District/State industrial potential surveys.
• Workshop facilities.
• Training in various trades/activities.
District Industries Centres (DICs)
The District Industries Centres (DICs) programme was started on May 8, 1978 with a
view to provide integrated administrative framework at the district level for promotion of
small-scale industries in rural areas. The DICs are envisaged as a single window
interacting agency with the entrepreneur at the district level. Services and support to small
entrepreneurs are provided under a single roof through the DICs. They are the
implementing arm of the various schemes and programs including SEEUY/PMRY of the
Central and State Governments. Registration of small industries is done at the District
Industries Centres.
The organizational structure of DICs consists of one General Manager, four Functional
Managers, and three Project Managers to provide technical service in the area relevant to
needs of the district concerned. Since 1993-94, the management of the DICs is done by
the State Governments.
As the promotional and developmental agency, DIC performs the following main
functions:
• To conduct industrial potential surveys.
• To prepare techno-economic surveys.
• To prepare an action plan to effectively implement the schemes identified.
 • To guide entrepreneurs in matters relating to selecting the most appropriate machinery
and equipment, sources of its supply and procedures for procuring imported machinery,
if needed, assessing requirements for raw materials etc.
• To appraise the worthiness of the various proposals received from entrepreneurs.
• To assist the entrepreneurs in marketing their products.
• To conduct artisan training programs.
• To function as the technical arms of DRDA in administering IRDPs and TRYSEM
programmes.
Industrial Estates
An industrial estate is a place where the required facilities and factory accommodation are
provided by the government to the entrepreneurs to establish their industries there. In
India, industrial estates have been utilised as an effective tool for the promotion and
growth of small-scale industries. They have also been used as an effective tool to
decentralise industrial activity to rural and backward areas. Industrial estates are also
known by different names, e.g. industrial region, industrial park, industrial area, industrial
zone, etc.
According to P.C. Alexander , "An industrial estate is a group of factories, constructed
on an economic scale in suitable sites with facilities of water, transport, electricity, steam,
bank, post office, canteen, watch and ward and first-aid, and provided with special
arrangements for technical guidance and common service facilities".In the opinion of
Beeda (1963: 10), "An industrial estate is a tract of land which is sub-divided and
developed according to a comprehensive plan for the use of a community of industrial
enterprises".
The United Nations (1963) has defined an industrial estate as "a planned clustering of
enterprises, offering standard factory buildings erected in advance of demand and variety
of services and facilities to the occupants".
Now, an industrial estate can be defined as a place where the required facilities and
factory accommodations are provided by the Government to the entrepreneurs to establish
their industries there.
Types of Industrial Estates
Industrial Estates are classified on various bases. The prominent ones are:
I. On The Basis of Functions: On the basis of functions, industrial estates are
broadly classified into two types:
(i) General type industrial estates, and
(ii) Special type industrial estates.
General Type Industrial Estate: These are also called as conventional or composite
industrial estates. These provide accommodation to a wide variety and range of
industrial concerns.
The Indian Industrial estates are mainly of this type.
II. Special Type Industrial Estate: This type of industrial estates is constructed for
specific industrial units, which are vertically or horizontally independent.

On the basis of Organizational set-up: On this basis, industrial estates are classified into
the following four types:

1. Government Industrial Estates.

2. Private Industrial Estates.
3. Co-operative Industrial Estates.
4. Municipal Industrial Estates.

III. On the Basis of the Other Variants: On the basis of other variants, industrial estates are
classified into the following three types:
Ancillary Industrial Estates:
In such industrial estates, only those small-scale units are housed which are ancillary to a
particular large industry. Examples of such units are like one attached to the HMT,
Bangalore.
Productive Industrial Estates:
Industrial units manufacturing the same product are usually housed in these industrial estates.
These Industrial estates also serve as a base for expansion of small units into large units.
Workshop-bay:
Such type of industrial estates are constructed mainly for very small firms engaged in repair
work.
Objectives of Industrial Estates
The main objectives of the establishment of industrial estates are to:

1. Provide infrastructure and accommodation facilities to the entrepreneurs;

2. Encourage the development of small-scale industries in the country;
3. Decentralise industrialisation to the rural and backward areas;
4. Encourage ancillarisation in surroundings of major industrial units; and
5. Develop entrepreneurship by creating a congenial climate to run the industries in
these estates/area/township, etc.

Industrial Estates in India

One of the major handicaps faced by small-scale industries in India has been either lack or
insufficient infrastructure facilities. In order to provide small-scale units the proximity of
other industrial units, the idea of establishing industrial estates was first adopted in India by
the Small-Scale Industries Board (SSIB) at its meeting held in January 1955. As a result, the
first industrial estate in India was set up at Rajkot in Gujarat in September 1955. Since then,
there has been no looking back. By now, the number of industrial estates in the country had
gone up to more than 650 making it the largest programme of its kind in the world.
The objectives tagged to the programme included to give boost to the growth of small-scale
industries in the country, to disperse industry outside metropolitan towns, to relocate existing
units operating in congested areas, to provide contracting opportunities to small industry and
to improve operational efficiencies through modern facilities. However, research has shown
that One of the major handicaps faced by small-scale industries in India has been either lack
or insufficient infrastructure facilities. In order to provide small-scale units the proximity of
other industrial units, the idea of establishing industrial estates was first adopted in India by
the Small-Scale Industries Board (SSIB) at its meeting held in January 1955. As a result, the
first industrial estate in India was set up at Rajkot in Gujarat in September 1955. Since then,
there has been no looking back. By now, the number of industrial estates in the country had
gone up to more than 650 making it the largest programme of its kind in the world (Verma
1988: 81).
The objectives tagged to the programme included to give boost to the growth of small-scale
industries in the country, to disperse industry outside metropolitan towns, to relocate existing
units operating in congested areas, to provide subcontracting opportunities to small industry
and to improve operational efficiency of small units through common facilities. However,
research studies (Bhatt 1976: 9, Sanghvi 1979: 175-176) report findings contrary to it. The
units working outside industrial estates have performed better than units working inside the
industrial estates. The reasons held responsible for poor performance of industrial units
working inside the industrial estates were but not confined to the following only:
• Lack of essential infrastructure facilities such as roads, power and water.
• Lack of common facilities such as tool room, heat treatment, or testing.
• Lack of realistic survey prior to the establishment of the estate.
• Lack of a clear idea about the relevance of products to the area.
• Lack of local involvement and active participation in the programme.
 Specialised Institutions
In addition to the above institutions, the Government has also set up the following
specialised institutions to boost the growth of all types of small-scale industries in the
country:
(i) Central Institute of Tool Design, Hyderabad
The Central Government set up this Institute in 1968 with the help of United Nations
Development Programme (UNDP) and International Labour Organization (ILO)
to help small-scale industries by imparting specialised training to the personnel
working in the design and manufacture of tools, jigs, fixtures, dies, and moulds. The
other functions performed by it are:
1. To offer consultancy and advisory services and assistance in the design and
development of tools.
2. To suggest proper measures to improve the standard of tools, tooling elements, jigs,
components, fixtures, dies, etc.
3. To offer the needed tool room facility.

Central Tool Room Training Centres

In order to provide tool room services and facilities in design, manufacturing, and training,
the Government has set up four tool room training centres located at Bangalore, Calcutta,
Ludhiana, and New Delhi.
(ii) Central Institute of Hand Tool, Jalandhar
This institute has been set up with a view to provide improved technology, materials, design,
and testing for handloom industry. This is the only institute of its kind in the country located
at Jalandhar.
(iii) Institute for Design of Electrical Measuring Instruments (IDEM), Mumbai
This institute was set up in 1969 with the assistance from UNDP. It was set up to provide
technical consultancy services in the matters relating to design and development of electrical
and electronic instruments, tool designing and fabrication, and training.
(iv) National Institute of Entrepreneurship and Small Business Development
(NIESBUD), Noida
It is an apex national level institute of its kind set up at New Delhi in 1983, now shifted to
Noida. The main functions of this Institute are to coordinate research, and training in
entrepreneurship development and to impart specialised training to various categories of
entrepreneurs. Besides, it also serves as a forum for interaction and exchange of views
between various agencies engaged in activities relating to entrepreneurial development.
(v) National Institute of Small Industries Extension Training (NISIET), Hyderabad
This institute was set up in 1956 to develop the required manpower for running small-scale
industries in the country. Accordingly, its main functions are to provide consultancy,
training, and research for small industries development.

Technical Consultancy Organisations (TCOs)

A network of Technical Consultancy Organisations (TCOs) was established by all India
financial institutions in the seventies and the eighties in collaboration with state-level
financial/development institutions and commercial banks to cater to the consultancy needs of
small industries and new entrepreneurs. At present, a number of TCOs have been operating in
almost all states in India. These include:
1. Andhra Pradesh Industrial and Consultancy Organization Ltd. (APITCO)
2. Bihar Industrial and Technical Consultancy Organisation Ltd. (BITCO)
3. Gujarat Industrial and Technical Consultancy Organization Ltd. (GITCO)
4. Haryana-Delhi Industrial Consultants Ltd. (HARDICON)
5. Himachal Consultancy Organization Ltd. (HIMCO)
6. Industrial and Technical Consultancy Organisation of Tamil Nadu Ltd. (ITCOT)
7. Jammu and Kashmir Technical Consultancy Organisation Ltd. (J&KITCO)
8. Karnataka Industrial and Technical Consultancy Organisation Ltd. (KITCO)
9. Madhya Pradesh Consultancy Organisation Ltd. (MPCON)
10. Maharashtra Industrial and Technical Consultancy Organisation Ltd. (MITCON)
11. North-Eastern Industrial Consultants Ltd. (NECON)
 12. North-Eastern Industrial and Technical Consultancy Organisation Ltd. (NEITCO)
13. North-India Technical Consultancy Organisation Ltd. (NITCON)
14. Orissa Industrial and Technical Consultancy Organization Ltd. (ORITCON)
15. Rajasthan Consultancy Organisation Ltd. (RAJCON)
16. U.P. Industrial Consultants Ltd. (UPICO)
17. West Bengal Consultancy Organisation Ltd. (WEBCON)

Functions of TCOs
Initially, TCOs functions were focused on pre-investment studies for small and medium scale
enterprises. Over the years, they have diversified their functions to include the following:
• To prepare project profiles and feasibility profiles.
• To undertake industrial potential surveys.
• To identify potential entrepreneurs and provide them with technical and management
assistance.
• To undertake market research and surveys for specific products.
• To supervise the project and wherever necessary, render technical and administrative
assistance.
• To undertake export consultancy for export-oriented projects based on modern
technology.
• To conduct entrepreneurship development programmes.
• To offer merchant banking services.