202003405: Entrepreneur Skill

CVMU – Second Year Audit Course

Sources of Finance and

Legal Issues
Compiled & Presented by
Dr. Hemant R Thakkar
Associate Professor, GCET
 Sources of finance and Legal Issues
• Sources of finance
• Debtor equity financing,
• commercial banks,
• venture capital;
• financial institutions supporting entrepreneurs.
• Intellectual property rights: (Legal issues)
• Patents, Trademarks, Copyrights, & Trade secrets,
• licensing, Franchising.
 Sources of finance
• Finance is one of the critical resource for entrepreneurship.
• There are several source of finance available to any company.
• A business can gain finance from either internal or external sources.
• The selection of the fund source in depends on the financial strategy
pursued by the company, leverage planned by the company, and
financial conditions prevalent in the economy and the risk profile.
• Sources of finance for business are equity, debt, debentures, retained
earnings, term loans, working capital loans, letter of credit, euro
issue, venture funding etc.
• These sources of funds are used in different situations.
• They are classified based on time period, ownership and control, and
their source of generation.
1. Long term finance
2. Medium term finance
3. Short term finance
Debtor / Equity financing
• Debt financing involves the borrowing of money whereas
• Equity financing involves selling a portion of equity in the company.
• The main advantage of equity financing is that there is no obligation
to repay the money acquired through it
 Sources of Finance
• Long term (> 5 yrs) • Medium term (1 – 5 yrs) • Short term (< 1 year)
• Share capital (equity • Preference shares • Trade credit
share) • Debentures / Bonds • Fixed deposits
• Preference shares • Public deposits • Advance from customers
• Debentures / Bonds • Lease financing • Borrowings
• Loan from banks • External borrowing
• Loan from financial • Loan from banks
corporations
• Venture capital funding
Owners capital / Equity financing:
• Equity financing is the process of raising capital through the sale of
shares.
• Companies raise money because they might have a short-term need
to pay bills or they might have a long-term goal and require funds to
invest in their growth.
• This is identified as public limited company.
• Share holders are owners of the company, and taking risk.
• They elect directors to run the company and have the optimum
control over the management of the company.
Characteristics / Advantages
1. They are a permanent source of capital and as such; do not involve any
repayment liability.
2. They do not have any obligation regarding payment of dividend.
3. Larger equity capital base increases the creditworthiness of the company
among the creditors and investors.
4. Equity shares are very liquid and can be easily sold in the capital market.
5. In case of high profit, they get dividend at higher rate.
6. Equity shareholders have the right to control the management of the
company.
7. The equity shareholders get benefit in two ways, yearly dividend and
appreciation in the value of their investment.
Disadvantages
1. Equity shareholders get dividend only if there remains any profit
after paying debenture interest, tax and preference dividend. Thus,
getting dividend on equity shares is uncertain every year.
2. Equity shareholders are scattered and unorganized, and hence they
are unable to exercise any effective control over the affairs of the
company.
3. Equity shareholders bear the highest degree of risk of the company.
4. Market price of equity shares fluctuate very widely which, in most
occasions, erode the value of investment.
5. Issue of fresh shares reduces the earnings of existing shareholders.
 Commercial Banks
• The term commercial bank refers to a financial institution that
accepts deposits, offers checking account services, makes various
loans, and offers basic financial products like certificates of deposit
(CDs) and savings accounts to individuals and small businesses.
• Another role of commercial banks as a financial intermediary is
activating various financial markets in the country.
• Money market, capital market, foreign exchange market and
government securities market are benefited by the active role of
commercial banks.
 Venture Capital
• Venture capital funds are pooled investment funds that manage the money of investors
who seek private equity stakes in start-ups and small- to medium-sized enterprises with
strong growth potential.
• These investments are generally characterized as very high-risk/high-return
opportunities.
• Features:
• High Risk
• Lack of Liquidity
• Long term horizon
• Equity participation and capital gains
• Venture capital investments are made in innovative projects
• Suppliers of venture capital participate in the management of the company
 Methods of Venture capital financing
• Equity financing: A firm needs funds for a longer period to survive and
grow, but as venture capital firm is a new company the firm is not able to
give timely returns to its investors, for which equity financing proves
beneficial. The investor’s contribution is not more than 49% of the total
stake, and so the ultimate power remains with the entrepreneur.
• Participating debentures: The interest on participating debentures is
payable at three various rates, as per the phase of operation:
• Start-up phase — Nil
• Initial operations phase — Low rate of interest
• After a particular level of operations – High rate of interest
• Conditional loan: Conditional loans are the one that does not carry interest
and are repayable to the lender in the form of royalty after the venture
capital undertaking is able to make revenue.
• Convertible loans: The loans which are convertible into equity when
interest on the loan is not paid within the stipulated period.
• Income Note: A form of hybrid financing, that combines the
characteristics of the traditional loan and conditional loan, on which
the venture capital firm pays both royalty and interest, but at low
rates.
• The venture capital funding procedure gets complete in six stages of
financing corresponding to the periods of a company’s development
1. Seed money: Low level financing for proving and fructifying a new idea
2. Start-up: New firms needing funds for expenses related with marketing
and product development
3. First-Round: Manufacturing and early sales funding
4. Second-Round: Operational capital given for early stage companies which
are selling products, but not returning a profit
5. Third-Round: Also known as Mezzanine financing, this is the money for
expanding a newly beneficial company
6. Fourth-Round: Also called bridge financing, 4th round is proposed for
financing the "going public" process
 Financial institutions to support Entrepreneurship
• India Infrastructure Finance Company Ltd (IIFCL)
• Export-Import Bank of India (EXIM Bank)
• Small Industries Development Bank of India(SIDBI)
• National Housing Bank (NHB)
• Acuite Ratings & Research Limited
• List of CMDs of Financial Institutions
• Industrial Finance Corporation of India (IFCI)
Intellectual Property Rights
• A right that is had by a person or by a company to have
exclusive rights to use its own plans, ideas, or other intangible assets
without the worry of competition, at least for a specific period of
time.
• These rights can include copyrights, patents, trademarks, and trade
secrets.

Research Methodology & IPR 16

• Intellectual property refers to creations of the mind:
inventions; literary and artistic works; and symbols, names
and images used in commerce.
• Intellectual property rights are like any other property right.
• They allow creators, or owners, of patents, trademarks or
copyrighted works to benefit from their own work or
investment in a creation.

Research Methodology & IPR 17

IPR
• xx

Research Methodology & IPR 18

Patent
• The primary goal of the patent law is to encourage
innovation and commercialization of technological advances.
• Patent law incentivizes inventors to publicly disclose their
inventions in exchange for certain exclusive rights.
• A patent protects inventions.

Research Methodology & IPR 19

Meaning of Patent
• A patent is a right granted to an inventor by the federal government
that permits the inventor to exclude others from making, selling or
using the invention for a period of time.
• The patent system is designed to encourage inventions that are
unique and useful to society.
• Congress was given the power to grant patents in the Constitution,
and federal statutes and rules govern patents.

Research Methodology & IPR 20

• A government authority or license conferring a right or title for a set
period, especially the sole right to exclude others from making, using,
or selling an invention.

Research Methodology & IPR 21

Patent Act in India
• The Patents Act, 1970 was again amended by the Patents
(Amendment) Act, 2005, wherein product patent was extended to all
fields of technology including food, drugs, chemicals and micro
organisms. ...
• In India, a patent application can be filed, either alone or jointly, by
true and first inventor or his assignee.

Research Methodology & IPR 22

Example of patentable items
• Many types of patents exist depending on your needs. Some of these
include:
1. Software programme patents
2. Electrical Engineering patents
3. E-commerce system patents
4. Mechanical Engineering patents
5. Method and process patents
6. Design patents

Research Methodology & IPR 23

• xx
• xx
Comparision
• xx

Reymond, Reliance, Tata, Maruti, Hyundai

Songs, Title of movie,

Picture tube, HD, features

Research Methodology & IPR 26

Copyright
• A copyright is a collection of rights automatically vested to you once
you have created an original work.
• To understand how these rights can be used or licensed, it is helpful
to analogize them to a bundle of sticks, where each stick represents a
separate right vested to you as the owner.
• These rights include the right to reproduce the work, to prepare
derivative works, to distribute copies, to perform the work publicly,
and to display the work publicly.

Research Methodology & IPR 27

Copyright protects
• xx
Copyright do not protects
• Copyright protection extends only to expressions, and not to ideas,
procedures, methods of operation or mathematical concepts as such.
• Copyright may or may not be available for a number of objects such
as titles, slogans, or logos, depending on whether they contain
sufficient authorship.
• Names, titles and short phrases and expressions can't be
copyrighted either.
• This means you can't own the exclusive rights to any slogan, product
description, title of work or business name.
Trademark
• A trademark is a word, phrase, symbol, and/or design that identifies
and distinguishes the source of the goods of one party from those of
others.
• A service mark is a word, phrase, symbol, and/or design that
identifies and distinguishes the source of a service rather than goods.
• Examples include brand names, slogans, and logos.

Research Methodology & IPR 30

• xx
Trademark examples
 Trade secret
• Trade secrets are intellectual property (IP) rights on confidential
information which may be sold or licensed.
• A trade secret is any practice or process of a company that is generally not
known outside of the company. Information considered a trade
secret gives the company a competitive advantage over its competitors and
is often a product of internal research and development.
• In general, to qualify as a trade secret, the information must be:
1. commercially valuable because it is secret,
2. be known only to a limited group of persons, and
3. be subject to reasonable steps taken by the rightful holder of the
information to keep it secret, including the use of confidentiality
agreements for business partners and employees.
• Anything that gives you an advantage against a competitor is highly valuable
and worth protecting.
• Trade secret can be R&D information, Software algorithms, Inventions,
Designs, Formulas, Ingredients, Devices, Methods , etc.
• Examples of Trade secret:
1. The secret formula for Coca-Cola, which is locked in a vault, is an example
of a trade secret that is a formula or recipe.
2. Google search algorithm
3. The New York Times Bestseller list is an example of a process trade secret.
4. Listerine is a popular example of a trade secret used in law schools.
5. KRISPY KREME DOUGHNUTS
6. MCDONALD’S BIG MAC SPECIAL SAUCE
 Licensing
• Licensing is a major aspect of Intellectual property.
• A license where a technology company, as licensor, grants a license to
an individual or company, as licensee, to use a particular technology.
• A licensing agreement is a partnership between an intellectual
property rights owner, known as the licensor, and another who is
authorised to use such rights, known as the licensee, in exchange for
an agreed payment, known as royalty.
• There is no transfer of ownership involved.
• Licensing is a contract between a minimum of 2 parties wherein the
licensor agrees to allow the licensee to share the rights enjoyed by
the former subject to consideration by the latter.
• In an intellectual property license, the licensee is permitted to use the
intellectual property, however it is subject to conditions and payment
of consideration.
• Since it is a contract, it must satisfy all the essential mentioned under
Sections 10 and 11 of the Indian Contract 1872.
• The overseas company enters into a licensing agreement with
another company based in the domestic country, for a specified
period of time.
• The two primary reasons for entering in the licensing agreement are:
1. International expansion of a brand franchise.
2. Need for commercialisation of new technology.
• Example:
• Under licensing system, Coca-Cola and Pepsi are globally produced
and sold, by local bottlers in different countries.
• An example would include Walt Disney granting McDonalds
a license for McDonalds to co-brand its McDonalds Happy Meals with
a Disney trademarked character;
• An example would include Microsoft granting a license to individual
users allowing them to use the Windows operating system;
• The Coca Cola Company is an example in licensing in Zimbabwe
where it has allowed United Bottlers the license of making Coke.
Advantages of licensing
• It creates an opportunity for passive income. ...
• It creates new business opportunities. ...
• It reduces risks for both parties. ...
• It creates an easier entry into foreign markets. ...
• It creates self-employment opportunities. ...
• It offers the freedom to develop a unique marketing approach.
• Disadvantages:
• loss of control (partially or fully) over your invention.
• relying on the licensee's ability to effectively commercialise your patent.
• risk of poor strategy or execution damaging the product success.
• poor quality management damaging your brand or product reputation.
 Franchising
• The word franchise comes for the old French word ‘franchir’ which
means to liberate or set free. In this sense franchising offers people
the freedom to own, manage and direct their own businesses.
• Franchising is a form of business expansion involving the exploitation
of an intellectual property asset, where the franchisor exercises a
great deal of control and offers assistance in the business.
• Franchising is a key means of bringing branded products and services
to the market quickly and on a global scale.
• It offers a cost effective means of raising capital and expanding
quickly
• IPRs are inherent to a franchise. Without IPR there can be no
franchise..
• xx
Advantages of franchising
• Franchises offer the independence of small business ownership supported by the
benefits of a big business network.
• You don't necessarily need business experience to run a franchise. ...
• Franchises have a higher rate of success than start-up businesses.
• Disadvantages
• 1) High initial investment.
• 2) Limited creativity.
• 3) Lack of privacy.
• 4) Decreased profits.
• 5) Shared information.
• 6) Less control.
• 7) Damaged reputation.
There are largely two main types of franchise.
• Product distribution franchises where the trade mark and logo is licensed
to the third party but the franchisee is not provided with the entire system
for operating the business.
• Examples of product distribution franchises include soft drink distributors,
car dealers and gas and petrol station. The more common type is business
format franchising which is dealt with here.
• Business format franchising enables the franchisee to replicate, whether
domestically or in different regions, the franchisors entire business
concept, including marketing strategy, business and operational methods
and standards.
• Common examples include fast food, retail, restaurants, business services
and lodgings.
 Franchising Vs Licensing
Parameter Franchising Licensing
Governed by Security law Contract law
• xx
Registration Required Not required
Territorial rights Offered to franchisee Not offered: But licensee
can sell similar licenses and
products in same area
Support and Training Provided by franchiser Not provided
Royalty payments Yes Yes
Use of logo / trademark Retained by franchiser and Can be licensed
used by franchisee
Control Franchiser exercise control Licensor does not have
over franchisee control over licensee
Examples McDonalds, Subway, Microsoft office, Softwares,