ALTERNATESOURCESOFFINANCE

FORRBI GRADE B EXAM

Alternate Sources of Finance Free Finance e-book

With the ever-evolving Financial Sector all over the world and continuous improvements in

FinTech (Financial Technology), there is no more relying only on traditional sources of

Finances such as bank loans, invoice discounting, overdrafts, and private equity. Many more

alternatives are available through which finances can be arranged. These are called alternate

sources of Finance. We would discuss in depth about these in this eBook and the same would

be useful for the preparation of Finance & Management subject of Phase 2 of RBI Grade B

Exam.

Sample Questions

Q. Who is a Lessor & Lessee?

1. The owner of the asset is known as a Lessee & the one who rents is called Lessor.

2. The Financier is called Lessor & Lender is called Lessee.

3. The owner of the asset is called Lessor and the one who rents it is called Lessee.

4. The Lessor is one who is the user of the asset & Lessee is one who rents the asset.

Answer: (3)

Q. Which of the following is true with respect to an Angel Investor and a Venture Capitalist?

1. Venture Capitalists are involved in the management of the company & Angel Investors are

not.

2. Venture Capital involves a huge amount of money whereas Angel Investment do not.

3. Angel Investors have a say in the management of the company whereas Venture Capitalists

do not.

4. Angel investors specialise in early-stage businesses, while VC firms are generally more

unwilling to invest in start-ups unless they show really compelling promise and growth

potential.

1, 2 & 3

1 & 2

2, 3 & 4

1, 2 & 4

Answer: 1, 2 & 4

Alternate Sources of Finance Free Finance e-book

Alternate Sources of Finance

These are namely

1. Leasing

2. Franchising

3. Factoring

4. Forfeiting

5. Peer to Peer Lending Platforms

6. Crowd Funding

7. Angel Investors

8. Venture Capitalists

Let us learn about them in detail.

1. Leasing

It is a written contract by which the owner (lessor) of an asset (such as a land, building,

equipment, or machinery) grants a second party or a tenant (lessee) the right to use its

exclusive possession for a specified period of time and under specified conditions, in return

for periodic lease payments.

In simple terms, a lease is a contract outlining the terms under which one party agrees to rent

property owned by another party. Leases are legal and binding contracts that set forth the

terms of rental agreements.

Types of Leases

Financial Lease

• Financial lease or Full Pay-out Lease is a type of lease in which the owner (lessor)

transfers all the risks and rewards related to the asset to the lessee (one who leases).

• The ownership is transferred to the lessee at the end of the economic life of the asset.

• The lease term is spread over the major part of the asset life. Here the lessor is only a

financier.

Operating Lease

• In operating lease, risk and rewards are not completely transferred to the lessee.

• The term of a lease is very small compared to the finance lease.

• The lessor depends on many different lessees for recovering his cost.

• Ownership along with its risks and rewards lies with the lessor.

• A lessor is not only acting as a financier, but he also provides additional services

required in the course of usage of the asset or equipment.

Alternate Sources of Finance Free Finance e-book

Sale & lease back

• In Sale & Lease back, the lessee sells his asset or equipment to the lessor (financier)

with an advanced agreement of leasing back to the lessee for a fixed lease rental

period.

• It is exercised by an entrepreneur when he wants to free his money, invested in the

equipment or asset, to utilize it at the different place for investor.

Direct Lease

• In a direct lease, the asset is either owned by the lessor or he acquires it.

• In a bipartite lease, there are two parties. The lessor and equipment suppliers are one

and the same person and it is called bipartite lease.

• Whereas, when there are three different parties viz. equipment supplier, lessor, and

lessee involved, it is called a tripartite lease. Here, equipment supplier and lessor are

two different parties.

Single Investor Lease

• In a single investor lease, there are two parties – lessor and lessee.

• The lessor arranges the money to finance the asset or equipment by way of equity or

debt.

• When the lease belongs to only two parties namely leaser and lessee it is called as

single investor lease.

Leveraged Lease

• Leveraged lease has three parties – lessor, lessee, and the financier or lender.

• Equity is arranged by the lessor and debt is financed by the lender or financier.

• Here, there is a direct connection of the lender with the lessee and in a case of default

by the lessor.

• The lender is also entitled to receive money from the lessee.

• Such transactions are generally routed through a trustee.

Domestic Lease

When all the parties to the lease agreement reside in the same country, it is called domestic

lease.

Alternate Sources of Finance Free Finance e-book

International Lease

• An international lease is of two types – Import Lease and Cross-Border Lease.

• When the lessor and the lessee reside in the same country and equipment supplier

stays in a different country, the lease arrangement is called import lease.

• When the lessor and lessee are residing in two different countries and no matter

where the equipment supplier stays, the lease is called cross-border lease.

Combination Lease

• Combination lease offers features of both financial or capital lease and operating

lease.

• This is a kind of customized leasing.

• An example of combination lease is a capital lease that carries a clause for

cancellation.

2. Franchising• Franchising is a form of business by which the owner (franchisor) of a product, service

or method obtains distribution through affiliated dealers (franchisees).

• It is a continuing relationship in which a franchisor provides a license to the franchisee

to do business and helps in organizing, training, merchandising, marketing and

managing in return for a monetary benefit.

• It is an arrangement wherein one party (the franchiser) grants another party (the

franchisee) the right to use its trademark or tradename as well as certain business

systems and processes, to produce and/or market a good or service according to

certain specifications.

• The franchisee usually pays a one-time franchise fee plus a percentage of sales

revenue as royalty, and gains (a) immediate name recognition, (b) tried and tested

products, (c) standard building design and décor, (d) detailed techniques in running

and promoting the business, (e) training of employees, and (f) ongoing help in

promoting and upgrading of the products.

3. Factoring• Factoring is a financial arrangement between the factor and client, in which the firm

(client) gets advances in return for receivables, from a financial institution (factor).

• It is a financing technique, in which there is an outright selling of trade debts by a firm

to a third party, i.e. factor, at discounted prices.

• It can be defined as a financing method in which a business owner sells accounts

receivable at a discount to a third-party funding source to raise capital.

Alternate Sources of Finance Free Finance e-book

• Factoring, receivables factoring or debtor financing, is when a company buys a debt

or invoice from another company.

• It is also seen as a form of invoice discounting in many markets and is very similar but

just within a different context.

• In this purchase, accounts receivable are discounted as to allow the buyer to make a

profit upon the settlement of the debt. Essentially factoring transfers the ownership

of accounts to another party that then chases up the debt.

• It therefore relieves the first party of a debt for less than the total amount providing

them with working capital to continue trading, while the buyer, or factor, chases up

the debt for the full amount and profits when it is paid.

• The factor is required to pay additional fees, typically a small percent, once the debt

has been settled. The factor may also offer a discount to the indebted party.

• It is a very common method used by exporters to help accelerate their cash flow. The

process enables the exporter to draw up to 80% of the sales invoice’s value at the

point of delivery of the goods and when the sales invoice is raised.

4. Forfeiting• A type of financing in which a bank gives an exporter cash up front so as to guarantee

payment to them. It is used primarily when export traders deal with high risk

countries.

• It is method of export trade financing, especially when dealing in capital goods (which

have long payment periods) or with high risk countries.

• In forfeiting, a bank advances cash to an exporter against invoices or promissory

notes guaranteed by the importer's bank. The amount advanced is always “without

recourse” to the exporter and is less than the invoice amount as it is discounted by

the bank. The discount rates depends on the terms of the invoice/note and

the level of the associated risk.

• It is a means of financing that enables exporters to receive immediate cash by selling

their medium and long-term receivables - the amount an importer owes the exporter

- at a discount through an intermediary.

• The exporter eliminates risk by making the sale without recourse. It has no liability

regarding the importer's possible default on the receivables.

• A forfeiter is the individual or entity that purchases the receivables, and the importer

then pays the receivables amount to the forfeiter.

• A forfeiter is typically a bank or a financial firm that specializes in export financing.

• A forfeiter’s purchase of the receivables expedites payment and cash flow for the

exporter. The importer's bank typically guarantees the amount.

• The purchase also eliminates the credit risk involved in a credit sale to an importer.

Alternate Sources of Finance Free Finance e-book

5. Peer to Peer Lending Platforms• Peer-to-peer lending, abbreviated as P2P lending, is the practice of lending money to

individuals or businesses through online service platforms that match lenders and

borrowers.

• Peer-to-peer lending companies often offer their services online and attempt to

operate with lower overhead costs and provide their services more cheaply than

traditional financial institutions.

• As a result of this, lenders who have large amounts of excess capital, can earn higher

returns compared to savings and investment products offered by banks, also

borrowers can borrow money at lower interest rates, even after the P2P lending

company has taken a fee for providing the match-making platform and checking the

credit rating of the borrower.

• There is the risk of the borrower defaulting on the loans taken out from peer-lending

websites.

6. Crowd Funding• Crowdfunding is the use of small amounts of capital from a large number of individuals

to finance a new business venture.

• It makes use of the easy accessibility of vast networks of people through social

media and crowdfunding websites to bring investors and entrepreneurs together with

the potential to increase entrepreneurship by expanding the pool of investors beyond

the traditional circle of owners, relatives and venture capitalists.

• Crowdfunding combines the best of crowdsourcing and microfinancing, bringing

together various individuals who commit money to projects and companies they want

to support.

• It is a young and quick growing market.

• It's also transforming the ways businesses raise capital.

7. Angel Investor• An angel investor is a high net worth individual who provides financial backing for

small start-ups or entrepreneurs, in exchange for ownership equity in the company.

• The funds that angel investors provide may be a one-time investment to help the

business get off the ground or an ongoing injection to support and carry the company

through its difficult early stages.

• These types of investments are risky and usually do not represent more than 10% of

the angel investor's portfolio of Investment.

• Most angel investors have excess funds available and are looking for a higher rate of

return than those provided by traditional investment opportunities.

Alternate Sources of Finance Free Finance e-book

8. Venture Capitalists• A venture capitalist (VC) is an investor who provides capital to firms that exhibit high

growth potential in exchange for an equity stake.

• It could be funding start-up ventures or supporting small companies that wish to

expand but do not have access to equities markets.

• Venture capitalists risk investing in such companies because they can earn a massive

return on their investments if these companies are a success.

• VCs also experience high rates of failure due to the uncertainty involved with new and

unproven companies.

• Venture capitalists look for a strong management team, a large potential market and

a unique product or service with a strong competitive advantage.

• They also look for opportunities in industries that they are familiar with, and the

chance to own a large percent of the company so that they can influence its

management and direction.

Preparing for SBI PO, IBPS PO, IBPS Clerk, IBPS SO, NIACL AO, RBI Grade

B, SEBI, NABARD, RRB JE, SSC CGL, RRB ALP, CWC, FCI, NTPC, IDBI, NHB exams as well, then

start by taking a Free Mock Test.

Sources -:http://www.businessdictionary.com/https://www.investopedia.com/dictionary/ https://efinancemanagement.com

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