What do you mean by owner's fund? When is it not suitable?
Owner’s funds mean funds that are provided by the owners of an enterprise, which may be a sole trader or partners or shareholders of a company. The issue of equity shares and retained earnings are the two important sources from where the owner’s funds can be obtained. When it is not suitable depends on the following factors:
1. Cost: There are two types of cost viz., the cost of procurement of funds and cost of utilising the funds. Both these costs should be taken into account while deciding about the source of funds.
2. Financial strength and stability of operations: In the choice of source of funds, business should be in a sound financial position so as to be able to repay the principal amount and interest on the borrowed amount. When the earnings of the organisation are not stable, fixed charged funds should be carefully selected as these add to the financial burden
3. The form of organisation and legal status: A partnership firm, for example, cannot raise money by issue of equity shares as these can be issued only by a joint stock company
4. Purpose and time period: Business should plan according to the time period for which the funds are required. A short-term need, for example, can be met through borrowing funds at a low rate of interest through trade credit, commercial paper, etc. For long-term finance, sources such as the issue of shares and debentures are more appropriate. Similarly, the purpose for which funds have required the need to be considered so that the source is matched with the use
5. Risk profile: Business should evaluate each of the source of finance in terms of the risk involved. For example, there is the least risk in equity as the share capital has to be repaid only at the time of winding up. A loan, on the other hand, has a repayment schedule for both the principal and the interest which is to be paid irrespective of the firm earning a profit or incurring a loss.
6. Control: Issue of equity shares may mean a dilution of the control. Thus, the business firm should choose a source keeping in mind the extent to which they are willing to share their control over the business.
7. Effect on creditworthiness: Issue of secured debentures may affect the interest of unsecured creditors of the company and may adversely affect their willingness to extend further loans as a credit to the company.
8. Flexibility and ease: Restrictive provisions, detailed investigation and documentation may be the reason that a business organisation may not prefer it if other options are readily available.