In some industries, revenue is called gross sales since the gross figure is before any deductions. Question bank for Commerce. Previous Next. Financial Stability: Retained earnings strengthen the financial position of a business and thereby give financial … justify Get the answers you need, now! Notes Quiz. Goyal Bros. Prakashan - Video Lectures 38,556 views 5:50 The cheapest source of finance is (a) debenture (b) equity share capital (c) preference share (d) retained earning Join now. soon. It neither involves any fund raising cost nor any risk. It does not involve any explicit cost in the form of interest, dividend or flotation cost. Also, unlike other sources of finance it does not involve any obligation in … Retained profit is widely regarded as the most important long-term source of finance for a business. Retained Earnings Definition: The Retained Earnings represent that portion of the equity earnings (left after deducting the tax and preference dividends), which is sacrificed by the equity shareholders and is ploughed back into the firm to reinvest these in the core business operations, such as paying off the debt obligations or purchasing a capital asset. Debt is a cheapest source of finance as compared to equity. Originally Answered: Is Retained earnings the cheapest source of finance? Become a member and unlock all Study Answers Performance & security by Cloudflare, Please complete the security check to access. Retained earnings are better than other sources of finance because: Retained earnings is a permanent source of funds which an organization can avail of. Companies normally retain 30 per cent to 80 percent of profit after tax for financing growth. Fourthly, retained earnings as an internal source of finance are cost-effective considering the fact that there is no issue cost attached to it which ranges between 2 – 3 %. The company has no obligation to pay anything in respect of retained earnings. Retained earnings are used to finance new fixed assets whose value cannot be met by other sources 4. Apart from being the largest Commerce community, EduRev has the largest solved Retained earnings. Bro retained earnings belong to shareholders and it is considered as equal to equity. Retained earnings are also a continual source of new funds,provided that the company is profitable and profits are not all paid outas dividends. justify 1 See answer soneeniki is waiting for your help. yes i agree with this retained earning involve cost free discuss debt financing is the cheapest source of finance Originally Answered: Retained earnings are cheaper than debt. However, debt is actually the cheaper source of finance for a couple of reasons. Mudaraba (equity), Sukuk (debt) & Musharaka (JV) Next. is done on EduRev Study Group by Commerce Students. On the contrary its the most expensive. Retained Earnings: Source of Finance A company generally does not distribute all its earnings amongst the shareholders as dividends. The activities may include increasing the working capital, financing expansion projects, replacing plant and machinery etc. Tax benefit: The firm gets an income tax benefit on the interest component that is paid to the lender. Lastly, investing retained earnings in the projects, with IRR better than ROI of the business, will directly have a positive impact on the shareholder’s wealth and thereby the core objective of management will be served. Question 1 of 2 Summary Skip. It enhances capacity of the business to absorb unexpected losses. This is a type of equity financing that is the low cost, quick and internal method of raising funds to finance the important activities of the company. It is retained earnings . Ask your question. 2. This is known as retained earnings. Of course, for major investment projects, a greater amount ofequity finance may be required than that available from internalsources. i. It is because neither dividend nor interest is payable on retained profit. Using the retained earnings for Financing. Retained profit is by some way the most important and significant source of finance for an established profitable business.. However, debt is actually the cheaper source of finance for a couple of reasons. Economic Development : Source of Finance - Question Bank, Which finance act is applicable for my exam - Basic Concepts, Crash Course of Macro Economics -Class 12, Crash Course of Micro Economics -Class 12, Crash Course of Business Studies(BST)- Class 12, TS Grewal Solutions - Class 11 Accountancy, TS Grewal Solutions - Class 12 Accountancy. The use increases the equity base of the company making it possible to generate more debt finance. So equity seems cheaper, right? Retained earning is considered as internal source of long-term financing and it is a part of shareholders equity.Generally, retained earning is considered as cost free source of financing. Economical sources of finance: Retained earnings are one of the least costly sources of finance since it does not involve any floatation cost as in the case of raising of funds by issuing different types of securities. It is not better to say accurately that retained earnings is thecheapest. Normally, these funds are used for working capital and fixed asset purchases (capital expenditures) or allotted for paying off debt obligations. because interest on debentures is tax deductible so it leads to less tax payable, Debt are more cheeper than equity but are more risky. It is not better to say accurately that retained earnings is the cheapest. Answered Retained earning is simple and cheapest method of raising finance. … Log in. 1. If the answer is not available please wait for a while and a community member will probably answer this It may increase the process of equity shares of a company. Dividends to equity holders are not tax deductable. Syllabus E. Business Finance. Retained earnings go up whenever a company has managed to earn a profit, and similarly, they go down every time the owner has withdrawn some of those profits to pay a dividend to the shareholders. An organisation can reinvest its retained earnings or profits for the purpose expansion, modernisation, etc. by Ruby Singh - Duration: 5:50. ii. You can study other questions, MCQs, videos and tests for Commerce on EduRev and even discuss your questions like Thus, it is also known as 'Self Financing' or 'Ploughing Back of Profits'. 1. … Cloudflare Ray ID: 608d8b24de58380c agree to the. Not all businesses make a profit. over here on EduRev! By continuing, I agree that I am at least 13 years old and have read and Retained Earnings: A portion of company’s net profit after tax and dividend, Which is not distributed but are retained for reinvestment purpose, is called retained earnings. Retained earning is simple and cheapest method of raising finance. The principle is simple. As it can easily converted into shares is of cheaper rate and fixed interest is given irrespective of profit. are solved by group of students and teacher of Commerce, which is also the largest student This makes the opportunity to grow through borrowed increasingly attractive for business and with good reason. The cheapest source of finance is (a) debenture (b) equity share capital (c) preference share (d) retained earning; Ans: (d) The cheapest source of finance is retained earnings. From their standpoint, retained earnings are an attractive source of finance because investment projects can be undertaken without involving either the shareholders or any outsiders. In other words, it is a sacrifice made by equity shareholders also referred to as internal equity. Please enable Cookies and reload the page. 3. c) The use of retained earnings as opposed to new shares or debentures avoids issue costs. If the comparison is between equity shares and debentures, then tax plays an important role in deciding which one is cheaper. The reputation of the business remajns the same, Debt is cheapest source of finance because in this we get tax benefit, So equity seems cheaper, right? Retained earnings is an internal source of finance available to the company. Retained Earnings Retained Earnings (RE) are the portion of a business’s profits that are not distributed as dividends to shareholders but instead are reserved for reinvestment back into the business. But when they do, the owners face a choice: • Take the profit out of the business – either as personal income or via a payment to shareholders • Effectively reinvest the profit by leaving it in the business. It is the largest internal source of finance which the business will use without paying any costs. Completing the CAPTCHA proves you are a human and gives you temporary access to the web property. Advantages of Retained Earnings: Retained earnings, as a source of long-term finance, provide the following advantages to the company: (1) Retained earnings are, so to say, a free source of finance. High tax rate=Debentures are cheaper, low tax rate=equity is cheaper. Retained earning is the cheapest source of finance and secondly debts are also consider as the cheapest source of finance it is also followed by one condition that if there is no tax. So equity seems cheaper, right? Such finance is cheap and quick to raise, requiring no transaction costs, professional assistance or time delay. Shareholders of the company that retains more profit expect more income in future than the shareholders of the company that pay more dividend and retains less profit. No Fixed Obligation: If the company wants to inject equity finance it has to pay dividends to its shareholders and if the company wants to raising funds from the financial institution it has to pay interest. No fixed obligation: If the companies use equity finance they have to pay dividend and if the companies use debt finance, they have to pay interest. Retained earnings are the portion of a company's profit that is … From the share holder’s perspective tax deductibility feature of debt, finance is lucrative. Becoz it is created within the business firm from the profit earned. Answers of Which is the cheapest source of finance? Once of the source of finance is the retained earnings or accumulated profit. The advantages of using retained earnings as a source of finance to the company. Which is the cheapest source of finance? It is because neither dividend nor interest is payable on retained profit. Dividends to equity holders are not tax deductable. The cheapest source of finance is retained earnings. This discussion on Which is the cheapest source of finance? Join now. Dividends to, Retained earning is the cheapest cost because it required no money no flotation, Retained earnings r the cheapest source of finance. [Full Video] Debentures and Retained Earnings Merits and Demerits Class XI Bus. Thus, it is rightly justified that, retained earnings is the simple and cheapest method of raising finance. Retained earnings belongs to shareholders and hence warrant cost of equity which is highest among sources of finance. Retained earnings are one of the cheapest sources of finance that a company can use to finance its operations since... See full answer below. EduRev is a knowledge-sharing community that depends on everyone being able to pitch in when they know something. The Questions and 32 views Basically, the capital structure is formed by considering the financial strength of the company and the cost of funds from different sources. Generally, retained earning is considered as cost free source of financing. Therefore, there is an opportunity cost of retained … community of Commerce. Stud. Ask your question. Since retained earnings is a more expensive source of financing than debt and preferred stock, the weighted average cost of capital will fall once retained earnings have been exhausted. Tax benefit: The firm gets an income tax benefit on the interest component that is paid to the lender. Cheap sources of finance: Retained earnings is the very least cost sources of finance because it has not flotation costs like raising finance from the financial institution. Many people say that retained earnings are the cheapest source of financing but debt can be the cheapest source of financing from different perspectives. E1d. The portion of profits of a business that are not distributed as dividends to shareholders but are reserved for reinvestment back into business is called Retained Earnings. • False A firm may face increase in the weighted average cost of capital either when retained earnings have been exhausted or due to increases in debt, preferred stock, and common equity costs as additional new funds are … Tax benefit: The firm gets an income tax benefit on the interest component that is paid to the lender. Debentures. Debentures are the cheapest source of finance. What is the cheapest source of financing current assets? Retained earning is the cheapest source of finance and secondly debts are also consider as the cheapest source of finance it is also followed by … Retained Earning. Debt Or debenture is the cheapest source of finance. 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