State the merits and demerits of public deposits and retained earnings as methods of business finance.

The deposits that are raised by organisations directly from the public are known as public deposits. Public deposits are beneficial to both medium and short-term financial requirements of a business. The acceptance of public deposits is regulated by the Reserve Bank of India.

Merits of Public deposit:

(i) The procedure of obtaining deposits is simple and easy.

(ii) Cost of public deposits is generally lower than the cost of borrowings from banks and financial institution.

(iii) It does not usually create any charge on the assets of the company. The assets can be used as security for raising loans from other sources

(iv) The depositors do not have voting rights and hence the control of the company is not reduced.

Demerits:

(i) New companies generally find it difficult to raise funds through public deposits

(ii) It is an unreliable source of finance as the public may not respond when the company needs money

(iii) Collection of public deposits may prove difficult, particularly when the size of deposits required is large.

Retained earnings: When a portion of the net earnings is retained in the business for the future use, this is known as retained earnings. Generally, a company does not distribute all its earnings amongst the shareholders as dividends. They kept it as is a source of internal financing or self-financing.

Merits

i. Retained earnings are a permanent source of funds available to an organisation.

ii. It does not involve any explicit cost in the form of interest, dividend or floatation cost.

iii. As the funds are generated internally, there is a greater degree of freedom and flexibility.

iv. It enhances the capacity of the business to absorb unexpected losses.

v. It may lead to an increase in the market price of the equity shares of a company.

Limitations

i. Excessive ploughing back may cause dissatisfaction amongst the shareholders as they would get lower dividends.

ii. It is an uncertain source of funds as the profits of the business are fluctuating.

iii. The opportunity cost associated with these funds is not recognized by many firms. This may lead to sub-optimal use of the funds.