Question

Discuss the importance of public deposits as sources of medium and short-term finance.

Describe the advantages of Public Deposits.

Answer 1

1. Simplicity: Public deposits are a very convenient source of business finance. No cumbersome legal formalities are involved. The company raising deposits has to simply give an advertisement and issue a receipt to each depositor.
2. Economy: Interest paid on public deposits is lower than that paid on debentures and bank loans. Moreover, no underwriting commission, brokerage, etc. has to be paid. Interest paid on public deposits is tax deductible, which reduces tax liability. Therefore, public deposits are a cheaper source of finance.
3. No Charge on Assets: Public deposits are unsecured and, therefore, do not create any charge or mortgage on the company's assets. The company can raise loans in the future against the security of its assets.
4. Flexibility: Public deposits can be raised during the season to buy raw materials in bulk and for other short-term needs. They can be returned when the need is over. Therefore, public deposits introduce flexibility in the company's financial structure.
5. Trading on Equity: Interest on public deposits is paid at a fixed rate. This enables a company to declare higher rates of dividends to equity shareholders during periods of good earnings.
6. No Dilution of Control: There is no dilution of shareholders' control because the depositors have no voting rights.
7. Wide Contacts: Public deposits enable a company to build up contacts with a wider public. These contacts prove helpful in the sale of shares and debentures in the future.