The deposits that are raised by organizations directly from the public are known as public deposits. It refers to the unsecured deposits invited by companies from the public mainly to finance working capital needs. Rates of interest offered on public deposits are usually higher than those offered on bank deposits. Public deposits refer to the unsecured deposits invited by companies from the public mainly to finance working capital needs.
Any person who is interested in depositing money in an organization can do so by filling up a prescribed form. The organization in return issues a deposit receipt as an acknowledgment of the debt. Public deposits can take care of both medium and short-term financial requirements of a business. The deposits are beneficial to both the depositor as well as to the organization. But, there is also a higher risk in public deposits. Public deposits cater to both short term and medium-term finance requirements.
Companies generally invite public deposits for a period of upto three years. A company wishing to invite public deposits makes an advertisement in the newspapers.
Advantages/Merits – The merits are as follows:
These are a very convenient source of business finance. No cumbersome legal formalities are involved. The procedure of obtaining deposits is simple and does not contain restrictive conditions as are generally there in a loan agreement. The company raising deposits has to simply give an advertisement and issue a receipt to each depositor.
The cost of public deposits is generally lower than the cost of borrowings from banks and financial institutions. Moreover, no underwriting commission, brokerage, etc. has to be paid. Interest paid on public deposits is tax-deductible which reduces tax liability. Therefore, these are a cheaper source of finance.
- No Charge on Assets:
Public deposits do not usually create any charge on the assets of the company. These are unsecured and, therefore, do not create any charge or mortgage on the company’s assets. The assets can be used as security for raising loans from other sources. The company can raise loans in the future against the security of its assets.
As the depositors do not have voting rights, the control of the company is not diluted. There is no dilution of shareholders’ control because the depositors have no voting rights. They can be returned when the need is over. Therefore, these deposits introduce flexibility in the company’s financial structure.
- Trading on Equity:
Interest on public deposits is paid at a fixed rate. This enables a company to declare higher rates of dividend to equity shareholders during periods of good earnings.
Disadvantages/Limitations – The major limitations are as follows:
The depositors may not respond when economic conditions are uncertain. New companies generally find it difficult to raise funds through public deposits. Depositors are entitled to withdraw their deposits at any time after giving prior notice to the company. Similarly, new companies cannot depend on this source of finance.
- Limited Funds:
A limited amount of funds can be raised through public deposits due to legal restrictions. It is an unreliable source of finance as the public may not respond when the company needs money.
- Limited Appeal:
These deposits do not appeal as a mode of investment to bold investors who want capital gains. The collection of public deposits may prove difficult, particularly when the size of deposits required is large. Conservative investors may also not like these deposits in the absence of proper security.
- Hindrance to Growth of Capital Market:
These deposits hamper the growth of a healthy capital market in the country. The widespread use of public deposits creates a shortage of industrial securities.