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Debt Vs Equity FinancingDebt financing is borrowing of money for the business. It can be for short term financing or for long term goals. The debts are to be paid in accordance to the stated policies with interest amount over the sum borrowed. The individuals, who finance these debts, do not have any ownership interest in the business. The business which employees these debts have limited obligation for the repayable amount. Equity financing means sharing of ownership of the business depending upon the invested amount. So, if an individual shares the equity capital of any business, he has to invest the amount, which wont be considered as debt or loan. The equity financing of public companies are freely transferable.
Advantages and Disadvantages of Debt Financing
The managerial decisions are shared neither with the creditors nor with the debts holders. The debt holders cant share the ownership rights and the future profits of the organization. The borrowed capital helps the company to book in the profits and share the same with the owners of the company. The interest amount paid towards debts is also ax deductible. The disadvantage of debt financing is to maintain the sufficient cash flow for repaying the amount. Mostly, it is observed that the profits in the form of cash are used for paying the debt financiers. Too much debt liabilities can spoil the credit rating of the organization. Debt financing can also lead to collateralizing the assets of the company. The other problem with debt financing is to deal with lenders and the criteria for obtaining such loans.
Advantages and Disadvantages of Equity Financing
The one of the advantage of equity financing is that at the time of liquidation, the equity financers are to be paid in last, if the property or the valuables are remaining. But, on bankruptcy, the equity financers are not paid anything. The assets and the properties of the company need not be pledged for obtaining the equity investment. Equity finance helps to boast the credit rating of the organization, as more the equity, lesser would be the debts. The disadvantage of this finance is the ownership sharing ratio. As, the equity financier, the ownership and the managerial powers have to be shared. The control over the business also gets affected because of equity financing. The different ideas sharing can create the problem for speedy decisions. The cash reserve of the company would be more, as no payments are to be made to debt financiers. It would result in less optimum use of resources.
Need For Debt and Equity Finance
It is like a matrix to solve for combining the debt and equity financing. The ratio of equity and debt financing is important to be maintained. The combination of both the finance source should be planned as per the budgets of the organization for the next few years. The company has to manage the resources in such a way that the debts should not be a burden over the growth and expansion f the company. The equity should not be shared more, as it will create problems in taking decisions and managing the resources.
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