Debt Versus Equity Financing Paper
Lease versus purchase options will be discussed in this paper as well as compare and contrast discussing what debt financing is, what equity financing is, and which alternate capital structure is more advantageous accordingly.
Debt financing is when a company raises money for working capital expenditures by sell bonds, bills, and notes to potential investors. As money is lent companies can become creditors and receive a promise that the interest will be paid back on the debt. Also, in debt financing raising money or capital can be through shares of stock in public offering, which is also called equity financing. The act of raising money for a company’s activities by selling common stock to individuals investors is equity financing. Money paid in return is shareholders ownership interests within an organization. Companies raise money by issuing stock. Also through debt financing money is raised. This is also when companies borrow money accordingly.
Debt vs. equity financing is one of the most important decisions facing managers who need capital to fund their business operations. Debt and equity are the two main sources of capital available to businesses, and each offers both advantages and disadvantages ("Debt vs. Equity Financing", 2004). Debt financing involves loans that must be paid back over a period of time where equity financing takes the form of money obtained by investors in exchange for ownership shares within a company.
Both debt and equity financing are key components to business to obtain capital for funding operations and growth. According to "Debt vs. Equity Financing" (2004), deciding which to use or emphasize, depends on the long-term goals of the business and the amount of control managers wish to maintain. Ideally, experts suggest that businesses use both debt and equity financing in a commercially acceptable ratio. This ratio, known as the debt-to-equity ratio, is a key factor analysts use to determine whether managers are running a business in a sensible manner. Although debt-to-equity ratios vary greatly by industry and company, a general rule of thumb holds that a reasonable ratio should fall between 1:1 and 1:2 ("Debt vs. Equity Financing", 2004).
In conclusion, many companies will depend on equity financing in the beginning stages of business and this is because it is difficult to have debt until a company receives a cash flow accordingly.
Debt vs. Equity Financing. (2004). Retrieved from http://www.enotes.com/debt-vs-equity-financing-reference/debt-vs-equity-...
Comparing Debt Financing and Equity Financing Essay
1358 Words6 Pages
There are two basic ways of financing for a business: Debt financing and equity financing. Debt financing is defined as 'borrowing money that is to be repaid over a period of time, usually with interest" (Financing Basics, 1). The lender does not gain any ownership in the business that is borrowing. Equity financing is described as "an exchange of money for a share of business ownership" (Financing Basics, 1). This form of financing allows the business to obtain funds without having to repay a specific amount of money at any particular time. There are also a few different instruments that could be defined as either debt or equity. One such instrument is stock options that an employee can exercise after so many years with the…show more content…
Now I will discuss the pros and cons of the alternative decision, which is a combination of the debt and equity methods. A positive of this method is that the instrument is split between debt and equity. The company could just split it up 50/50 between the two methods. Also if they had too much debt, they could account for the instrument with 20% as debt and 80% as equity. This would make it look as if they do not have too much debt or too much equity. This method would be an advantage, if the company were looking to get more financing in the future.
A negative aspect of this method is how the instrument is split between debt and equity. An example would be if the company split an instrument 50/50 between the two methods. This may seem fair when first accounting for it, but what if the split did not represent the actual split of the instrument. Let's say that it turns out that 90% of the instrument ends up being equity, and 10% ends up debt. The books would be off by quite a bit, and creditors my not be happy with the company when they learn of this.
Now that I have discussed pros and cons of each method, I will now explain the instrument that I will be using as an example. I will be using stock options as the instrument. Stock options are offered by many businesses to employees that stay with the company for a specified length of time. It is offered by the company as an