Knowing the Difference between Debt and Equity Financing

2008-06-23 14:34:23

( Financial )



Starting up a business would mean that the merchant may need cash. Financial difficulties are always the major drawbacks for businessmen or merchants. Debt and equity financing provides an opportunity for the merchant to attain funds for the start up of his business. Equity financing, however, are more attractive for many merchants who are just starting out. The concept of equity is that the merchant is selling stocks to investors.

If the merchant is to decide between debt and equity financing, he must consider all the risks and advantages he must take. Both debt and equity financing have their own advantages and disadvantages.

If you have to choose debt vs equity, you must consider the consequences. In debt financing, the merchant must pay for his debts plus interest. It would mean relinquishing some of his profits for payments of his debt. The advantage, however, is that the merchant retains full ownership of his business. Another advantage is that business loans are generally tax deductible. This may help the merchant pay less tax while he is in debt.

In debt financing, the merchant must provide collateral whether it is property or investments that can be secured in case he cannot pay his debts. The agreement in debt payment may be short term or long term. It is considered short term if the agreement must be paid in one year or less. If it is more than one year, then it is already considered as a long term debt.

In equity financing, the merchant is not obligated to pay the equity. If there is no profit, he pays his investors nothing. That is his advantage. The disadvantage in equity funding is that he is not the sole owner of his company. The money the merchant receives is exchanged with rights of ownership over his company. He will be sharing financial and execution control with the investor. Moreover, there is a risk of losing control over his company. In the future, he may be obliged to pay dividends to his shareholders. Dividend payments are not tax deductible.


All rights Reserved © Tradenet Services srl
Do not duplicate or redistribute in any form.