Analysis of Debt Financing vs. Equity Financing, Article Review Example

Abstract

Organizations that are searching for financing have two basic choices.  They may borrow funds or they may receive equity capital.  There are different characteristics to equity and debt financing.  Each of the distinct types of financing has an influence on an organizations taxes, cash flow, earnings and balance sheet presentation.  The fund raising methods of debt financing compared to equity financing were reviewed.  The different types of equity financing were explored.  The perspectives of   Covas & Den Haan, (2011), Dogras (2009) were accessed.

Analysis of Debt Financing vs. Equity Financing

Senior Debt and Subordinated Debt

Senior debt incurred by means of loans is originated through a bank is more cost avoidant than other types of financing.  Senior debt is usually collateralized with assets, accounts receivables organizational assets, real estate or personal assurances.   In the majority of the cases, senior debts for organizations which have elevated potentials of growth have found that senior debt is insufficient in order to cover all of their needs.  Subordinated debt is a type of financing which is composed of debt and equity financing.  The exposure to risk for the subordinated debt is higher than the senior debt.  As a result, the subordinated debt usually has a more elevated rate of interest and an incentive.  The incentive is usually an equity interest in the organization, which is normally performed in the form of issuing warrants or stock.  Subordinate debt is excellent for organizations which are involved in acquisitions or recapitalizations (Covas & Den Haan 2011; Dogra, 2009).

Equity Financing

 The equity quality of financing involves an investment in the organization in return for a percentage of the business ownership.  In equity financing, the organization receiving the financing must make the interest related payments and provide the equity suppliers with a decision making position in the organization.  The equity owners have high involvement in the organization.  Exit strategies and dates are provided to the equity investors (Covas & Den Haan 2011; Dogra, 2009).

Equity Compared to Debt Financing

(Covas & Den Haan 2011; Dogra, 2009)

 Table 1: Equity Financing Qualities Compared to Debt Financing.

Conclusion

 It is important for organizations to make the right financing selection.  In addition, the most suitable financier must be selected.  The acceptance of equity investors in an organization creates and intimate and delicate relationship.  Organizations should select an investor with whom they feel comfortable.

References

Covas, F & Den Haan, W. J. (2011). The role of debt and equity finance over the business cycle. University of Amsterdam and United States Federal Reserve.

Dogra, A. (2009). Debt financing vs. equity financing. Buzzle.