Debt Versus Equity Financing

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Debt Versus Equity Financing

Jennifer Green

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Steven McAlister

Week 5

Debt Versus Equity Financing

In the paper the author will discuss debt financing and equity financing. For clarification of each finance type the author will provide examples. Further, this author will discuss which of the alternative capital structures is more advantageous and why.

Debt Financing

Debt financing can be long or short term and secured or unsecured. Generally speaking debt financing is obtained from a bank and allows the borrower to finance their operations for a fee known as the interest rate. In the event that the loan is secured, the bank holds title to a portion of the firms investments in exchange for the money lent to the company and can take the collateral if the loan is not paid by the maturity date. When a loan is unsecured the bank will take a portion of the liquidated assets to cover the cost of the debt if the company cannot pay. An example most Americans are familiar with of debt financing is the purchase of a home or car. The payments are amortized over an extended period and interest is paid throughout the life of the loan, if the loan is not paid the home or vehicle is repossessed by the lender and the borrower loses their interest in the asset. This is similar to a company leasing a building or a fleet of vehicles. Another example of debt financing is a payday loan. Payday loans have become quite popular in the spiraling economy and many people have turned to these lenders for short-term financing. Payday loans allow the borrower to quickly get a predefined sum of money with a specific maturity date at which time the company will withdraw the funds from the borrower’s bank account plus the predetermined interest. This is similar to a company borrowing money for operating costs such as materials or equipment. “Short term financing is referred to as an operating loan...