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Debt vs Equity Financing

Equity is the worth of an asset minus the total of all liabilities on that asset.

Equity Financing is the course of increasing capital by the sale of shares in a business. The sale of ownership parts to increase finances for the purpose of business is equity financing. Equity financing has a broad spectrum to increase ownership shares. Friends and family members can be asked to invest funds and get ownership shares accordingly. Giant initial public offerings can be made to raise funds from millions to billions. Financing from other private companies can also be considered in equity financing. Equity financing is different from debt financing. Debt financing is made when money is borrowed and has to be paid back, usually with interests. 

Debt is the money borrowed by an entrepreneur to use in funding a business that he/she could not afford under normal conditions. A debt arrangement means that the borrower is given money under the condition that borrowed money will be paid back at a later date, usually with interest. There can be different types of loans. Debt can be issued either to an individual borrower or to a business. 

In certain cases, borrowing money is much better than giving up equity.

Reasons Why Borrowing Money Is Usually Better Than Giving Up Equity

1.  When taking debt, the lender has no claim to equity in the business. Ownership remains the same. Business operation and bookkeeping decisions remain with the owners/entrepreneurs/executive management. Equity charges a part of your business, forever. Equity financing divides the ownership of a company.

2.  When net profit is increased, the lender will only be given the borrowed money and the interest in it. If business progress and rewards are larger, the entrepreneurs will reap the rewards. The lender will have no claim or share in the business rewards/profits. But if you go for equity financing, in the long run, the shareholders will be getting the share in net profits. In short, future profits will be distributed among equity holders and your profit share will be reduced.

3.  Interests on debt can be subtracted on the business’s tax returns. Borrowing money can be a gift to entrepreneurs. The cost of interest decreases taxable profit that your business earns, thus it reduces the tax expense in your company/business. Large corporations/businesses also use this strategy to reduce the tax expense. If you get cash from equity instead of debt, then you will be paying off the cash to the equity holder for your business. But when debt is taken, the interests are deducted from the taxable profit. So, the expense of interests is reduced and the debt will also be paid back eventually.

4.  There will be no need to seek the vote of shareholders in the business for making certain decisions. Debt is good if you want to keep the business and the whole ownership with you. In the case of equity financing, the shareholder’s vote will be compulsory in making decisions for the growth of business, investments, expenses and other internal decisions.

5.  Debt boosts discipline and discipline ensures success. Debt brings about a discipline in spending and reduces expenses in the company. Debt is not merely taken to increase discipline, but it is also a plus point in holding unnecessary expenses in the business. A check and balance system is maintained on business bookkeeping. Cash flow is regularly matched with financial statements and balance sheets. Business operations are routinely done. 

Conclusion

It is a myth that debt is never good in any kind of business or situation. Many times, debt is proven to be better than giving up equity. Debt can be paid back. But once the equity is given, other shareholders in the company appear.

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Debt Vs Equity Financing - Complete Controller

Debt is often created by an entrepreneur when funding large purchases that could not be afforded under normal conditions. A debt arrangement means that the borrower loaned money under the condition that the money will be returned through payments with interest.

 

Equity is the worth of an asset minus the total of all liabilities on that asset. Equity financing is the course of increasing capital by the sale of shares in a business. The sale of ownership parts to increase finances to business is equity financing. Equity financing has a broad spectrum to increase ownership shares. Friends and family members can be asked to invest funds and gain ownership shares accordingly. Financing from other private companies can also be considered in equity financing.  Check out America's Best Bookkeepers

Debt vs. Equity Financing

Debt vs. Equity Financing is a very strategic decision to be made by small and medium-sized business owners/entrepreneurs. One should consider all of the pros and cons of increasing business capital through debt financing or equity financing.

Advantages of Debt financing through Equity Financing

  • When taking debt, the lender has no claim to equity in the business. Ownership remains the same. Business operation and bookkeeping decisions remain with the owners/entrepreneurs/executive management.
  • When net profit is increased, the lender will only be given the debt money and the interest in it. If business progress and rewards are larger, the entrepreneurs will reap the rewards. The lender will have no claim or share in the business rewards/profits.
  • Interests on debt can be subtracted on the business’s tax returns.
  • There will be no need to seek the vote of shareholders in the business for making certain decisions. Check out America's Best Bookkeepers

 

Disadvantages of Debt financing over Equity Financing

  • Debt has to be paid back with interests, regardless if the business is running successfully or not.
  • High interest in debt during the recession of business can dissolve the business.
  • The bigger the debt to equity ratio in the business, the riskier business is considered by the investors.
  • The company is usually required to place assets of the company as security/warranty to the lender.

 

Debt vs. Equity Financing: Which way should your business go?

  • How early are the finances needed? If there is no time to wait, then debt financing is the option left to invest in the business.
  • How much finance is needed? If there is a small amount to be invested, then debt can be taken.
  • If a company is running successfully and financing is required urgently, debt can be taken.
  • If the business is growing and successful, equity will provide a chance to attract investors with experience and knowledge. A good business relationship is established among the entrepreneurs/investors. It can have a remarkable positive impact on business in the long run.
  • Debt is good only if you want to keep the business local and keep the whole ownership with you. But, if the business is progressive, reaching to other markets other than your local community, you might need to go for equity financing. Check out America's Best Bookkeepers


Conclusion

Debt and Equity Financing are the two options available for small to medium-sized business owners when they need to invest more money, but they lack the amount at the time of financing. Entrepreneurs must consider all options for choosing debt or equity financing. If the company is facing a period of decline or recession, then the debt may not be a good choice.

 

Check out America's Best Bookkeepers About Complete Controller® – America’s Bookkeeping Experts Complete Controller is the Nation’s Leader in virtual bookkeeping, providing service to businesses and households alike. Utilizing Complete Controller’s technology, clients gain access to a cloud-hosted desktop where their entire team and tax accountant may access the QuickBooks™️ file, critical financial documents, and back-office tools in an efficient and secure environment. Complete Controller’s team of certified US-based accounting professionals provide bookkeeping, record storage, performance reporting, and controller services including training, cash-flow management, budgeting and forecasting, process and controls advisement, and bill-pay. With flat-rate service plans, Complete Controller is the most cost-effective expert accounting solution for business, family-office, trusts, and households of any size or complexity. Check out America's Best Bookkeepers