Forms of Financing

Forms of Financing

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Forms of Financing

Discuss the advantages and disadvantages of the following types of financing:
1. Issuing bonds
2. Borrowing from the bank
3. Equity financing
Provide an example of how a public company has relied more on one method of financing than the others and why it has done so

Forms of Financing

Issuing bonds

Issuing bonds arises as a financing option whenever a company is opting to raise finances that may take a longer time such as thirty years when repaying.  It is usually an advantageous mode of financing to both company and investors as it does dilute ownership interest. Bonds are also preferred as they are deductible from the income tax return of a company. Another advantage is the long-term payment period, which allows the company to accumulate funds for payment to the bondholders in future. Unfortunately, being a debt mode of raising funds, bonds are characterized by high market volatility, rise of interest and a high level of credit risks (Brealey, 2012).

Borrowing from the bank

Borrowing from the bank arises as an option whenever a company is making short-term investment of less than five years. The main merits that lead companies to opt for this mode of financing is in its flexibility as they can raise any fees that they feel are in line with their needs and capacity. Just as using bonds in raising funds, borrowing from a bank also never saturates the ownership interests. The main demerits arises from the high interest rates that are pegged to the funds, the lengthy process that is involved while obtaining funds and the fact that poor credit history may deny one the opportunity to use this method. Should the company fail to raise funds to repay the loan, the bank is allowed to sell the pegged asset as per their agreement (Brooks & Mukherjee, 2013).

Equity financing

As Brealey (2012) notes, equity financing is the most preferred method by public companies. Its preferred since it allows the company to raise a high level of capital without worrying about repayment. Using the stock also positions the company to raise more funds in the future especially when the stock levels rise. This mostly explains why public companies opt for this method. Equity financing is also characterized by demerits since the investors will have a stake of ownership and can play in making management decisions. The company also has to comply with delivering information to all the shareholders and explain why it is opting to raise more funds for investment. It is also worth noting the process is labor and capital intensive before a company raises funds through this method.

 

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