Many people say that retained earnings is the cheapest source of financing but debt can be cheapest source of financing from different perspectives.
Debt financing is the act of raising operating capital or other capital by borrowing for a business. Most often, this refers to the issuance of a bond, debenture, or other debt security.
When a company takes loan from third party then it is considered as debt financing. It is one of the most commonly used ways of financing. Debt can be of short term, midterm and long term.
Company can manage its required funds through debt or equity or combination of both. Choosing an optimal capital structure different company use different ratio of debt and equity. But question is how an optimal capital structure can be formed. Basically the capital structure is formed by considering the financial strength of the company and cost of funds of different sources.
From the share holder’s perspective tax deductibility feature of debt finance is lucrative. And from the lenders perspective debt is secured because creditors get the preference of getting their principal and interest before making any benefit to the share holders.
Tax deductibility feature of debt is the main point, on which we can say debt is the cheapest source of financing.
There are some other points that may include with deductibility feature. These are
- Time value of money and preference of funds.
- Dividends not payable to lenders
- Interest rate.
Naveen Sharma 8 years, 5 months ago
Many people say that retained earnings is the cheapest source of financing but debt can be cheapest source of financing from different perspectives.
Debt financing is the act of raising operating capital or other capital by borrowing for a business. Most often, this refers to the issuance of a bond, debenture, or other debt security.
When a company takes loan from third party then it is considered as debt financing. It is one of the most commonly used ways of financing. Debt can be of short term, midterm and long term.
Company can manage its required funds through debt or equity or combination of both. Choosing an optimal capital structure different company use different ratio of debt and equity. But question is how an optimal capital structure can be formed. Basically the capital structure is formed by considering the financial strength of the company and cost of funds of different sources.
From the share holder’s perspective tax deductibility feature of debt finance is lucrative. And from the lenders perspective debt is secured because creditors get the preference of getting their principal and interest before making any benefit to the share holders.
Tax deductibility feature of debt is the main point, on which we can say debt is the cheapest source of financing.
There are some other points that may include with deductibility feature. These are
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