This essay aims at understanding the difference between debt financing and equity financing with a major focus on American Superconductor’s decision to go for equity financing in 2003. The following sections explain the benefits and drawbacks American Superconductor…
Debt financing has a fixed term for repayment. Like loans the terms can be either short or long and is normally raised from banks and small business administration (SBA). It has a fixed rate of interest payable. However equity financing is not repayable; the lender has a right over the business and can participate along with the board of directors, in the annual shareholder’s meeting, to have an active role in the decision making of the company. It is generally raised by family or friends, who are normally called ‘Angel investors’ (Samuels et al, 2000). Also financing can be got by venture capitalists, private equity firms and the investors are normally referred to as ‘Venture Capitalists’(Samuels et al, 2000). This form of financing does not have a fixed cost, but the cost varies based on the performance of the company. Also with newer investors becoming a part of the business makes the business more credible and gains higher attention from the lenders network (Weston and Copeland, 1988).
In debt financing there is a tendency of businesses to rely too much on the mode of financing, however if the company does not generate enough revenues to pay back the loans it could cause a lot of problems for the business like bad credit ratings and can even lead to closing down of the business. Also it makes the company unattractive to investors. If the company has a lot of loans investors would view and classify the company as ‘High Risk’ which would cause them not to make investments in the business (Samuels et al, 2000). The debt to equity ratio normally affects the cost of debt; hence if the ratio is high it would make it difficult for the business to obtain debt financing. Both the sources of financing require to be well balanced, and it is essential that the company carries out enough debt to balance the equity investment however care needs to be taken not to affect the chances of getting ...
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