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APA
Subject:
Business & Marketing
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Essay
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English (U.S.)
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Topic:
Business Financing and the Capital Structure
Essay Instructions:
Business have to make financial decisions that have a direct impact on operations and the ability to successfully compete in the marketplace. 1. Assume that you are a financial advisor to a business. describe the advice that you would give to the client for raising business capital using both debt and equity options in today's economy. Outline the major advantages and disadvantages of each option. 2. Summarize the advice that you would give the client on selecting an investment banker to assist the business in raising captial. 3. Explain the historical relationships between risk and return for common stocks versus corporate bonds. Explain the manner in which diversification helps in risk reduction in a portfolio. Support response with actual data and concepts.
Essay Sample Content Preview:
Business Financing
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Equity financing and Debt financing
The choice of equity financing enables businesses to share risks with investors, and this option is particularly necessary for businesses that need to generate more cash flows as there is no need for debt payments unlike debt financing. Furthermore, since investors have a direct stake in a business they are likely to offer their assistance. In essence, the business gets access to cash on hand, and since investors have a long-term view about the business, they do not expect immediate returns to their investments.
Nonetheless, equity finance also has drawbacks for the business, as investors become owners, whereby decision making becomes more collaborative. Investors share business profits and since there is loss of control in the business, making decisions might take time and effort (Walter, 2003). In any case, as investors gain more control of the business they may want to have their representatives in the top decision making organs of the business. At other times profit distribution exceeds what the business would repay for a loan.
The debt financing option ought to be chosen where there is a need for total control of the business. Thus, the main benefit is that there are no controlling interests from investors, whereby all the profits made are not shared among the investors and they do not have a stake in making decisions. Furthermore, loan interest is tax deductible for businesses which result to debt financing (Walter, 2003). So long as one makes the debt payments, the lenders do not share the profits. The debt is paid over time in installments, and if the interest rates are low the option should be chosen over equity financing.
The major disadvantage of debt financing is that the loan must be repaid in full together with the installments. Additionally, failure to pay exposes the business to property repossessions, and it is harder to get debt financing if the business has a bad reputation for defaulting. Debt financing reduces future earnings as a portion of earnings must be set aside to pay for debt payments, and this can deepen the cash flow problem if the business is not doing well.
Selecting an investment banker
An investment banker plays an important role in raising capital and offering financial advice. The investment banker ought to have experience and understand the business segment of the organization. This should enable the investment banker to form and build relationships with venture capitalists and other investors. Essentially, it should be easy for the investment bankers to sell the idea about the organization’s business. Raising capital is also dependent on reputation of the investment banker, and they should have solid experience backed by contacts that facilitate execution of the best deals.
It is also necessary...
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