When you are building a business, you will need capital. This usually refers to the money needed to grow and expand your business. Financial capital usually means assets, cash, and securities, and it is critical to companies’ ability to grow and expand. Continue reading to learn the two common ways that corporations raise capital.
Debt Capital
Debt capital is financing through debt. This is when a company borrows money from a lender and pays it back later. They might use loans or credit cards to raise debt capital.
One common way to do this is to ask a bank for a loan. The banks charge interest, which is how they make money on the loan. They can also issue corporate bonds. Companies can sell them to investors, who are often called bondholders. They usually mature after a particular date. The company pays interest on the bonds in the interim.
Corporate bonds carry a higher risk, but they pay a higher rate. The downside is that the company has to make the interest payments. If the business is short on cash, they still have to come up with these payments. It is the same situation when they have a loan from a bank. It is important for the business to have the ability to pay the interest for the term of a debt-based loan.
Equity Capital
Equity capital is different from debt capital. Instead of borrowing money, the company sells shares of company stock. There are two types of shares, which are common shares and preferred shares.
Common stock gives the shareholders voting rights, but they are at the low end of people who own stock in the company. Preferred shares have payments that are guaranteed above those who have common shares, but they have no voting rights.
The benefit of using equity capital is that the company doesn’t have to repay it. The cost is simply the return that the shareholders expect based on the performance of the market. The problem is that the shareholders own a small piece of the company, which means that ownership becomes diluted. If companies want their stock value to stay high, they need to make sure that the company is successful.