1. Pros of
using debt rather than equity :-
- Maintain ownership: You become obligated to
make the agreed-upon payments on time when you borrow from the bank
or another lender, but that's the end of your obligation. You
retain the right to run your business however you choose without
outside interference.
- Tax deductions: This is a huge attraction for
debt financing. In most cases, the principal and interest payments
on a business loan are classified as business expenses and they
can, therefore, be deducted from your business's income at tax
time. It helps to think of the government as a “partner” in your
business in this case, with a 30 percent ownership stake or
whatever your business tax rate is.
- Lower interest rate: Analyze the impact of tax
deductions on the bank interest rate. If the bank is charging you
10 percent for your loan and the government taxes you at 30
percent, there's an advantage to taking a loan you can deduct.
Cons of using
debt rather than equity :-
- Repayment: Your sole obligation to the lender
is to make your payments, but you'll still have to make those
payments even if your business fails. And your lenders will have a
claim for repayment before any equity investors if you're forced
into bankruptcy.
- High rates: Even after calculating the
discounted interest rate from your tax deductions, you might still
be faced with a high-interest rate because these will vary with
macroeconomic conditions, your history with the banks, your
business credit rating and your personal credit history.
- Impacts on your credit rating: It might seem
attractive to keep bringing on debt when your firm needs money, a
practice knowing as “levering up,” but each loan will be noted on
your credit report and will affect your credit rating. The more you
borrow, the higher the risk becomes to the lender so you'll pay a
higher interest rate on each subsequent loan.
- Cash and collateral: Even if you plan to use
the loan to invest in an important asset, you’ll have to be sure
that your business will generate a sufficient cash flow by the time
repayment of the loan is scheduled to begin. You’ll also most
likely be asked to put up collateral to protect the lender in the
event that you default on your payments.
2.Types of cost of Financial Distress Factors impacting the
likelihood of financial distress :-
a. Upper Bound on Costs of Financial Distress
Unobserved Debt at Face Value
b.Lower Bound on Costs of Financial Distress
Unobserved Debt at Face Value
c.Upper Bound on Costs of Financial Distress
Unobserved Debt at Credit Spread of Safest Bonds
d.Lower Bound on Costs of Financial Distress
Unobserved Debt at Credit Spread of Safest Bonds
3.
The EBIT-EPS approach to capital structure is a tool businesses
use to determine the best ratio of debt and equity that should be
used to finance the business' assets and operations.
At its core, the EBIT-EPS approach is a way to mathematically
project how a balance sheet's structure will impact a company's
earnings.
Coverage Analysis is a systematic review of all
procedures listed in the study protocol's schedule of events to
determine which ones are 'billable' and where these services should
be billed.