Question

What are the benefits and detriments of using debt as a source of funds when compared to issuing common stock?

Answer 1

Advantages of taking debt:

1. Company need not to dilute it's equity and thus maintains its control over the company.

2. Cost of raising debt is cheaper.

3. Less transparency required .

4. Less scrutiny by exchanges and thus saves reporting costs to exchanges.

Disadvantages of taking debt are :

1. Increases financial risk and bankcrupcy risk.

2. Puts negative covenants like limit on raising new debt.

3. Increases liabilities on balance sheet which needs to be repaid back , even if company struggles to repay back.