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8/3/2019 Debt Financing Kamal Deep
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Kamal deep choudhary
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` Debt borrowing money from an outside source withthe promise to return the principal, in addition to anagreed-upon level of interest.
` Debt is also referred to as leverage in finance.
` In contrast equity financing does not have to berepaid.
` The interest rate reflects the level of risk that thelender undertakes by providing the money. Debt
financing entails less risk than equity financing, thusitis usually cheaper.
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Pre-launch
Start-up G
rowt
h
Transition
E
xit/Succession
Life Cycle of a Business Venture
Bootstrapping
Self, Friends and Family
Equity Financing
Debt Financing
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` Maintained ownership allows the founders to
retain ownership and control of the company (in
contrast to equity financing).
` Greater degree of financial freedom provides
business with a greater degree of financial
freedom than equity financing as
debt obligations are limited to the loan repaymentperiod, afterwhich the lender has no further claim
on the business.
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` Easy to administer lacks the complex
reporting requirements accompanying some
forms of equity financing.
` Tax deductions interest payments can bededucted from business income taxes (lower
interest rate).
` Less expensive tends to be less expensive
over the long term than equity financing.
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` Repayment shortages in CF may makeregular payments difficult (incl. penalties, taking
possession of collateral etc.).
` High rates interest rates vary with
macroeconomic conditions,the borrowershistory with banks, business credit rating,
personal credit history.
` Impacts borrowers credit rating debt
increases leverage,failure to make paymentsadversely affects business creditrating and its
ability to obtain further financing
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` Cash and collateral necessary to make sure
the business will be generating sufficient CF, it is
asked to put up collateral on the loan.
` vailability limited to established businesses it can be difficult for unproven businesses to
obtain loans, the amount of money SMEs may be
able to obtain via debt financing is likely to be
limited, so they may need to use other sources offinancing as well
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` Expected to be paid within one year
` Most often used to finance short-term
expenditures such as inventory, supplies, payroll,etc.
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` Banks
` Asset-based lenders
` Factors
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` Beyond one year
` Most often used to fund fixedasset purchases
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` Banks: term loans
` Leasing companies
` Real estate lenders
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