Question

QUESTION SIX

a)Debt finance is another source of long term capital for companies.

(i)Discuss any three types of debt instruments that are available to companies.

(ii)In relation to a company sourcing capital, discuss three benefits of using equity finance.

b)Your wealthy industrialist brother is trying to persuade your retired uncle to buy shares in Copperbelt Energy Limited? He himself owns a few thousand and is impressed by the steady rise in the price. Your uncle is skeptical because Copperbelt Energy pays out a very small dividend.Required:

(i)What arguments is your cousin likely to make to your uncle?

(ii)Are the arguments valid in this case?

Answer 1

Debt finance is another source of long term capital for companies

Sources of finance for business are equity, debt, debentures, retained earnings, term loans, working capital loans, letter of credit, euro issue, venture funding etc. These sources of funds are used in different situations. They are classified based on time period, ownership and control, and their source of generation. It is ideal to evaluate each source of capital before opting for it.

Sources of capital are the most explorable area especially for the entrepreneurs who are about to start a new business. It is perhaps the toughest part of all the efforts. There are various capital sources, we can classify on the basis of different parameters.

Loan stock is long-term debt capital raised by a company for which interest is paid, usually half yearly and at a fixed rate. Holders of loan stock are therefore long-term creditors of the company.

Debt financing occurs when a firm raises money for working capital or capital expenditures by selling debt instruments to individuals and/or institutional investors. In return for lending the money, the individuals or institutions become creditors and receive a promise that the principal and interest on the debt will be repaid.

three types of debt instruments that are available to companies

• Bonds.
• Certificates of Deposit.
• Commercial Papers.
• Debentures.
• Fixed Deposit (FD)
• G - Secs (Government Securities)
• National savings Certificate (NSC)

​​​​​​​Three benefits of using equity finance

The main advantage of equity financing is that there is no obligation to repay the money acquired through it. Of course, a company's owners want it to be successful and provide equity investors a good return on their investment, but without required payments or interest charges as is the case with debt financing.

• Freedom from debt - unlike debt finance, you don't make repayments on investments.
• Business experience and contacts - as well as funds, investors often bring valuable experience, managerial or technical skills, contacts or networks, and credibility to the business.

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