Disadvantages Of Equity Finance

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Equity financing is a process or a method of raising capital through the sales of company shares to investors in an enterprise. The shareholders are going to receive ownership interests in the enterprise as a return of investment. This method of raising funds is essentially referred to the sale of an ownership interest for business purpose as this process spans a wide range of actions and activities in scale and scope. Equity financing involves the sale of common equity as well as sale of other equity or quasi-equity instruments for instance preferred stock, convertible preffered stock and equity units that include warrants and common shares. A company is going to face the problem of need for extra and additional capital when it wants to have…show more content…
No company’s main focus or objective can be financial management only. A product manufacturing company will have an objective of producing high-quality goods and reach to its right consumer. A service provider company will ensure providing high-quality services. Equity finance provides that leverage to the management to continuously focus on fulfilling their core objectives. It keeps management away from the hassles of raising funds again and again like other sources of financing viz. debt. Debt is raised and paid back over a period of time. NO OBLIGATORY DIVIDEND PAYMENTS Equity finance for a new company is like blessings of an angel. The main limitation of a new company is the uncertainty of cash flows. Equity mode of finance gives management a breathing space by having no fixed obligation to pay dividends. A company can choose to pay no dividend or smaller dividends as per the cash flow…show more content…
The obvious reason is the higher required rate of return from equity share investors. Since equity share investment is a high-risk investment, an investor will always expect a higher rate of returns. NO TAX SHIELD The dividends distributed to the shareholders are not a tax deductible expense. On the contrary, the interest expense is an eligible expense for tax benefits. A 12% interest rate with 40% prevailing Tax Rate makes the effective cost of funds to be 7.2% {12% * (1-40%)} in case of debt. This benefit is not available to the equity source of financing and therefore, it is considered as a costly source of financing. UNDERWRITING OF SHARES At the time of offering equity shares to the public, the company normally requires the appointment of underwriters. The job of an underwriter is to assume the risk of subscription. Underwriters would agree to subscribe the shares to an agree on extent if not subscribed by the general public and will charge a fee for that service. The fee may be in the form of upfront payment or may be a discounted equity share price. DILUTION OF
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