Law Test Notes
Equity 4
Textbook 1 Chapter 7 Equity- The first Building Block
Liability is a fixed obligation and must be paid back. Equity is residual and does not have a fixed repayment requirement. Equity can also be thought of as the foundation of a business as in the old adage. Equity provides:
The cushion to absorb shrinking asset in a downturn
The resilience to withstand operating losses;
The leverage to avoid debt carrying costs
Equity represents the ultimates business risk. In relation to the risk/reward curve, equity is at the extreme end - it taked the greatest risk, and therefore, deserves the greatest reward. The common observation: equity is costly.
The cost of debt it measured in terms of interest to be paid: the cost of equity is related to the amount or share of ownership given up and dividends paid.
When does a business need additional equity?
A significant amount of equity is needed at the start. As circumstances change throughout the life cycle of the business, additional equity will be needed. (example: a major plant and equipment expansion, market expansion by introducing new products, etc)
Determining the Debt-to-equity Ratio
For many business, a debt/equity ratio from 1:1 to 2:1 is considered satisfactory. The debt burden must also be weighed in relation to the profitability, cash flow and product or service cycle that determine the company's ability to service the obligation.
Main sources of equity
1. Personal Assets, close friends, relatives
2. Angels
3. Government Programs
4. Industry
5. Venture Capital
6. Strategic Partnering
7. Initial Public Offering (IPO)
Carefully Assess Potential Sources of Equity
Many sources of referrals for potential equity investors: Government industry department, local Chambers of Commerce, Area industrial development department, Entrepreneur clubs, professional advisors (lawyer, accountants), suppliers, bankers.
The following are the sources of equity financing available to the entrepreneur:
Private sources- informal
Textbook 1 Chapter 7 Equity- The first Building Block
Liability is a fixed obligation and must be paid back. Equity is residual and does not have a fixed repayment requirement. Equity can also be thought of as the foundation of a business as in the old adage. Equity provides:
The cushion to absorb shrinking asset in a downturn
The resilience to withstand operating losses;
The leverage to avoid debt carrying costs
Equity represents the ultimates business risk. In relation to the risk/reward curve, equity is at the extreme end - it taked the greatest risk, and therefore, deserves the greatest reward. The common observation: equity is costly.
The cost of debt it measured in terms of interest to be paid: the cost of equity is related to the amount or share of ownership given up and dividends paid.
When does a business need additional equity?
A significant amount of equity is needed at the start. As circumstances change throughout the life cycle of the business, additional equity will be needed. (example: a major plant and equipment expansion, market expansion by introducing new products, etc)
Determining the Debt-to-equity Ratio
For many business, a debt/equity ratio from 1:1 to 2:1 is considered satisfactory. The debt burden must also be weighed in relation to the profitability, cash flow and product or service cycle that determine the company's ability to service the obligation.
Main sources of equity
1. Personal Assets, close friends, relatives
2. Angels
3. Government Programs
4. Industry
5. Venture Capital
6. Strategic Partnering
7. Initial Public Offering (IPO)
Carefully Assess Potential Sources of Equity
Many sources of referrals for potential equity investors: Government industry department, local Chambers of Commerce, Area industrial development department, Entrepreneur clubs, professional advisors (lawyer, accountants), suppliers, bankers.
The following are the sources of equity financing available to the entrepreneur:
Private sources- informal