Disadvantages of Equity Financing
Disadvantages of Equity financing:
Equity Financing is the only long-term answer to the problem of raising capital. Before taking the plunge, one should be well-versed in the benefits and drawbacks of raising capital via equity financing. Before applying for equity financing, you should be aware of its advantages and disadvantages. When a company sells stock to raise money, it is known as equity financing. For short-term financial needs or long-term goals, companies may seek money from investors. The sale of stock represents a company's exchange of equity for cash. When referring to publicly traded firms, equity financing is used. However, the phrase may also be used to describe private company funding.
Disadvantages of Equity financing:
There are several drawbacks to equity financing, or you might call them the cons:
Profits are shared by all
Your lenders and investors will be looking for a cut of your company's profits. The money they bring or the prospective business expertise and talents they offer may also be a beneficial trade.
Equity funding comes at a price, but its benefits come from your investor. You'll have to give up some of your company's power, which is one of the greatest drawbacks of equity financing.
Expense Raising Money
Compared to debt financing, equity financing is considered the most costly method of generating capital. The greater rate of return from equity stockholders is an evident explanation for this. Financial investors will anticipate a greater rate of return since equities shares are high-risk investments.
Cost of Flotation
Equity financing is the most time-consuming and difficult way to raise money. You'll have to pay a merchant financing fee, service charges, brokerage fees for the underwriting process, a guarantee fee, and additional expenditures.
The appointment of underwriters is a standard requirement for organizations seeking to go public for the first time. As an underwriter, one's job is to anticipate the possibility of a claim. If the public offering does not subscribe to the offers, the bankers will agree to do so and charge a fee for the administration. Prepaid or discount stock shares may be used to charge the fee.
Sharing ownership and collaborating with others may cause conflict and even pressure regarding ideas, development, and management style. It's something to think about. When this drawback of equity funding isn't considered early on, many business owners decide to depart.
Diffusion of ownership and control
One of the primary disadvantages of equity financing is that firm owners must give up a percentage of their own and lose some control. A set proportion of firm earnings must be provided to stockholders as dividends if and when the company is lucrative and successful. Generally, most venture funders want a 30% to 50% ownership share in firms that lack a solid financial foundation. Many firm founders and owners are loath to give up such a large portion of their corporate authority, which restricts their equity financing alternatives.
Due to the absence of tax shelters
Equity investments have no tax advantages over debt. In contrast to dividends paid to shareholders, interest payments may be deducted from taxable income. It raises the price of equity financing. In the long run, equity financing is more expensive than borrowing money through debt. Investors want a larger rate of interest than lenders, which is why the disparity. Investors are willing to take a greater risk to get a larger return.
IPO underwriters are often hired by companies when they want to sell stock to the general public. An underwriter's role is to absorb the risk of a customer's purchase. To the extent that they are not already committed by the general public, underwriters will offer to buy the shares on behalf of the company in exchange for a fee. In other cases, the fee may be in the form of a reduced equity stock price or an advance payment.
It would help if you now were well-versed on the benefits and drawbacks of using equity financing. Whether or not these advantages and disadvantages of equity financing are acceptable to your company, you may now decide for yourself. I hope you found this post useful and learned a lot about the benefits and drawbacks of equity financing. Please leave us a review and give us a star rating if you like our post.