To advise Pronto PLC’s management, there are certain key factors which impact the reasons that are responsible for choosing the right source of finance from a long-term and short-term perspective. Financing can come in the form of debt or investment, and finance terms can vary significantly. These decisions are important for the firm’s valuation and assessment of its resources. Therefore, following are some of the important factors that should be considered while deciding on the source of finance:
Risk: This should be considered when the company is unable to meet the financial commitments relating to a specific source of finance. When it comes to choosing suitable funding, the company must thrive to minimise the overall risk associated with
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If additional liquid cash exists, then it is the most relevant source of finance for new projects. Alternatively, pressurising debtors for early settlement or extending the payment period for creditors could help increase the cash resources. However, if this strategy doesn’t work, then the company must consider raising finance externally.
If finance needs to be raised externally, should it be debt or equity?
Here a company needs to consider how much it should borrow. Debt finance is usually cheaper than equity finance as debt financing is a better deal from a lender’s viewpoint. Interest must be paid before dividend. In case of liquidation, the debt finance is paid early before equity and this helps in making debt a safer investment than equity. Therefore, debt investors demand a lower rate of return than equity investors.
If external debt or equity is to be used, where should it be raised from and in which form?
When it comes to equity finance, for some companies, the new shares must be offered to the existing shareholders in proportion to their existing holdings. With debt finance, short-term loans are cheaper than long-term borrowings. (Jay, 2003,