Sources and Cost of Capital - Size -> Retained earnings Short-term finance Start-up finance • Start-up finance • Equity and loans from founders Long-term finance (capital) Time -> · Retained earnings · Profits reinvested in company (not paid out as dividend) · Short-term finance (repayable < 5 years) · Trade credit · Bank overdrafts and loans · Leases · Long-term finance (repayable > 5 years) · Equity capital (private or public) · Debt capital (corporate bonds) Short Term Finance Vs Long Term Finance (Capital) Short term finance is: · Accessible to all sizes of company whereas capital is hard to access for smaller companies · Quicker and cheaper to raise than capital · Cheaper to service than capital However: · Only limited amounts available which will limit corporate growth . The life of the finance should match the life of the project(s) that it is funding · Higher refinancing risk
Providers of Capital Capital Equity (private) · Business angels · Venture capitalists Equity (public) · Private investors · Institutional investors Debt (bonds) · Institutional investors Influence on company management Vote at company meetings and typically take a seat on the board of directors Vote at meetings but no direct involvement in day to day running of the company No voting rights but debt agreement will contain restrictive / negative covenants Sources of Capital- Key Differences Capital Life Permanent Dilution of control Yes Returns to investors Dividends (discretionary) Equity Debt Finite No Winding-up ranking Lowest Ability to liquidate No Restrictions on managerial freedom Lower Interest (mandatory) Highest Yes Higher Raising Public Equity · Initial public offering (IPO): · The process whereby a private company becomes a public (listed or quoted) company for the first time: · Sells shares in the primary market; and · Shares start trading in the secondary market · Also known as a floating, going public or obtaining a listing · Secondary issue: · When a public company raises subsequent equity capital
Purpose · Issue of new shares: · To fund corporate growth; and/or · Debt reduction · Sale of existing shares: · Exit route (partial or full) for: · Founders · Private equity providers · Employees · or a mixture of both Quoted Company · Benefits of being a quoted (public) company: · Access to large amounts of capital from public equity providers · Provides an exit route for existing shareholders · Places an objective value on the company · Disciplines managers to create shareholder wealth · Shares used to incentivise directors and employees · Increased ability to make acquisitions · Heightened public profile · Drawbacks of being a quoted (public) company: · Costs (and time) to raise public equity · Additional ongoing costs (and time) of: · Maintaining a stock market listing · Liaising with enlarged shareholder base · Additional regulatory and reporting burden i.e .: · Corporate governance code · Stock exchange rules · Greater accountability and scrutiny · Increased risk of takeover