Accounting and Finance
Debt financing
If you are borrowing money for your business then it is debt financing. This can be done for short term loans as well as for long term loans. These loans are to be remunerated according to the rules and policies of the lender company related to interest. And the whole amount including the total loan and the interest earned over it are to be paid back within limited time to the lender company (Berglov, 1994).
In debt financing you have full control over the business. There are no investors or partners to whom you are answerable if you make any decision. You can simply say that you own all the profits you earn. By using debt financing system you are actually reducing your tax every year. It means that through this you are actually shielding your income or profits from taxes and lowering your liabilities every year. The interest you repay on your loan becomes tax-deductible.The most important benefit of debt financing is that the lenders who give you loans, do not become partners of your business means you do not share your profits with them. You just have to repay your loans in a timely manner (Berglov, 1994).
Disadvantages of taking loan for a business may be huge. At the start stages you just need frequent inflow of money in your business to run it effectively. While on other hand if you started with debt then you will be under pressure of repayment of liabilities in the same time. And if you will not make your credit payments on time to family and friends, you will lose those relations. If you are taking money from banks then they may require you to undertake your private assets before giving you a loan. If your business do not works, you will lose your private assets. If a business is using debt financing, it is sure that the risk of bankruptcy is always there. The more debt financing is used, the greater the risk of bankruptcy you have.
Equity financing
If there is division of ownership of the business relying on the investments of the owners then it is equity financing. Here if an individual want to be a partnership owner of a business then he has to invest some money in that business, that money will not be considered as a loan or debt. This type of financing for a business is called as equity financing. If you are using equity financing method then you do not have to pay intense loans, either you can use money of your company associates or investors. It means you can cope up with a successful business without taking the loads of weighty loans as your liabilities. Another thing to be considered of equity financing is that if your company is at chance or it is declining at the earlier stages. And you think it is going to end up in next few months. For this you prepare a report and send it to your partners or investors then its confirm to them that if business fails they will not get their money back. In this way you do not have fear to repay your debts (Berglov, 1994).
It is likely that your investors will provide you valued suggestions and offer loyal business support that you may not have. This will be a very significant contribution from their side, particularly in the premature days of a new business. Be sure that if you use equity financing it means you have to share your profits with the partners or investors. And if your business do not earned a profit during the earlier years of the business, then the shareholder or investor dont expect to be paid and sometimes in extreme conditions you have to give up controls over the business. Even your investors own a small part of your business they expect you to act in their best interests. Being the stakeholders of your business you have to satisfy your investors, while doing this a lot of paper work has to be done. Both debt and equity financing techniques have there own advantages and disadvantages. It is very difficult to decide which is good or bad, it simply depends on situation. The type of business you plan to start will decide which technique better suits you.
Company selection
For the purpose of this paper I have selected the company which is Microsoft Corporation. It is a very well known company among the market and its competitors. The Microsoft Corporation was founded by two associates Bill Gates and Paul Allen with the dream of creating cutting border software. Opening with programming dares in the 1970s, Bill Gates and his partner Paul Allen started a business with a vision to generate software on the most recent tools they could find. They would commence with writing essential commands for nothing more than minute circuit boards. In the present day, the dispute of developing the worlds most complicated software widen much further than the dorm area of a young Harvard student. Development and achievement are two words that a corporation known as Microsoft has come to be very known with.
By being down to business to software technology, Microsoft is able to drive the market while it observes other software manufacturers go after. In actual fact one of the difficulties they are facing is that they have is outdating themselves and creating a product that will function with up to date hardware technologies. Their product life cycle frequently revolves around themselves. Bill Gates is the director in the center of growth and trend in relation to which products should take, and Total Quality Management i.e TQM (customer satisfaction and constant process improvement) plays a big part in a vigorous product. Behind all this here we will analyze the capital structure of the firm very critically and then its merits and drawbacks are going to be listed to give an overview of its capital structure policy (Fireworkszone, 2009).
Balance sheet
Microsoft Corporation
Annual Data
All numbers in thousands
PERIOD ENDING
30-Jun-08
30-Jun-07
30-Jun-06
Assets
Current Assets
Cash And Cash Equivalents
10,339,000
6,111,000
6,714,000
Short Term Investments
13,323,000
17,300,000
27,447,000
Net Receivables
15,606,000
13,237,000
11,256,000
Inventory
985,000
1,127,000
1,478,000
Other Current Assets
2,989,000
2,393,000
2,115,000
Total Current Assets
43,242,000
40,168,000
49,010,000
Long Term Investments
6,588,000
10,117,000
9,232,000
Property Plant and Equipment
6,242,000
4,350,000
3,044,000
Goodwill
12,108,000
4,760,000
3,866,000
Intangible Assets
1,973,000
878,000
539,000
Accumulated Amortization
-
-
-
Other Assets
1,691,000
1,509,000
1,295,000
Deferred Long Term Asset Charges
949,000
1,389,000
2,611,000
Total Assets
72,793,000
63,171,000
69,597,000
Liabilities
Current Liabilities
Accounts Payable
12,830,000
6,612,000
9,521,000
ShortCurrent Long Term Debt
-
2,741,000
-
Other Current Liabilities
17,056,000
14,401,000
12,921,000
Total Current Liabilities
29,886,000
23,754,000
22,442,000
Long Term Debt
-
-
-
Other Liabilities
6,621,000
8,320,000
7,051,000
Deferred Long Term Liability Charges
-
-
-
Minority Interest
-
-
-
Negative Goodwill
-
-
-
Total Liabilities
36,507,000
32,074,000
29,493,000
Stockholders Equity
Misc Stocks Options Warrants
-
-
-
Redeemable Preferred Stock
-
-
-
Preferred Stock
-
-
-
Common Stock
62,849,000
60,557,000
59,005,000
Retained Earnings
(26,563,000)
(29,460,000)
(18,901,000)
Treasury Stock
-
-
-
Capital Surplus
-
-
-
Other Stockholder Equity
-
-
-
Total Stockholder Equity
36,286,000
31,097,000
40,104,000
Net Tangible Assets
22,205,000
25,459,000
35,699,000
(MsnMoney, 2009)
Analysis of firms capital structure
The above information from the balance sheet data shows that the company has only used the equity financing for raising the capital. We can see that there is no balance in the longterm debt coloumn and hence its understood that the company has not used the debt financing for raising the capital. And the capital structure of the firm will be 100 equity. Now we will see that what are going to be the merits and drawbacks of the equity financing for the company. It can be easily observed that the equity amount of the company was randomly varied among last three years. In the 2006 it was 40,104,000 while in 2007 it was 31,097,000 and lastly in 2008 it was 36,286,000. And now in 2009 company may be thinking of changing it further (Yahoofinance, 2009).
Merits and drawbacks of the capital structure of the firm
Following are the merits of the equity financing for the Microsoft Corporation.
If you are using equity financing technique then you do not have to pay heavy loans, either you can use money of your business partners or investors. Means you can run a successful business without taking the burdens of heavy loans as your liabilities.
Another advantage of equity financing is that if your business is at stake or it is declining at the earlier stages. And you think it is going to end up in next few months. For this you prepare a report and send it to your partners or investors then its confirm to them that if business fails they will not get their money back. In this way you do not have fear to repay your debts.
It is likely that your investors will provide you valued suggestions and offer loyal business support that you may not have. This will be a very significant contribution from their side, particularly in the premature days of a new business (Blackman, 2009).
Following are the major drawbacks of the equity financing
Be sure that if you use equity financing it means you have to share your profits with the partners or investors. And if your business do not earned a profit during the earlier years of the business, then the shareholder or investor dont expect to be paid and sometimes in extreme conditions you have to give up controls over the business (Yahoofinance,2009).
Even your investors own a small part of your business they expect you to act in their best interests. Being the stakeholders of your business you have to satisfy your investors, while doing this a lot of paper work has to be done. And if you open yourself for a broad public trading, the paperwork may engulf you. You will have to consult the Securities and Exchange Commission before making any decisions.
The CEO of Microsoft Corporation has run the company with a capital structure that consists mainly of cash and virtually no debt. He has been very triumphant with this capital structure providing steady, constant growth and productivity. The data analyzed shows pretty impressive numbers of profits and return on equity for the company. Companys axiom was to enlarge shareholder value, which is what the company has done ever since this company has established. According to the previous studies it has been observed that one technique to raise shareholder value was to modify the capital structure by increasing debt and reducing equity(Berglov, 1994).
This change was not going to be easy for Microsoft because its upper mnagement does not like incurring debt and also they ran the company successfully with almost no debt so he does not see a basis to change. Hence the company should review all the merits and demerits of capital structure. These were all the drawbacks and advantages of company capital structure policy and the decisions behind it. Basically now the company should either focus the drawbacks or try to leave them behind or the company should try to use the positive points more. Although the Microsoft Corporation is gaining success from its start but still the company should consider its capital structure policy and should revive it according to the needs of the time, for its overall benefits and enhancement of profits.
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