Question

Directors of Roma Ltd. wants to use debentures for expansion plans but the finance manager wants to use retained earnings for this purpose. You as a finance manager has to convince directors how retained earning s are better than debentures.

Answer 1

Finance manager will convince directors that retained earning's are better than debentures through these points:

$\begin{array}{ccc}S.No.& \text{Retained Earnings}& \text{Debentures}\\ \left(i\right)& \text{Retained earning's are a permanent source of}& \text{Payment of interest on debenture is obligatory}\\ & \text{fund's available to an orgaisation.}& \text{and hence it becomes burden if the company}\\ & & \text{incurs loss.}\\ \left(ii\right)& \text{It does not involve any explicit cost in the}& \text{Debentures are issued to trade on equity but too}\\ & \text{form of interest, dividend or floatation cost.}& \text{much dependence on debentures increase the}\\ & & \text{finacial risk of the company.}\\ \left(iii\right)& \text{As the funds are generated internally, there}& \text{Redemption of debenture involves a larger}\\ & \text{is a greater degree of operational freedom and}& \text{amount of cash outflow.}\\ & \text{flexibility.}& \\ \left(iv\right)& \text{It enhances the capacity of the business to}& \text{During depression, the profit of the company}\\ & \text{absorb unexpected losses.}& \text{goes on declining and it becomes difficult for the}\\ & & \text{company to pay interest.}\end{array}$