Question

Explain the following as factors affecting financing decision:-
(i) Cost
(ii) Cash flow position of business
(iii) Level of fixed operating cost and
(iv) Control considerations

Answer 1

• Cost
  

The cost of raising funds from different sources are different. A wise finance manager opt for the cheapest source of finance.

• Cash Flow Position of the Company
  

A stronger cash flow position may make debt financing more viable than funding through equity.

• Fixed Operating Cost
  

If a firm is having a higher fixed operating burden like payment of interests, premiums, salaries, rent, etc, then it should avoid financing through debt. This is because it will further increase the interest payment burden and the firm can reach an unfavourable position. However, if the firm has lower operating cost, then the firm can borrow funds.

• Control Considerations
  

Issue of more equity may dilute shareholders’ control over the business. Therefore, a company afraid of a takeover bid may prefer debt to equity.