Neelabh sarin , the finance manager and Atul Chopra , the managing director of ghokerns Ltd. Were discussing regarding the source of finance to be raised for modernisation of their existing plant .quoting that
'sensex' has scored by 5078 points ' in the last 3 yrs, Neelabh sarin suggests that equity should be prefered while Chopra wanted to opt for debt. Keeping in mind the high operating cost of the company, suggest the source of finance that should be used for modernisation of existing plant. Also explain the two factors highlighted above which should be keep in mind for taking this decision.

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Solution

Dear Student,
For the moderation of existing plant its best to raise finance from debt such as raising capital by issuing of debentures or taking the loan from the banks.
Interest paid on debt is tax deductible and on the other hand dividend on equity shares will not save any tax. Also raising capital by issue of equity will lead to incurred high degree of operational cost as compare to raising capital from debt.

Two factors need to be kept in mind for taking such decisions are as follows:
1. Operational cost: This means that the cost of raising finance showed be determined before raising capital from any source and should choose such source which has less operational cost.
2. Market conditions and a market price of equity share: This should be determined in order to raise finance.

Regards,

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