Chapter 4

Sources and Uses of

Short-term and
Long-term Funds
CONTENT STANDARD

The sources and uses of short-term

and long-term funds , and the
requirements , procedure ,
obligation to creditor, and
reportorial necessities
PERFORMANCE STANDARD

1. distinguish debt and equity financing

2. identify the bank and nonbank

institutions in the vicinity that are possible
sources of funds, and enumerate their
requirements and process for loan
application
LEARNING COMPETENCIES

1. Cite bank and nonbank institutions in the

locality that would serve as possible sources of
funds for business operations.
2. Compare and contrast the loan requirements of
the different bank and nonbank institutions.
3. Draw a flow chart on the steps in loan
application .
4. List down obligations of entrepreneurs to
creditors.
5. Identify uses of funds.
Sources of Financing
Two Major Categories

1. Debt Financing

2. Equity Financing
Debt Financing
It can be in the form of borrowing
from banks or other lending institutions
or issuance of debt securities like
commercial papers and bonds.
It can also be in form of advances
from stockholders to expedite the
process of raising funds.
Benefits of Debt Financing

1. Interest expense is tax-deductible.

Unlike cash dividends for shares of
stocks, interest expense provides a tax
shield.
2. Debt financing allows the company to
grow without diluting the interest of
the controlling stockholders.
3. Creditors generally do not intervene in
the decisions of the management.
Disadvantages of Debt Financing

1. Debt financing creates a

contractual obligation for the
borrower to pay interest and the
principal.
2. Payments have to be made on time
because unpaid interest and
principal lead to penalties and more
interest.
Disadvantages of Debt Financing
(cont’n)
3. Too much debt can expose the
company to a bankruptcy risk and this
may disrupt the operations of the
company.
4. Suppliers may decide to stop delivering
merchandise, and manager’s executive
time will be spent more on how to fix
the debt problem rather than
concentrating on the operations of the
company.
Equity Financing (Internally
Generated Funds)
The issuance of new shares of stocks
and retained earnings plowed back into
the operations of the company.
It is the safest source of financing for
a company because it does not require
any mandatory payment of dividends.
Benefits of Equity Financing

1. If you own enough shares of a

company, you can end up
controlling its operating and
financing decisions.
2. It provides the company financial
flexibility.
Disadvantages of Equity Financing

1. Cash dividends are not tax-

deductible.
2. Offering new shares to other
investors may dilute the ownership
in terms of percentage of the
existing stockholders.
3. It is the most expensive source of
financing.
Reasons why Equity Financing is more
expensive than Debt Financing

a) Under Philippine laws, a company

which is in the process of liquidation
cannot distribute anything to the
stockholders unless the claims of the
creditors have been satisfied first.
b) If a company does not perform well,
the stockholders absorbs the losses.