Advantages & Disadvantages of recoveryAdvantages:

1)The process of assigning debt collection to outsides allows officials from Banks to
develop more remunerative new business
.2)Third party involvement in debt collection has proventime and again to improve
the chances of recoveringbank dues as these people are specialists innegotiating
with debtors and the result usually speak for themselves;3)A skillfully conveyed
debt collection could mean savingon litigation cost.
DEBT COLLECTION THROUGH OUTSIDERS ALLOWS OFFICIALS OF BANKS TO
DEVELOP MORE REMUNARATIVE BUSINESS
involvement of thE THIRD PARTY IN THE BUSINESS IMPROVE THE CHANCES OF
RECOVERY
THE OFFICIALS WHO ARE SPECIALISTS IN RECOVERY OF DEBTS SPEAK THEMSELVES
WITH THE DEBTORS
SAVING THE PROCEEDINGS COSTS IN THE DEBT COLLECTION WHEN SKILLFULLY
CONVEYED

The process of assigning debt collection to outsidesenables officials of non-Banks.

Cost to develop morebeneficial new business.

Disadvantages:

1)Debt collection does cost money

;2)The debt collection agency will be establishing arelationship with the banks
customers, which could bepotentially harmful if they acrid that relationship by
notdealing with customers in a courteous manner

Experts indicate that debt financing can be a useful strategy, particularly for companies
with good credit and a stable history of revenues, earnings, and cash flow. But small
business owners should think carefully before committing to debt financing in order to
avoid cash flow problems and reduced flexibility. In general, a combination of debt
financing and equity financing is considered most desirable for small businesses. In the
Small Business Administration publication Financing for the Small Business, Brian

Hamilton listed several factors entrepreneurs should consider when choosing between
debt and equity financing. First, the entrepreneur must consider how much ownership
and control he or she is willing to give up, not only at present but also in future financing
rounds. Second, the entrepreneur should decide how leveraged the company can
comfortably be, or its optimal ratio of debt to equity. Third, the entrepreneur should
determine what types of financing are available to the company, given its stage of
development and capital needs, and compare the requirements of the different types.
Finally, as a practical consideration, the entrepreneur should ascertain whether or not
the company is in a position to make set monthly payments on a loan.
No matter what type of financing is chosen, careful planning is necessary to secure it.
The entrepreneur should assess the business's financial needs, and then estimate what
percentage of the total funds must be obtained from outside sources. A formal business
plan, complete with cash flow projections, is an important tool in both planning for and
obtaining financing. Lindsey noted that small businesses should choose debt financing
when federal interest rates are low, they have a good credit history or property to use as
collateral, and they expect future growth in earnings as well as in the overall industry.
Like other types of financing available to small businesses, debt financing has both
advantages and disadvantages. The primary advantage of debt financing is that it
allows the founders to retain ownership and control of the company. In contrast to equity
financing, the entrepreneurs are able to make key strategic decisions and also to keep
and reinvest more company profits. Another advantage of debt financing is that it
provides small business owners with a greater degree of financial freedom than equity
financing. Debt obligations are limited to the loan repayment period, after which the
lender has no further claim on the business, whereas equity investors' claim does not
end until their stock is sold. Furthermore, a debt that is paid on time can enhance a
small business's credit rating and make it easier to obtain various types of financing in
the future. Debt financing is also easy to administer, as it generally lacks the complex
reporting requirements that accompany some forms of equity financing. Finally, debt
financing tends to be less expensive for small businesses over the long term, though
more expensive over the short term, than equity financing.
The main disadvantage of debt financing is that it requires a small business to make
regular monthly payments of principal and interest. Very young companies often
experience shortages in cash flow that may make such regular payments difficult. Most
lenders provide severe penalties for late or missed payments, which may include
charging late fees, taking possession of collateral, or calling the loan due early. Failure
to make payments on a loan, even temporarily, can adversely affect a small business's

credit rating and its ability to obtain future financing. Another disadvantage associated
with debt financing is that its availability is often limited to established businesses. Since
lenders primarily seek security for their funds, it can be difficult for unproven businesses
to obtain loans. Finally, the amount of money small businesses may be able to obtain
via debt financing is likely to be limited, so they may need to use other sources of
financing as well.

SOURCES OF DEBT FINANCING

Small businesses can obtain debt financing from a number of different sources. These
sources can be broken down into two general categories, private and public sources.
Private sources of debt financing, according to W. Keith Schilit in The Entrepreneur's
Guide to Preparing a Winning Business Plan and Raising Venture Capital, include
friends and relatives, banks, credit unions, consumer finance companies, commercial
finance companies, trade credit, insurance companies, factor companies, and leasing
companies. Public sources of debt financing include a number of loan programs
provided by the state and federal governments to support small businesses.
PRIVATE SOURCES Many

entrepreneurs begin their enterprises by borrowing money from

friends and relatives. The main advantage of this type of arrangement is that friends and
relatives are likely to provide more flexible terms of repayment than banks or other
lenders. In addition, these investors may be more willing to invest in an unproven
business idea, based upon their personal knowledge and relationship with the
entrepreneur, than other lenders. A related disadvantage, however, is that friends and
relatives who loan money to help establish a small business may try to become involved
in its management. Experts recommend that small business owners create a formal
agreement with such investors to help avoid future misunderstandings.
Banks are the sources that most people immediately think of for debt financing. There
are many different types of banks, although in general they exist to accept deposits and
make loans. Most banks tend to be fairly risk averse and proceed cautiously when
making loans. As a result, it may be difficult for a young business to obtain this sort of
financing. Commercial banks usually have more experience in making business loans
than do regular savings banks. It may be helpful to review the differences among banks
before choosing one as the target of a loan request. Credit unions are another common
source of business loans. Since these financial institutions are intended to aid the
members of a groupsuch as employees of a company or members of a labor union
they often provide funds more readily and under more favorable terms than banks.

However, the amount of money that may be borrowed through a credit union is usually
not as large.
Finance companies are another option for small business loans. Although they generally
charge higher interest rates than banks and credit unions, they also are able to approve
more requests for loans. Most loans obtained through finance companies are secured
by a specific asset as collateral, and that asset can be seized if the entrepreneur
defaults on the loan. Consumer finance companies make small loans against personal
assets and provide an option for individuals with poor credit ratings. Commercial finance
companies provide small businesses with loans for inventory and equipment purchases
and are a good resource for manufacturing enterprises. insurance companies often
make commercial loans as a way of reinvesting their income. They usually provide
payment terms and interest rates comparable to a commercial bank, but require a
business to have more assets available as collateral.
Trade credit is another common form of debt financing. Whenever a supplier allows a
small business to delay payment on the products or services it purchases, the small
business has obtained trade credit from that supplier. Trade credit is readily available to
most small businesses, if not immediately then certainly after a few orders. But the
payment terms may differ between suppliers, so it may be helpful to compare or
negotiate for the best terms. A small business's customers may also be interested in
offering a form of trade creditfor example, by paying in advance for delivery of
products they will need on a future datein order to establish a good relationship with a
new supplier.
Factor companies help small businesses to free up cash on a timely basis by
purchasing their accounts receivable. Rather than waiting for customers to pay invoices,
the small business can receive payment for sales immediately. Factor companies can
either provide recourse financing, in which the small business is ultimately responsible if
its customers do not pay, and nonrecourse financing, in which the factor company bears
that risk. Although factor companies can be a useful source of funds for existing
businesses, they are not an option for startups that do not have accounts receivable.
Leasing companies can also help small businesses to free up cash by renting various
types of equipment instead of making large capital expenditures to purchase it.
Equipment leases usually involve only a small monthly payment, plus they may enable a
small business to upgrade its equipment quickly and easily.
Entrepreneurs and owners of startup businesses often must resort to personal debt in
order to fund their enterprises. Some entrepreneurs choose to arrange their initial

investment in the business as a loan, with a specific repayment period and interest rate.
The entrepreneur then uses the proceeds of the business to repay himself or herself
over time. Other small business owners borrow the cash value of their personal life
insurance policies to provide funds for their business. These funds are usually available at
a relatively low interest rate. Still other entrepreneurs borrow money against the equity in
their personal residences to cover business expenses. Mortgage loans can be risky,
since the home is used as collateral, but they are a common source of funds for small
business owners. Finally, some fledgling business people use personal credit cards as a
source of business financing. Credit card companies charge high interest rates, which
increases the risk of piling up additional debt, but they can make cash available quickly.
PUBLIC SOURCES The

state and federal governments sponsor a wide variety of programs

that provide funding to promote the formation and growth of small businesses. Many of
these programs are handled by the U.S. Small Business Administration (SBA) and
involve debt financing. The SBA helps small businesses obtain funds from banks and
other lenders by guaranteeing loans up to $500,000, to a maximum of 70-90 percent of
the loan value, for only 2.75 percentage points above the prime lending rate. In order to
qualify for an SBA guaranteed loan, an entrepreneur must first be turned down for a
loan through regular channels. He or she must also demonstrate good character and a
reasonable ability to run a successful business and repay a loan. SBA guaranteed loan
funds can be used for business expansion or for purchases of inventory, equipment, and
real estate. In addition to guaranteeing loans provided by other lenders, the SBA also
offers direct loans of up to $150,000, as well as seasonal loans, handicapped
assistance loans, disaster loans, and pollution control financing.
Small Business Investment Companies (SBICs) are government-backed firms that make
direct loans or equity investments in small businesses. SBICs tend to be less risk-averse
than banks, so funds are more likely to be available for startup companies. Another
advantage is that SBICs are often able to provide technical assistance to small business
borrowers. The Economic Development Commission (EDC), a branch of the U.S.
Department of Commerce, makes loans to small businesses that provide jobs in
economically disadvantaged regions. Small businesses hoping to qualify for EDC loans
must meet a number of conditions.
Overall, debt financing can be a valuable option for small businesses that require cash
to begin or expand their operations. But experts warn that carrying too much debt can
cause a small business to encounter severe cash flow problems. Instead, it is best to
use a combination of different forms of financing in order to spread the risk and facilitate
future funding efforts. Planning is essential for entrepreneurs seeking loans and other

types of debt financing. It may take time and persistence for an entrepreneur to
convince a lender of the value of his or her business ideas and plans. With so many
possible sources of debt financing, it is important for small business owners to find a
lender with whom they can develop a comfortable working relationship. Forming a good
relationship may help the entrepreneur negotiate favorable interest rates and fees, which
can make a big difference in the final cost of the debt financing.

FURTHER READING:
DeThomas, Art. Financing Your Small Business: Techniques for Planning, Acquiring,
and Managing Debt. PSI Research, 1992.
Hamilton, Brian. Financing for the Small Business. U.S. Small Business Administration,
1990.
Heath, Gibson. Doing Business with Banks: A Common Sense Guide for Small
Business Borrowers. DBA/USA Press, 1991.
Lindsey, Jennifer. The Entrepreneur's Guide to Capital. Probus, 1986.
Schilit, W. Keith. The Entrepreneur's Guide to Preparing a Winning Business Plan and
Raising Venture Capital. Prentice Hall, 1990.
Smith, Richard L., and Janet Kiholm Smith. Entrepreneurial Finance. Wiley, 2000.
Van Note, Mark. ABCs of Borrowing. U.S. Small Business Administration, 1990.
SEE ALSO: Capital Structure ; Equity Financing

Read more: http://www.referenceforbusiness.com/small/Co-Di/DebtFinancing.html#ixzz41C2wZ0cu

In comparison to equity finances, debt financing involves lesser financing costs. Because of this,
companies often mix debt capital into their capital structure to reduce the amount of average cost
of funding. By the use of debt the company is contractually obligated to periodic payments of
interest and repayment of debt capital in a timely manner. As a result, holders of the debt are less
risky compared with shareholders, who often do not have any reference to their investment if the
company is not successful. In the case of liquidation of company, senior debt holders have
leading right to the companys assets that give them another layer of protection for their

investments. Therefore debt involves safer investments at lower compensation costs.

2. Profit Retention
Using debt in capital structure would result in consistent cash outflow in terms of periodic
interest payments. For a company, to meet its obligations as a result of the current operations can
add extra pressure, gathering debt finance is useful for companies in terms of holding maximum
profit within the company. This helps to keep off the shareholders of the companys profits.
While using debt financing, companies would only pay the interest amount. Using equity, on the
other hand, requires more sharing of profits with equity investors as they are earned. To take
advantage of this functionality of debt financing, companies often operate more easily in their
ordinary course of business and in the meantime make interest payments to keep the profits for
themselves.
3. Financial Leverage
Debt financing is also advantageous as debt leverage effects are beneficial for the current
owners. When companies run their business by added use of debt in their capital structure,
shareholders get to keep all the profits after payment of all interest. Given the amount as of debt,
shareholders invest equity capital that would provide benefit in terms of high returns earned.
Unless and until debt capital does not creep up the financial health of an organization in tough
times, shareholders are comfortable using debt as it improves their investment returns.
4. Tax Savings
Using debt helps to reduce taxes because of interest deductions. Tax laws allow deductions for
mortgage interest against income for income tax. The lower the taxable income will be, the less
tax outflow for the company. On the other hand, dividends payments made to shareholders are
not tax-deductible. Thus, not enough tax savings to help lower the cost of financing, which is a
disadvantage of equity investment.
Disadvantage of Debt Capital
1. Impact of Interest Payments:
Interest payments require consistent cash outflow from the organization. These payments
occurred in cash, reducing the cash position of the company, one of the other disadvantages of
debt financing. Is that cash is defined as current assets. Due to the reduction in cash, total current
assets are reduced and that would result in a total reduction in working capital
2. The interest is to improve the repair costs of the neutral company. High interest costs in
periods of economic distress will increase the risk of bankruptcy. Large leveraged companies
(having more debt than equity) are often difficult to achieve growth due to the high cost of debt.
3. Disclosure requirements:
Process of debt financing may be required to disclose confidential information sources of loans.
The business owner can be determined to provide transparency, as they may be aware of the
importance of it to the other stakeholders. They may be ready to provide full transparency for the
interests of outside parties as there interest may not entirely be consistent with shareholders

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