Module 09: Financing Strategies (M9-EN)

Debt financing is a strategy that involves borrowing money from a lender or investor with the understanding that the full amount will be repaid in the future, usually with interest. In contrast, equity financing, in which investors receive partial ownership in the company in exchange for their funds, does not have to be repaid. In most cases, debt financing does not include any provision for ownership of the organisation (although some types of debt are convertible to stock). Instead, small organisations that employ debt financing accept a direct obligation to repay the funds within a certain period of time.

The interest rate charged on the borrowed funds reflects the level of risk that the lender undertakes by providing the money. For example, a lender might charge a startup company a higher interest rate than it would an organisation of public interest that had shown financial sustainability for several years. Since lenders are paid off before owners in the event of business liquidation, debt financing entails less risk than equity financing and thus usually commands a lower return.