Final answer:
Equity is often considered more stable than debt because it does not require fixed payments. Venture capitalists usually have better insight into a firm's profitability than bondholders due to their involvement in the business. Equity represents ownership and investment risk, while debt signifies a liability and a mandatory repayment obligation.
Step-by-step explanation:
Whether equity is considered a more stable financing method than debt often relates to the obligation to make fixed payments. Equity financing, through the sale of stock, does not require the company to make ongoing payments as debt does. Instead, equity investors typically seek returns through dividends or an increase in share price, which are only paid if the company has sufficient profits. On the other hand, debt, whether in the form of bank loans or bonds, requires regular interest payments and the eventual repayment of the principal, which can create financial strain on a company if cash flows are not steady.
Very small companies commonly raise money from private investors instead of through an Initial Public Offering (IPO) because the cost and regulatory burden of an IPO are often prohibitive for such small entities. These companies may prefer private investments from family, friends, or angel investors, who bring not just capital but frequently also advice and industry connections.
Small, young companies often prefer an IPO for raising capital because it can potentially bring a large influx of funds, increase the company's public profile, and provide a market valuation of the company. An IPO can also be a strategic move to allow early investors to exit. In contrast, borrowing through banks or issuing bonds puts a debt burden on the company, obligating it to make fixed payments regardless of its profit situation.
A venture capitalist typically has better information about whether a small firm is likely to earn profits compared to a potential bondholder, due to active involvement and a due diligence process before investing.
From a firm's viewpoint, a bond is similar to a bank loan in that both are forms of debt that require regular interest payments. However, they differ in that a bond is generally tradeable in financial markets, may have a longer-term, and can involve a broader group of investors, while a bank loan is usually a private agreement between the firm and a single lender with a set term and repayment schedule.
To calculate the home equity for a person who just bought a house for $200,000 with a 10% down payment:
- Down payment: 10% of $200,000 = $20,000
- Total home equity: $20,000 (since the rest is borrowed from the bank)