Here
are two kinds of debt securities: bonds and debentures! Bonds are secured (by a lien against corporate
property) and debentures are unsecured.
Publicly held corporations sell bonds all the time, but rarely sell
stock to the public. So debt financing
is very important!
1. The Concept of Leverage
You’re
leveraged when you owe money to a third party.
If you can get a return in profit on the principal of the loan that’s
greater than the interest rate, you win!
You usually want to borrow at least some
money to maximize profits. Debt also has
tax benefits. But creditors and shareholders
will come into conflict! They’re
fighting over the same pie!
2. Tax Treatment of Debt
If
you’re a shareholder and you lend money to your corporation, then you can
deduct the interest you get from your taxes, even though you couldn’t deduct a
dividend payment. The question has
therefore come up whether debt should be considered as equity for tax purposes.
3. Debt as a Planning Device
Hmmm…I
don’t get this. It’s sort of like if you
loan yourself money from the corporation then if it goes under you’re protected
somehow. But how? Not sure…