Through the world we find millions of different types of business who each differ in their size, nature, and type but one thing businesses tend to have in common is they all need some kind of financing resources to keep their business moving, however the type of financing instrument and need will vary depending on the size and type of business. The most common type of financing resources is liability and equity as they are considered one of the major sources of financing as it is proved in the accounting equation.
Assets = liability + owners’ equity
Where liability and owners’ equity is the financing resource like borrowing from a bank, from suppliers, friends and family. Equity financing by selling shares, bonds.
Whereas assets are the use of the resources in means of buying equipment or pay the expenses (wages, electricity, supplies, utilities, etc.), purchasing of supplies
Equity financing is exchanging part of the ownership in a business for a financial investment. Equity financing often involves raising money through investors these investors invest in the company in exchange of percentage of proceeds in other words to recive a return on their investment and since this is the main goal of investors firms will automatically allow the investor to have a share in the profit of the company and their equity will be permanent. The investment should be formally defined in the company, weather it’s a limited liability, preferred stock, common stock as this will define the payment principal and voting rights of different type of shareholder for instance the company may issue different classes of stock.
The first one is common stock they usually exercise control by electing a bored of directory and voting in other word they have a voice in the company but of course there is always an opportunity cost although they have a voting right but they are at the bottom of the ladder when it comes to priority in the firm ownership structure which is very risky especially in the event of liquidation common stock holders will be paid after preferred stockholder, bondholder and debtholder and any other commitment on the company are paid in full that is especially risky when the company goes bankrupt as they might not receive any return on their investment because the company may not have any money available after paying out all its commitments. Therefore, it’s not granted weather they will receive a return or not as they don’t receive a fixed return.
The second one is preferred stocks just like common stock they also a representation of ownership in a company they have higher claim on assets and a higher return. Preferred stock holder receives a fixed dividend payment or they can be set in terms of benchmark interest but they also have an opportunity cost its true they receive a fixed return but they don’t have voting right we can conduct that preferred stock is the opposite of common stock. Preferred stock is a combination of both debt and equity as it pays as it has the potential to increases in the investment. However an advantage for preferred shareholders is if the company is struggling and they want to distribute dividend preferred shareholders will be paid before common shareholders this arrangement in a company is known as cumulative. If the company has multiple preferred share the company may decide to issue preferred stocks in priority like first preference, second preference, etc. preferred stock is less likely to face capital appreciation which is an increase in the price of asset based on the market price. Capital appreciation is another source of revenue for shareholders if the capital appreciation was existence then the dividend and the capital appreciation will total up to the total revenue. Some Preferred stocks can be converted in other words it can be changed to common shares under certain circumstances.