Debt And Equity Characteristics Simulation
Debt and Equity Characteristics Simulation
University of Phoenix
Managerial Finance II
June 18, 2007
Debt and Equity Characteristics
Debt and equity instruments are used to finance growth. Debt instruments generally represent fixed obligations to repay a specific amount at a specified date, together with interest. In contrast, equity instruments generally represent ownership interests entitled to dividend payments, when declared, but with no specific right to a return on capital. Within each of these two general categories, there are a wide variety of rights, privileges, and limitations that may be established by the issuing company (VC Experts, 2007).
Common stock is the most basic form of equity instrument. Holders of common stock have the greatest opportunity to share in a company's profitability because of the unlimited potential for dividends, appreciation in the value of their common stock, and awareness of liquidation proceeds. However, common stock holders also bear the greatest risk of loss because they are generally subordinate to all other creditors and preferred stock holders.
Preferred stock is another form of equity instrument. There are certainly pros and cons when looking at preferred shares. Preferred shareholders have priority over common stockholders on earnings and assets in the event of liquidation and they have a fixed dividend (paid before common stockholders), but investors must weigh these positives against the negatives, including giving up their voting rights and less potential for appreciation (Investopedia, 2007).
Debt instruments, such as notes, bonds, and debentures, are generally entitled to receive payments, which are senior in priority to preferred or common stockholders. Debt instruments may be secured by certain assets of the corporation or may be unsecured. Debt instruments generally have no right to participate in the overall appreciation in value of the corporation.
Debt instruments may also be long-term...
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