📘 N1.1 Introduction to Equity and Debt
📌 What is Capital?
Capital is the money a business uses to grow. It comes in two forms: Equity (ownership) and Debt (loans). Each has its own cost, risk, and obligations.When a firm needs money, it can raise funds in two ways:
- 💼 Contributions from owners (as equity or loan)
- 🏦 Contributions from outsiders (as equity or loan)
Promoters usually start the business with initial capital. As the business expands, it may raise more funds via equity (ownership) or debt (borrowed money).
📌 Capital is Classified Based On:
- Who contributes the funds
- How long the capital remains
- The cost to the company
- The rights of the contributor
🏷 Types of Capital Contributors
🧍 Equity Capital
- Provided by promoters or outside investors
- Grants ownership and voting rights
- No fixed repayment obligation
- Can earn dividends and capital gains
🏦 Debt Capital
- Borrowed from individuals, banks, or institutions
- Repaid with fixed interest over time
- No ownership or voting power
- May be secured against assets
⏳ Time Period of Capital
♾️ Equity
- Stays with the company permanently
- Not repaid unless liquidated
📆 Debt
- Raised for a fixed period (short or long term)
- Must be repaid with interest
💰 Cost of Capital
📈 Debt Cost
- Fixed interest payments
- Tax deductible for the company
💹 Equity Cost
- Not fixed — depends on company profits
- Shareholders expect dividends or growth
🔐 Rights of Capital Providers
👑 Equity Rights
- Ownership in the company
- Voting rights
- Share in profits and assets (last claim)
🛡 Debt Rights
- Fixed income (interest)
- Priority in repayment over equity
- Secured claim (if backed by assets)
💡 Example:
A company can raise ₹100 Cr by issuing equity shares (offering ownership) or ₹50 Cr via bonds/loans (offering fixed returns).📘 N1.2 Features of Equity Capital and Benefits to Equity Investors
📌 Definition
Equity capital is the money raised by a company through the issuance of shares. In return, equity investors receive ownership, voting rights, and the opportunity to share in the company’s growth through dividends and capital appreciation.
Equity capital provides funding without a repayment obligation but involves giving up a share of ownership and control. Investors receive shares in return for their capital and are entitled to benefits if the company grows successfully.
🧩 Key Features of Equity Capital
📈 Ownership
Equity holders become part-owners of the company. Their shareholding represents their stake in the company’s assets and profits.
🗳 Voting Rights
Equity investors have the right to vote on important company decisions, such as board appointments, mergers, and major corporate policies.
💹 Capital Appreciation
Equity investors benefit from an increase in share price as the business grows, allowing for capital gains when shares are sold at a higher value.
💰 Benefits to Equity Investors
💰 Dividends
Equity investors may receive periodic dividends, which are a share of the company’s profits. Dividends depend on the company’s profitability and board decisions.
🔐 Ownership Rights
Equity investors have a claim to the company’s assets and profits, though after debt holders are paid. Their stake grows as the company expands.
📈 Potential for Growth
Equity investors benefit from the long-term growth potential of the business. As the company performs better, the value of the shares can increase, offering greater returns.
💡 Example:
A company like Infosys issues shares to the public. Investors who buy shares get ownership, voting rights, and a potential share of profits through dividends. If the company grows, share prices increase, offering capital appreciation.
📘 N1.3 Features of Debt Capital and Benefits to Debt Investors
📌 Definition
Debt capital refers to the borrowings of a company, where the return to the investor is primarily in the form of interest payments. Those who provide debt capital are lenders or creditors, and the company must make regular interest payments and repay the principal amount on maturity.
Debt can be raised by issuing securities such as bonds, debentures, or commercial papers, or by taking a loan from a bank or financial institution. Debt is raised for a fixed period, and the company is obligated to repay the capital and interest as per the agreement.
📊 Key Features of Debt Capital
📃 Interest Payments
Debt instruments pay interest at a fixed rate, generally known as the coupon rate. The interest payment frequency and amount are predefined.
📆 Fixed Tenure
The borrowing period of debt instruments is fixed. It may vary depending on the company’s needs — from short-term loans to long-term debentures.
💰 Benefits to Debt Investors
💵 Regular Income
Debt investors receive fixed interest payments, providing them with a stable income stream over the investment period.
🔐 Security
Debt investors, especially those holding secured debt, have a claim on the company’s assets in case of a default.
💡 Example:
A company like Tata Capital raises funds by issuing Non-Convertible Debentures (NCDs) to investors. The investors receive interest annually (fixed coupon rate), and the principal is repaid at maturity. These NCDs may be secured against company assets.
📜 Debt Instrument Characteristics
📑 Bond/ Debenture Features
- Face value (principal amount)
- Interest rate (coupon rate) and payment frequency
- Maturity date (repayment deadline)
- Secured or unsecured status
🏦 Loan Features
- Loan amount
- Interest rate and payment frequency
- Type of loan (Term Loan, Overdraft, Bill Discounting)
- Repayment schedule (negotiated between borrower and lender)
📘 N1.4 Hybrid Structures
📌 Definition
Hybrid instruments combine features of both debt and equity, allowing companies to raise capital while offering flexibility to both the company and the investors.
🔀 Convertible Debentures
📈 What are Convertible Debentures?
Convertible debentures pay interest like other debt instruments until maturity. Upon maturity, they are converted into equity shares of the company. The terms of conversion, such as the number of shares and conversion price, are pre-decided at the time of issuance.
💡 Benefits
Convertible debentures are beneficial to companies because there is no immediate cash outflow for repayment. Investors benefit if the conversion price is below the market price of the shares at the time of conversion.
💎 Preference Shares
📊 What are Preference Shares?
Preference shares are similar to debt instruments in that they offer a pre-determined dividend rate. However, they do not have a fixed maturity or rights over the company’s assets.
🔑 Key Features
- Preference in dividend payments over ordinary equity shares
- No right over the company’s assets
- Preference in return of capital in case of company liquidation
💡 Example:
A company may issue convertible debentures with a face value of ₹1000. The debentures may convert into equity at a conversion price of ₹200 per share. At maturity, the investor can convert the debenture into 5 equity shares (₹1000 ÷ ₹200 = 5 shares).
