Principles of Managerial Finance, 15th Edition

7.1 Differences Between Debt and Equity

1. LG1

Although debt and equity capital are both sources of external financing used by firms, they are very different in several important respects. Most importantly, debt financing is obtained from creditors, and equity financing is obtained from stockholders whose investment makes them part owners of the firm. Creditors (lenders or debtholders) have a legal right to be repaid, whereas stockholders have only an expectation of being repaid. Debt includes all borrowing incurred by a firm, including bonds, and is repaid according to a fixed schedule of payments. Equity consists of funds provided by the firm’s owners (investors or stockholders), and the stockholders earn a return that is not guaranteed but ...