Advantages and disadvantages of a partnership – A partnership firm is natural to develop when compared to a corporation. Secondly, there is flexibility in operations as the number of partners are limited. Thirdly, the overall risk will be shared by all the partners individually. Regarding disadvantages, the liability of each partner is unlimited. Also compared to a corporation, the amount of capital that can be raised is limited as there is a constraint on the greatest number of members.
Advantages and disadvantages of a corporation – Regarding strengths, a corporation provides the power of limited liability. Shareholders are liable only up to the number of their investments. Secondly, large amounts of capital can be raised. Lastly, a corporation has a perpetual life as its owner keeps on passing through different investors. Regarding disadvantages, a corporation has to deal with various paperwork and legal formalities.
My recommendation is that the three trainers should start out as a partnership firm and as and when their business grows substantially and there is a need for more funds, the partnership firm can be converted into a corporation.
Equity and debt financing – Equity financing is the method of raising capital by the sale of shares in an organization. Ownership interest is sold to raise funds in an equity financing.
Debt financing is the method of raising capital by borrowing. The borrowing may be by selling bonds, bills, notes or by taking loans at a fixed rate of interest. Ownership is not required to be given up in case of debt financing.
While starting, the three partners should contribute some capital from their savings. They should not give up their ownership. Debt financing can meet the balance fund requirements. Initially, the partners should ensure that they have the control and ownership of their venture. This will enable them to steer the organization in the desired direction. Secondly, equity financing will lower the cost of servicing the debt. The balance funding requirement that will be met through debt financing will have its share of advantages. Firstly, the interest expenses on debt are tax-deductible, and thus there is an element of tax advantage.
Going forward, when the enterprise decides to become a corporation, they will rely on a healthy mix of equity and debt. The following parameters will help them select the appropriate level of debt and equity – how much control is desired to be retained? Do you have the financial discipline to service your debt regularly? To what extent do you wish to increase financial leverage and thus increase the cost of equity as well?
Thus, after considering and analyzing the parameters mentioned above, the firm should determine its mix of equity and debt in its capital.