Raising Capital whats the best option?

In todays climate raising capital, cost effectively, is a common goal for most if not all companies within the market place. From the small business to the large firm all are looking to invest their cash as efficiently as possible. Often the battle of equity to debt financing can be subjective. Some business types are better suited to higher gearing while others rely on strength through their own equity.

Debt, in most instances, is more cost effective then equity. This is for a multitude of reasons but simply due to the fact that debt has tax saving benefits in that annual interest is reduced from taxable profits. In doing so the weighted average cost of capital (WACC) is likely to be reduced, making the business have greater flexibility in their investments.

In any insatnce though, it is important that a business ensures it is not so highly geared that it becomes unfavourable to investors or that shareholders and investors demand greater returns for the increased risk of liquidisation. In an ideal situation a firm should be financed completely by share capital in an efficient market place. This is because share price value will reflect the risk bared upon the investor otherwise known as the shareholder.

Often companies use flotation as a way of raising finance first, before taking out heavy and more risky forms of debt such as loans and bonds. For example a huge company about to debut on the stock market is Facebook. Co founder Mr Zuckerberg will still own absolute control thanks to his 28.7% stake, making this source of finance even more desirable to the companies current main shareholders.

Another more typical newcomer is pharmaceutical company Pfizer who plan to raise $3bn through a part floatation of its animal health division. Interestingly in the Pfizer case, choosing to float a division, rather then sell it off is proving more and more popular as businesses continue to become more cost savvy. For a business like this, selling off divisions can help to focus on better performing areas and save on costs. In city terms this is known as a partial spin off. More over Pfizer have chosen to list the division rather then sell for the $18bn estimated value, as a tax saving method. In effects the capital is still raised and responsibility is still diluted amongst perspective new shareholders saving two burdens.

This is a great example of how companies can play around with equity and debt to make it more favourable for themselves. Ultimately measures like WACC, gearing and the CAPM are useful to investors and shareholders a like. However each situation is unique and therefore can be ambiguous in outcome. It is crucial therefore, that organisations have the best finance managers and leaders at the top of their businesses in order to survive. Pfizer are showing that they are capable of weighing up the alternative options in todays market place.

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