The strengths and weaknesses of debt and equity financing should be provided before proposing a strategy for Pontrelli to obtain project financing. First of all, the terms “debt financing” and “equity financing” should be defined. Debt financing is based on the usage of borrowed money in a company’s financing. The instruments of debt financing are credits, bonds and other financial instruments. Equity financing is based on the usage of shareholders’ money. Issuing of stocks is the most common example of equity financing.
The advantages of debt financing are the following:
- There is no need to share the power and management of a company with other people;
- There are a lot of possible financial instruments that can be used in debt financing.
The main weaknesses of debt financing are the following:
- This type of financing is usually very expensive, especially in the modern conditions of the global financial crisis;
- This type of financing is not available for any company. For instance, in order to get credit, a company should be characterized with appropriate financial conditions.
The strengths of equity financing are the following:
- This type of financing is usually less expensive than debt financing;
- The process of preparation for the final stage of financing is shorter;
- Equity financing is usually available for a company.
The weaknesses of equity financing are the following:
- Using equity financing, a company’s owners are forced to share power with other shareholders;
- There are a lot of legislative limitations for this type of financing.
Taking into account that the high-level cost estimate for the project is $8.8 million and other features of the project, we believe that the optimal strategy for the company would be to use a combination of the mentioned types of financing. 70% should be financed via equity financing, but the rest 30% can be financed via a credit, bond, etc. The company can use the money of the owners as an instrument of equity financing. Additionally, the company may apply for credit in a local bank.
Now it is time to compare and contrast EVA and MVA. The definition of EVA is provided below.
“Economic Value Added, a measure of the superiority of the return a company is able to realize on invested capital above the baseline return expected by the investment community” (EVA).
These definitions should be compared and contrasted with market value-added. Definition of the term “MVA” is the following:
“MVA is a calculation that shows the difference between the market value of a company and the capital contributed by investors (both bondholders and shareholders). In other words, it is the sum of all capital claims held against the company plus the market value of debt and equity” (MVA Definition).
Both these measurements show the value that investors of the company expect to get after a company is sold. In fact, it is the sum of money that investors are going to get from their investments in a company. Generally, both these measurements can be used as a company’s value. Usually, the differences between these two measurements are not significant. The main difference is based on the expectations of investors.
After needed calculations, the company’s EVA may be defined – $16.3 million. On the other hand, the company’s MVA is $18.7 million. Therefore, generally, this project is worth investing in.
References
EVA. 2012, Web.
MVA Definition. 2012, Web.