It is known that each company has its own financial resources, that is, financial resources that are in the full possession of the enterprise and are designed to ensure effective functioning, fulfillment of financial obligations and stimulation of employees. Financial resources are formed from own and borrowed funds.
Own sources include income from various activities, proceeds from the sale of disposed property, depreciation charges. Also, financial resources are formed from stable liabilities equated to own sources. Stable liabilities are constantly in circulation of the enterprise, but it does not directly belong to it.
As the company operates, the need for financial resources increases, as the production program grows, the depreciation of production assets increases, and so on. Consequently, it becomes necessary to finance the growth of capital of the enterprise.
For this reason, if a company lacks its own funds, it may attract those from other organizations. They received the name "borrowed capital."
Types of capital
In a broad sense, capital is understood as the accumulated amount of property, goods, assets that are used to generate income and profit.
In the economic sense, it represents the company's resources used to finance the main and current activities, to ensure the effective and sustainable development of the organization.
Equity - a set of financial resources formed from the funds of the founders of the organization and the results of the company.
Borrowed capital is a type of capital that has been received in the form of a debt obligation, is subject to an indispensable return, and has a deadline. As a rule, periodic payments in favor of the creditor are provided. Examples of borrowed capital are bonds, payables, bank loans, non-bank loans, and so on. Equity and borrowed capital in the balance sheet are included in liabilities. In the balance sheets of enterprises borrowed funds are shown as the amount of debt. Depending on the maturity, short-term and long-term debt are distinguished. Thus, borrowed funds are additionally attracted for the reproduction of current and non-current assets.
Advantages and disadvantages
Borrowed capital has the following advantages:
1. Ample opportunities to attract, but with a guarantee of the guarantor, the availability of collateral and a good credit rating of the company.
2. Low cost compared to equity due to the effect of the "tax shield".
3. The increase in financial potential, if necessary, a significant expansion of assets and economic growth.
4. The ability to generate growth in financial profitability.
At the same time, borrowed capital has the following disadvantages:
1. Its use generates dangerous financial risks of loss of solvency and decrease in financial stability.
2. Assets formed from borrowed capital provide a lower rate of return, decreasing by the amount of loan interest.
3. The complexity of the attraction procedure, since the provision of credit directly depends on the decisions of the lenders and in some cases requires third-party guarantees or collateral.
Thus, an organization that uses borrowed capital has great financial development potential and opportunities for increasing financial profitability, but the use of borrowed funds generates financial risks and the threat of bankruptcy.