Debt vs. equity: Financing tips to generate capital quickly and cautiously

Thought Leadership on Growth Strategies for Technology Companies presented by Wiss & Co.

Using financial instruments to swiftly generate capital for a company can be appealing, particularly for technology and life sciences companies that are normally compelled to complete numerous cycles of financing before generating a profitable product lines and substantial income.

However, if your company is contemplating this path, travel with caution. Several financial instruments need to be regarded as liabilities on your financial statements if payment is required at specific periods. Additionally, this categorization can have a considerable impact on financial position and income, as GAAP requires liabilities to be measured at fair value at each reporting period.

Defining Categorizations

To determine the appropriate categories for a financial instrument, start by evaluating and reviewing the conditions of the agreement along with various other pertinent forms. This will help you determine the best strategy for raising capital. Many of these can be easily classified, such as bonds or common stock. The following characteristics require the financial instrument to be classified as a liability:

  • Mandatory redeemable shares
  • Shares that obligate the issuer to buy back some of its shares under specified conditions
  • Any obligation that must be established with a variable number of shares under certain conditions

Some instruments can be classified either way, such as convertible debt and warrants. Nevertheless, if the amount to be paid is fixed, the transaction must be handled as a liability.

Ask your Advisors

The specifics of whether a financial instrument creates a liability is not clearly defined when it comes to raising capital. Thus, it is up to you to stay informed on this matter. Examine these financial instruments, such as debt and equity with your advisor as you consider any potential moves for your company. It is imperative to be aware of all information of this financial theme before outlining any financial documents.

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