Business have several options to raise money. If they are able to trade publicly on the stock market, they can sell shares of stock in the company and quickly raise capital. However, shares are actually ownership in the company, and investors who buy them become partial owners with at least a small say in how the company is run. Business may not want this extra ownership, may not be able to sell anymore stock or may simply need to balance out its capital activities with an alternative method. The other method of raising capital is through debt.
Debt capital is money that a business has raised through debt. Essentially, investors agree to make a loan to a business immediately. The business receives the debt capital and agrees to pay the loan back at a certain time with additional interest payments that are compounded as long as the loan is active.
The most common debt instruments used by companies are notes and bonds. Notes are made from smaller amounts, can be issued singly and generally have short maturity terms, from a few weeks to a few years. Bonds are issued for much larger amounts in a series, and usually have maturity dates ten or more years away.
Businesses use debt capital to finance projects or expansions, usually with the direct goal of raising business profits. The dept capital must be used to increase revenue in some way because the business will need extra funds in the long-term to pay back the debt plus the accumulated interest. This is why debt capital is used to enter new markets or fund profit-making activities.
Debt capital is easy to raise for many businesses and does not come with the complicate of equity. Also, many investors like to see a healthy balance between debt and equity capital in a business. A history of debt capital shows that a business pays back its loans, making it even more attractive to investors.
While debt capital may be safer than raising money through equity, it also depends greatly on the interest of investors and lenders. If the business is struggling or does not appear solvent in the long-term, it may not be able to sell the bonds or note it creates. Also, debt capital must always be paid back, creating further costs for the business down the line.