Issuing Bonds Vs. Stocks
There are two main types of investments, they are bonds and stocks. Bonds are a debt to the issuing company and stock is ownership stake in the company. Companies that issue bonds are obligated to pay bondholders back the invested principal as well as an agreed upon rate of interest. Companies that issue stock are not obligated to pay the stockholder back.
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Company Goals
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Stocks and bonds are two ways in which companies can raise capital. Both allow the company to go directly to the investor public to offer company investment options in the form of shares or bonds. The decision to issue bonds or stocks depends on the goals and options of the company. Bonds are generally considered to be cheaper to issue than stock ownership because the company can write off interest expense for tax purposes and equity holders never have to be paid back.
Investor Compensation
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Instead of obtaining a bank loan, some companies go straight to the public, especially if the bank denies the company a bank loan. The cost of bonds is the interest expense, which is determined when the bond is issued. The rate of interest is meant to compensate investors for the risk involved in lending funds to the company. That is, companies with poor credit ratings will have to pay a higher rate of interest to bondholders.
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Equity Investment
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Equity represents a form of ownership. Companies that issue stock are issuing equity in the company. Additionally, the more stock a company issues, the more earnings must be shared with owners. This is referred to as accretion, and it occurs as the number of shares outstanding increases. Accretion can influence potential investment in the firm.
Stocks and Bonds
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Companies that do not want to share ownership in the company issue bonds. Not all companies can issue bonds and decide to issue equity. Additionally, some company's do not want to pay investor back and prefer to issue stock as a way to compensate investors. This way, the company only pays investors if it is profitable. Both companies have advantages. As such, many companies decide to issue both stocks and bonds.
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