What is meant by Financing decision? State any four factors affecting the financing decision.

 

It refers to the determination as to how the total funds required by the business will be obtained from various long-term sources. Long-term financial sources chiefly include equity share capital, preference share capital, retained earnings, debentures, long-term loan, etc. For taking financing decision, an analysis of the cost and benefits of all the sources is made. Following factors affect the financing decision:

(i) Cost: The cost of all the sources of finance is different. The rate of interest on debt, fixed rate of dividend to be paid on preference share capital and the expectations of the shareholders on the equity share capital are in the form of costs. If the situations happen to be favourable, the benefit of cheap finance can be availed of by choosing debt capital.
(ii) Risk: Debt capital is most risky and from the point of view of risk it should not be used.

(iii) Floatation Cost: From the point of view of floating costs, retained profit is the most appropriate source. Therefore, its use should be made.

(iv) Cash Flow Position: If the cash flow position of the company is good, the payment of interest on the debt and the refund of capital can be easily made. Therefore, in order to take advantage of cheap finance, debt capital can be given priority.