What is a Debt for Equity Swap?

 

Certain companies may occasionally need to restructure their financing throughout their business life.  One of the reasons this may happen pertains to wanting to stay within their contractual agreements.  Some lenders require a company to maintain a certain debt to equity ratio.  Other times a company may not want to pay face value payments or make their coupon payments.  An option to avoid such thing is to partake in a debt for equity swap.

A debt for equity swap is just what it sounds like, it’s when companies swap equity for their debt.  This is typically done with only a portion of the outstanding debts.  For this to happen the creditors must agree to the trade.  The price of the swap is dependent on the market rates that are currently going on. 

On some occasions, the decision makers may offer a higher exchange value for their debt.  This is done in order to attract the debt holders to the offer and make the exchange seem more appealing to the creditors. 

Alternatively, some people opt for an equity/debt swap.  This is essentially the opposite of a debt for equity swap.  In an equity for debt swap the shareholders are allowed to exchange their stock for bonds in the company. 

Although there are two options under this category, it is typically the debt for equity option that is used the most.  This is the one that offers financial relief to the business that is in need of restructuring. 

 

What is a debt for equity swap?

The Pros and Cons of Equity Based Financing

When operating a business, being able to raise money is a must.  You never know what trouble is going to be around the corner and you may need to borrow some money to make it through.  One way to raise funds is through equity based financing.  Equity based financing is when you raise capital for your business by selling stock in the company to investors.

There are good and bad to everything so let us first look at the pros of equity based financing.  The main major advantage is it is not your money.  If the business goes under, you are not on the line for repaying bank loans back thousands of dollars.  You can aim as high as you want and not need to worry about what happens if you miss.  This is a quick and easy way to raise capital for your company especially in a hurry.  Another advantage is you can focus on the task at hand and not need to worry about paying back bank loans.  This is nice because it frees you up to run the company.

While it is nice to not need to worry about paying the money back, equity based financing isn’t all pros.  One major con is if you are selling equity when the company first is starting, you can lose money in the long run because you must sell your shares so cheap.  This can be costly if your business ends up doing extremely well.  Another con of equity based financing is you lose a chunk of your company.  This means portions of money you make are now going to another person and they can also have a say in how the business is now ran. 

There are both pros and cons to equity based financing.  If you have any more questions, contact us at American Corporate Turnaround and let us know if we can be any assistance.