Debt financing is the process where a firm sells bonds, bills, notes or other promises to reply to individuals or institutions in order to raise capital.

In exchange lending money, those individuals and institutions agree to be creditors, and expect to be paid the principal and interest.

Debt financing is opposed to raising capital through equities market or public issues, or equity financing, which reflects an exchange of ownership in the firm in exchange of financing, and does not come with an explicit promise to repay.

Advantages and Disadvantages of Debt Financing

Unlike the equity market, debt financing allows a firm to raise capital without having to sell shares to investors, diluting the firmâ??s ownership. Debt financing tends to appeal to smaller businesses which have a harder time finding equity financing or simply wish not to relinquish control of their company. However, the amount of capital a firm may raise through debt financing is, on average, usually lower than through equity markets, and depends heavily on whether potential creditors are willing to provide loans.