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If that was the primary reason for a company to take on debt, wouldn't it be preferable to instead run the company debt-free and let the equity holders leverage
by zmb_ 8y ago
If that was the primary reason for a company to take on debt, wouldn't it be preferable to instead run the company debt-free and let the equity holders leverage themselves to their desired risk level by taking on debt themselves?
- airstrike 8y agoThat's a valid question, but at least two reasons come to mind which would explain why investors leverage the company instead. Taxes are paid after interest, so leverage effectively creates a "tax shield" that can be very advantageous. Even if that weren't the case, equity holders have limited liability. They are only liable up to the amount they invested. Naturally, their incentives are usually aligned with that of lenders, since nobody is better off in the event the company goes under. But very risk-tolerant investors indeed take on leverage themselves, often in the form of what is called margin trading. It can bring outsized returns, but those investors are also potentially liable for more than they invested.