Choosing debt or equity to finance your business in Vietnam (Part 2)

Now, I continue my topic on financing choice: “Debt or Equity?” by describing some disadvantages of debt financing.

Disadvantages of debt financing

Security

Banks in Vietnam usually require borrower to provide mortgage assets, collateral to secure the loan. This requirement may obstruct many companies, especially small, medium-sized companies, to access to bank loan.

Repayment

A disadvantage of debt financing is that you are obligated to pay back the principal borrowed plus interest(Article 466, The Civil Code 91/2015/QH13 dated November 24, 2015). If your business fails you are still obliged to repay your debts. Penalties are imposed to companies who fail to pay their debts on time.

Cash flow

Committing to regular repayments can affect cash flow of the company. Your business shall need to generate sufficient cash inflow to repay the debt plus interest and preventshortageof cash for business operation.

Impacts on credit rating

Debt financing affects the credit rating of a business. A company that has a significantly greater amount of debt than equity financing is considered as “high risk” by potential investors, typically will have to pay a higher interest rate to compensatelenders and limit the company ability to raise capital by equity financing in the future.

Bankruptcy 

A company that failed to repay debt for more than 3 months from the due date faces potential bankruptcy as in this case an unsecured creditor or partially secured lender has the right to file a petition for commencement of bankruptcy procedure against it (Law on bankruptcy No. 51/2014/QH13 dated June 19, 2014).

After reading about pros and cons of debt financing, do you wonder what are the common types of debt financing in Vietnam? If so, please look for my upcoming writings./.

Choosing debt or equity to finance your business in Vietnam (Part 2)