For a company, a debt can be defined as a form of borrowing from an outside party, which has to be eventually repaid. And no debt comes only with the principle amount to be repaid. An added interest is to be paid back with that! A big amount with an added interest is never desirable!
Likewise, let us see whether an organization should remain debt free or not?
The Pros of being debt free
1. If a company is debt free, the stakeholders will be happier. Take for instance the employees; an employee would happily work for a debt free company. This is for the reason that there is a greater amount of stability and job security for the employee if a company is debt free.
Likewise, the board of management for a company would also like to work for a debt free company. Again this is for the simple fact that a debt free company is where the board of management can experiment with their decisions and take a chance. Now isn’t this a major factor in the pros of working in a debt free company!
2. Another important factor for keeping a business entity debt free is that there is the factor of interest. With the debt amounts of a business entity already being in huge sums, the high rates of interest help in no way to encourage taking the debt! Accordingly, the management takes no debt, it translates to no interest!
3. Not only the above, being debt free, ensures a company with being stable in the future. This is for the reason that taking a debt would mean that the company has probably given some sort of security to the lender. This may even be a mortgage of the company facilities or the company assets! Therefore, a non repayment of the debt would mean that the assets are no longer the company’s!
The Cons of being debt free
This is probably the most major disadvantage for a company if it decides to go debt free. This is for the simple reason that if a company does not take debt at all to run its current operations; it is not going to have a good enough return to give back to its shareholders. In fact, a company might not be able to pay its shareholders for quite a while as it will not have sufficient savings to both run the business and pay the shareholders!
All in all, it is absolutely fine for a company to take a debt for running its business. However, the management needs to ensure that whatever the debt interest rate is, the rate of earnings are higher so that the debt interest can be well covered! Therefore, if there is no savings from the previous year’s cash flows, there should be no hesitation to take a financing option from the market. The only back up for the debt should be the rate of income for the business!