Which statement correctly distinguishes debt financing from equity financing?

Which statement correctly distinguishes debt financing from equity financing?

• A. Debt requires repayment with interest; equity involves selling ownership.
• B. Debt grants ownership rights to investors; equity requires repayment with interest.
• C. Debt never requires collateral; equity always requires it.
• D. Debt is permanent financing; equity must be repaid at a fixed date.

Answer: (A)

Debt financing is about borrowing money with a promise to pay it back along with interest. Lenders receive a fixed repayment schedule and interest, but they don’t own a part of the company. Equity financing, on the other hand, involves selling shares of the company to investors, who become part-owners and may share in profits or losses; there’s no obligation to repay the invested capital the way a loan must be repaid. That’s why the statement that debt requires repayment with interest while equity involves selling ownership best captures the distinction. The other options mix up ownership rights, collateral, or repayment timing: debt can be secured by collateral, debt often has a fixed maturity, and equity does not require repayment at a fixed date.

Debt financing is about borrowing money with a promise to pay it back along with interest. Lenders receive a fixed repayment schedule and interest, but they don’t own a part of the company. Equity financing, on the other hand, involves selling shares of the company to investors, who become part-owners and may share in profits or losses; there’s no obligation to repay the invested capital the way a loan must be repaid.

That’s why the statement that debt requires repayment with interest while equity involves selling ownership best captures the distinction. The other options mix up ownership rights, collateral, or repayment timing: debt can be secured by collateral, debt often has a fixed maturity, and equity does not require repayment at a fixed date.