What is Long Term Financing?
Longer term investment and financing covers all other funding not including in the working capital definition. This kind of resource is typically used for the purchase of the sustainable assets of a business, such as plant, machinery, buildings and others which are likely to have a life of greater than one year.
Sources of Long Term Financing
Sources of long term finance can include contributions from shareholders, debentures, bank loans and leasing contracts. Where non equity finance is sought, it is usual for the financing to be secured of the asset being purchased. For example, a lease agreement for the hiring of a large item of plant and machinery might be secured against that asset.
Should the business default on the payment due, the asset could then be reclaimed by its owners.
Difference Forms of Long Term Financing
Some forms of long term financing may require immediate and regular repayments to be made to dispense with the debt. An example of this might be a business loan where a predetermined amount is repaid to a bank at monthly intervals, commencing one month after the money is deposited.
Another form of finance, such as debenture shares might require payments to be made to the holders at a specific date in the future, say, in two years time. The owners of the debentures carry greater risk as their first investment returns are exposed to external factors for a greater period.
Equity shareholders generally have no predetermined period from which they will start to receive a return. In most cases dividends, share buybacks or another mechanism to enhance shareholder value are only suggested when the directors judge it prudent to do so.
This period could extend to many years before the profitability and cash position of the business is such that shareholders can receive a reward for the investment.
In addition, the amount they are given is undetermined from the outset and so eventually payments to them could be disappointing.