7 min read · By Viren Makwana
The cheapest-looking capital is rarely the cheapest in the end. Debt costs a known rate of interest; equity costs a share of everything the business will ever be worth. The right choice depends less on today’s price than on how predictable your cash flows are and how much control you want to keep.
The question is sharper now. The RBI raised the repo rate by 25 basis points to 5.50% on 7 October 2026 and moved its stance to “calibrated tightening”, so borrowing costs are more likely to rise than fall in the near term.
The core trade-off
| Debt | Equity | |
|---|---|---|
| What you give up | Interest and repayments on a fixed schedule | A share of ownership and future profits |
| Control | Kept, subject to lender covenants | Shared: board seats, consent rights, information rights |
| Cost | Known; interest is tax-deductible | Unknown; grows as the business grows |
| Risk to the company | Missed payments can trigger default | No fixed payments; investors share the downside |
| Best suited to | Predictable cash flows, tangible assets | High growth, uncertain cash flows, long payback |
A simple illustration
A profitable company needs ₹20 crore to build a new plant.
- Debt at 12% a year costs ₹2.4 crore in annual interest. Because interest is deductible, the after-tax cost is closer to 9% at a 25% tax rate. Over five years, the company pays roughly ₹12 crore in interest and keeps 100% of its upside.
- Equity might mean selling 15% of the company at a ₹133 crore post-money valuation. If the company is worth ₹500 crore in five years, that stake is worth ₹75 crore.
If the plant delivers, debt was far cheaper. If the plant fails and revenue drops, the interest and repayments could threaten the whole business, while equity investors would have shared the loss.
When debt makes sense
- Cash flows are steady and can cover interest at least 1.5–2 times.
- The money funds assets that hold value: property, machinery, receivables or inventory.
- The founders want to keep control and the business has a track record lenders can assess.
When equity makes sense
- The business is early, growing fast and not yet profitable.
- The use of funds is uncertain or long-dated, such as product development or entering a new market.
- The investor brings more than money: networks, customers, credibility for the next round.
The options in between
Most growing businesses end up with a mix. Common middle-ground instruments include:
- Venture debt for venture-backed companies, usually alongside an equity round.
- Structured credit from AIFs and NBFCs, with flexible repayment tied to cash flows.
- Non-convertible debentures placed privately with family offices and HNIs.
- Convertible instruments that start as debt or preference capital and turn into equity later. We cover these in Equity vs quasi-equity investments.
Five questions to settle first
- How predictable are our cash flows over the next three years?
- What happens to the business if revenue falls 30% while we carry this debt?
- How much dilution can the founders accept across this and the next two rounds?
- What assets can we offer as security?
- What would each option let us do that the other would not?
The right capital structure is the one that still works in a bad year. Model both the base case and a downside before you sign a term sheet, and match the type of money to the type of risk you are funding.
Sources
This article is for general information only and is not investment, legal or tax advice, or an offer or solicitation to buy or sell any security or fund units. Figures are drawn from public sources as of the date shown and may change. Speak to a qualified adviser before making any investment decision.