Molly’s Magnificent Fashions, Inc., has shown significant growth and profit ever since Molly’s designs became popular and in great demand. Molly anticipates continued profit, but she is short on cash since she has reinvested all of her profits back into her business. The company, which currently has one retail location, has a chance to expand by leasing space in a very desirable shopping center. It must move quickly because others are in competition for the prime location. To secure the lease, Molly needs to pay the first month's rent and a security deposit equal to one month's rent. How should she secure the lease?

Quick answer:

Molly has different options to secure the lease. She can use debt or equity financing, which both have advantages and disadvantages. With equity, she will not have to repay the funds, but she will no longer own 100% of the business, as she will take on a partner. She could also take a bank loan and continue to run Magnificent Fashions by herself. She will have to repay the loan with interest.

Expert Answers

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Molly has different funding options to secure the lease by paying the first month's rent and security deposit. She can access money from external sources through the use of either debt or equity financing. Molly’s Magnificent Fashions has reinvested internally generated cash flow back into growth initiatives to spur revenue increases apparently and does not generate sufficient free cash flow to fund the expansion to a new store location and must therefore rely on external funds.

Molly must decide whether to fund the growth to a new store with debt or equity. There are advantages and disadvantages to both methods of financing. If she chooses equity, an important advantage is that she will not have to repay the funds. A key disadvantage is that she will no longer own 100% of Molly’s Magnificent Fashions. Since her business is small, using equity would mean taking in a partner by selling a stake in the business. Sometimes, adding a partner can be beneficial. For instance, if Molly knows someone who has strong ties to a national chain of clothing stores, she might be able to strike a deal to distribute her magnificent fashions, in addition to operating two proprietary stores.

Since Magnificent Fashions is profitable and Molly anticipates continued profits, she is also a likely contender to receive a bank loan. The advantages of this type of debt financing is that Molly will continue to run Magnificent Fashions by herself. The downside is that she will have to repay the loan over time with interest.

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