Financial Literacy
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Cost of financing and interest rates

Objectives & Goals Click to read

At the end of this module you will be able to:

Lay the first financial foundations for the creation of a new business or development of an existing one



Be discretionary in the choice of financing tools, methods and timing



Recognize external risk factors and have an example of how to deal with them



Learners can make a plan for the financial sustainability of a value creating activity

Advanced level of the EntreComp competence


Financing costClick to read

An enterprise funds its operations using two different sources:


Capital gains and dividends are required by equity investors, while debt providers seek interest payments.

Financing cost (FC), however, refer to the interest and other fees charged to debt financiers. Interest expense can be incurred on both short-term (less than an year) and long-term financing. 

The cost, interest, and other charges associated with an enterprise’s money require to create, purchase assets, or carry out operations – setting up or developing a business – are referred to as financing cost.

Interest and interest rateClick to read

The enterprises and the investors in general use the following formula to calculate financing cost:


In order to better understand the concept of interest and thus financing cost, reference must be made to the interest rate by introducing the concept of time, i.e. the time required to repay the financing.

20% is the interest rate – i.e. the portion of the financing that is charged as interest to an enterprise, expressed as an annual percentage of the outstanding financing.


Compound Interest (CI), also called interest on interest, is another method to calculate financing cost. It is applied to both the capital – principle – and the accumulated interest earned in prior periods.

At the end of the first year the enterprise owes the principle amount's portion plus interest for that year. At the end of the second year, the enterprise owes the principal's portion plus the interest for the that year plus the interest on interest for the previous year. And so on.

So, when compounding, the interest owed is greater than the interest owed when utilizing the simple interest approach. --> CI > SI

For shorter time periods, the interest calculation will be similar for both methods – SI and CI. However, as the financing period lengthens, the discrepancy between the two forms of interest estimates rises, pending in favour of CI versus SI.

Different types of ratesClick to read


Annual Percentage Rate (APR)

APR is the annual rate of interest without taking into account the compounding of interest within that year.

APR = Periodic Rate x Number of Periods in a Year


Annual Percentage Yield (APY)

APY does take into account the effects of intra-year compounding.


You will be charged the comparable yearly rate of 18% if you just hold a debt on your credit card for one month. However, if you hold that sum for the entire year, your effective interest rate rises to 19,56% due to monthly compounding.


Debt VS Equity financing

OverviewClick to read

The debt-to-equity ratio (D/E) indicates how much of an enterprise’s financing is provided by debt and equity in proportion.

Generally, 0,5 < D/E < 1,5 is considered good in terms of enterprise’s risk.

Debt financing: loans and borrowingClick to read


A lender is an individual, a group, or a financial institution who loans money with the expectation of repayment, typically with interest

A borrower is an individual or entity – enterprise – who obtains money on credit, i.e. with the intention of returning it, typically with interest

  • Loans are generally given by banks or private lenders and they are regulated through a formal loan agreement. Regardless of who makes the loan, the borrower is required to repay it, with interest and within a set time frame. If the borrower fail to repay, the lender may have the right to take the borrower’s asset if collateral is provided – something used as security, in case the loan is not repaid.
  • Soft Loan: It is given with next-to-no or no interest with extended grace periods, that is more lenient than standard loans.

Tip: Grants are, in essence, gifts. Non-repayable. Grants can be given to individuals, businesses, educational institutions, or no-profits by government departments, trusts, or corporations. There are several parameters to access them.

  An enterprise must be incorporated before a loan can be applied for

Equity financing – best practiceClick to read

The scale and scope of equity financing include a wide range of activities, from raising a few hundred dollars from friends and family to raising billions of dollars from huge organizations and a large number of investors in Initial Public Offerings.

Among the most common  and well-know kinds outside equity funding are:

  Angel Investors: They are someone or groups – generally friends, family or professional investors – who invest their   own money in a business. They have no claim on the day-to-day business management.

  Venture Capitalists (VC): They are professional and skilled investors who provide capital to selected enterprises.   They can invest other people’s money.

  Initial Public Offering (IPO): An enterprise can source funds by offering and selling the shares to the public in a new   stock issuance. From private ownership to public ownership.

  Crowdfunding: The method of funding a project or enterprise by raising money from a large number of   people/investors who provide for a small account – as small as €1000 for each investor. It typically starts with an   online “campaign” via one of the crowdfunding sites.


Best practice: Women TechEU – Supporting deep-tech start-ups led by women

Funded under the programme Horizon Europe, Women TechEU is a new initiative of the European Union. The scheme offers first-class coaching and mentoring to female founders, as well as targeted funding to help take their business to the next level. This initiative offers among other things:

  • Financial support to the company as an individual grant of EUR 75,000 to support the initial steps in the innovation process, and the growth of the company,
  • The possibility to participate in dedicated activities organised by InvestEU and Enterprise Europe Network



OverviewClick to read

What is inflation?      Broad increase in prices

 «In a market economy, prices for goods and services can always change. Some prices rise; some prices fall. Inflation occurs when there is a broad increase in the prices of goods and services, not just of individual items; it means, you can buy less for €1 today than you could yesterday. In other words, inflation reduces the value of the currency over time.


All the goods and services consumed by households during the year are represented by a “basket” of items. Every product in this basket has a price, which can change over time. The annual rate of inflation is the price of the total basket in a given month compared with its price in the same month one year previously».

Source: European Central Bank


Inflation dashboardClick to read

Consumer price inflation in the Euro area is measured by the “Harmonised Index of Consumer Prices” (HICP).

Who calculates the HICP?

Eurostat, the Statistical Office of the European Communities


Last update: 19 October 2022

Next update will be in the afternoon of 17 November 2022

For latest HICP data and future update can be accessed via the link below