What distinguishes internal common equity from external common equity?

Internal common equity refers to funds generated from within the company, such as retained earnings, which are profits that the company has reinvested rather than distributed to shareholders. This type of equity is distinguished by the fact that it does not involve any direct transaction costs or external fees, unlike external common equity, which requires issuance costs, underwriting fees, or other associated expenses when a company raises funds through selling new shares to investors.

When a company uses internal equity sources, it does not incur costs related to issuing shares, making it a cost-effective option for funding investments, projects, or growth initiatives. As a result, maintaining internal equity helps a company manage its capital structure more efficiently since it avoids the dilution of ownership that could occur with issuing new shares.

In contrast, external common equity involves raising funds from outside investors and typically has associated costs and complexities. This distinction is fundamental in business finance as companies weigh their financing options and consider the implications on returns and ownership.