Equity or Debt – Which to Use to Finance My Business

Equity or Debt – Which to Use to Finance My Business

For those who decide to go down the rabbit hole into setting up a business; there are plenty of financing options available out there. Such as bank loans and factoring services to crowdfunding and venture capital. This makes it quite challenging to select. However, needn’t worry, I am here to help you. You pose this question: Equity or debt – which to use to finance my business. In this article, you will get insights into what route to choose to finance your business.

Two Categories of Financing

There are two broad categories of financing available to businesses one is debt or loan and the other is equity. Figuring out which avenue is right for your new business start-up can be confusing, and both come with a set of pros and cons. Here is an introduction to each, what they mean, and essential things to know before making a decision.

What is Debt Financing?

Many of you must be familiar with loans, whether you borrowed money for mortgage or college. Debt financing a business is somewhat similar. The borrower accepts funds from an outside source putting up some collateral assets as reassurance to the lender and promises to repay the principal plus interest. Collateral can include inventory, real estate, accounts receivable, insurance policies, or equipment; this is used as repayment in the event the borrower defaults on the loan. Common debt financers include banks, finance companies, credit unions, and private corporations. Small Business Administration (SBA) is a popular choice for many business owners.

Advantages

• With a business loan, you are in control of how that extra capital gets spent, and the terms are often clear and finite.
• Debt financing is flexible as there are different kinds of business loans with wide ranges in how much money you’ll get and how long you’ll make repayments

Disadvantages

• Depending on your credit score and financials, it can be quite tough to qualify for the loan you want.
• In case, you fail to repay the loan; the lender could seize your business’s assets.

What is Equity Financing?

Equity financing is the one where you need to trade ownership of your business to venture capitalists or angel investors in return for their capital. There are several ways to obtain equity financings such as through a deal with a venture capitalist or equity crowdfunding. Business start-ups that go this route won’t have to repay the money in regular instalments or deal with steep interest rates. Instead, investors are partial owners who are entitled to a portion of company profits. Equity financing is essential for specific industry types and kinds of businesses such as technology startups and companies with an ambition to have a global outreach.

Advantages

• You don’t have to pay interest on the capital you raise meaning you’ve got more cash available to grow your business.
• With the right investor, you can get a great experience, wisdom, and industry connections. These relationships can last you lifelong.
• If the business fails, you are not required to pay back investments.

Disadvantages

• Equity financing is lengthy, especially when compared to some of the fastest debt financing options.
• You have to give away the ownership of your business as well as the decision making power. You will have to consult with the investors for every business decision and you might even be forced to abandon your own business.

Knowing the advantages and disadvantages of both, which funding method is best, you may ask?

The truth is that both of these methods are suited to different business types. However, when deciding between the two, you can take the help of professional business and personal consultants like that from the Precept financial services to advise you which route to take. Alternatively, ask yourself how soon do you need financing, how much capital do you need, are you looking for more than just money, do you mind sharing your business and how big do you want to get. Answering these questions will help you determine which way to go.