Before you can start and open a business, you need a capital. Should you look for an investor or take a business loan? Knowing how to fund your business is a pivotal decision that can have significant consequences to your endeavor. So which way is best for your business? Equity or debt?
The equity vs. debt financing predicament is one of the prevailing dilemmas most startups face when it comes to expanding their business. So you should be able to weigh down all the pros and cons of each financing method to figure out the best option for your business.
For a little help, check the comprehensive comparison below. Analyze the differences of these financing options and then make the big decision.
Before tackling its pros and cons, you should first know what equity financing is all about. In equity financing, you trade-off your ownership and control of your business to venture capitalists or angel investors in exchange for their capital.
This type of financing option is particularly important for some kinds of businesses and industries, such as businesses with global desires and aspirations, and technology startups. If you belong in these industries, then consider equity financing.
Advantages of Equity Financing
- Equity financing is less risky than debt financing because it’s not a loan. As such, you don’t have to pay it back. This type of financing option is an excellent way to fund your business if ever you can’t manage to get a loan.
- You do not have to compensate for the interest on the capital hike, meaning there is no need to bring your business’s earnings into debt repayments. Hence, you have more money available to expand your business.
- In equity financing, you have plenty of networking opportunities. You could get in touch with your investor’s network, which, in return, might add more integrity and credibility to your business.
- If by chance, you have created a comprehensive outline for your investors and made it clear to them that their money is at a gamble in your startup business, they will be aware that if your business fails, they will not, under any circumstances, get their money back.
Disadvantages of Equity Financing
- You are trading your ownership and proprietary rights in exchange for the capital. You will have to ask your investors, and you may oppose the management of your company. In worst cases, there is a chance that the investors will kick you out of your own company.
- This type of financing option is not open to all kinds of industries and businesses. Investors usually look for companies that can generate great returns on their investment (ROI). Strictly speaking, investors are more likely to fund companies in high-growth industries like healthcare and technology rather than financing “main street” businesses.
- Looking for the right investors for your line of business takes too much time in comparison to some of the quickest debt financing options out there.
Primarily, debt financing is the act of borrowing a certain amount of money from a legit lender that you will, in the course of time, repay plus the interest. It includes traditional loans like those offered by the banks, car loan, home loan, or something you bought using your credit card.
Or maybe you have family and friends who are willing to loan you money at a much lower interest rate and a better terms of repayment. Another option is to apply for a business loan.
Advantages of Debt Financing
- This type of financing option is a very flexible category. Meaning, there are plenty of business loans out there with extensive ranges in the amount of money you can borrow and for how long you will make the repayments.
- Debt financing lets you have the total control and jurisdiction of roadmap concerning your business. There are no partners or investors to answer to, and you can make all the plans and decisions. Plus you get all the earnings you make.
- If you fund your startup company using debt financing, the interest you pay back on your loan is tax deductible. Meaning, it protects the income of your business against the taxes and minimizes your tax liability annually.
Disadvantages of Debt Financing
- Debt is a high-risk financing option. If in the future, you have no means of paying back your loan, you put your business in danger, thus restraining the ability of your company to grow. So, it is best to seek advice from any legal firms such as Ashe Morgan to avoid such situation.
- Depending on your financial means and credit scores, it can be challenging and difficult for some to qualify or become entitled to the loan you want.
So, which financing option should your business go? Equity or debt financing? It all relies on your situation. Your potential investors, credit standing, financial capital, business plan, the tax status of your investors, and the type of business you are starting, all of these factors can make all the difference on your decision.
Figuring out the right type of financing option have significant effects on how your startup business works. It is a big deal. So, take the time and read the comparison above.