If you’re just starting a business or trying to grow one, you know how challenging access to capital can be. Financing your venture may be one of the leading causes of your entrepreneurial stress.
One of the reasons you may find financing a challenge is because it feels like a part-time job to research, learn, and understand your options, a heavy burden when you’re already wearing so many hats. The good news is, you don’t have to go it alone. We’re here to help.
Two funding options for you to consider are debt and equity financing. Here are the differences between the two, the pros and cons to each, and information you need to choose.
What’s Debt Financing?
Simply put, debt financing is when you borrow money from a lender. You’ll be in debt to the lender until you pay off your loan plus interest. Like everything else in life, debt financing has pros and cons.
Pros
- You maintain ownership
- There are some tax benefits
- It can build your business credit
Cons
- You owe the lender until you pay off the loan
- You may pay a high-interest rate
- Hard to pay back if you have cash flow difficulties (could affect your credit negatively if you’re late)
What’s Equity Financing?
Equity financing is when you sell stock in your business to investors. You’ll receive capital to start or scale your business for some of your ownership.
Depending on your industry, equity financing could be a vital funding source for you to start or grow your company. You can get equity financing from a variety of sources, including:
- Angel investors
- Crowdsourcing
- Venture capitalists
- Your savings or other funds
Equity financing also has its pros and cons.
Pros
- No loan or interest to payback
- You’ll learn from your partners (Angel investors and venture capitalist have usually been around the block a few times and are happy to offer advice)
- You may not need good credit
Cons
- You’ll give up some control
- It’s time-consuming
- Potential conflict with partners
What’s Your Deciding Factor?
Now that you know the advantages and disadvantages to debt and equity financing, how do you decide which will help ease some of your funding concerns? Here are a few questions to make your choice easier.
- Is your creditworthiness an issue? If so, then equity financing may be the better option.
- Are you more of an independent operator? Yes? You might prefer a loan, so you don’t have to share decision-making and control.
- Would you prefer to share ownership rather than repay a bank loan? Are you comfortable sharing decision making with equity partners?
- Are you confident the business could generate a healthy profit? You might opt for a loan, rather than share profits.
Unfortunately, equity financing may not be an option for your business. Investors are looking for one thing. A return on their investment. So, before you spend your time and energy seeking equity funding, consider if your business can attract investors. Here are the top things that investors look for:
- An effective business model
- Sufficient time in your industry
- Good company financial performance
- How large is your market?
- What makes your venture different from your competitors
- Who’s on your board
- What stage of development you’re in
If you can tick off the boxes in these categories, then it’s sensible for you to look at equity financing as an option.
Takeaways
Debt and equity funding are just two of the many funding options available to your company. Both have their pros and cons, but now that you understand the differences, it should be a little simpler for you to choose the best route for your venture. That way, you can alleviate some of your financial stress and get back to running your business.
