Deciding on how to fund a business is one of the most challenging decisions for entrepreneurs, especially when they’re starting out.
The two major forms of financing that you can refer to include debt and equity financing.
Nonetheless, both major forms of finance come with both advantages and disadvantages that you should consider, particularly if you’re new in the field of business.
What is debt financing?
You can refer to debt financing, wherein an external lender, such as a financial institution or bank can lend the business capital you need.
It offers several options for business owners; such as a personal loan, self-funding, debt-based crowdfunding, business loan, or loan from friends or family.
While you can also refer to a home equity loan if you own a property, this option poses higher risks.
Upsides
- Gain total control over your business
- If you borrow funds from family or friends, you can negotiate the interest and favorable loan repayment rates to ensure flexibility in the initial business years.
- Settling the business loan interest may be a deductible business expense.
Downsides
- Borrowers will need to deal with repayments with interest.
- Generally requires a collateral
- Offers limited opportunities for small enterprises
- If you’re unable to repay the amount you borrowed, there’s a risk that the lender can seize your assets.
What is equity financing?
This form of financing is a means of acquiring capital where the entrepreneur sells their shares in their company or issues new shares.
In other words, equity financing provides the required financing in exchange for part ownership of your business, for instance, selling shares to investors.
It comes in several forms, such as private equity and angel investment firms.
Upsides
- Allows you to get finance, even if you can’t get a bank loan
- Continuous advice and learning from investors
- No need to worry about debt repayments
- Enjoy more cash flow for your business
- Investors are ready to wait for a return on their investment (not always!)
Downsides
- Indeterminable payments to investors
- Relinquishment of a portion of the business ownership and profit
- You need to consider the advice of investors’ before decision-making.
Ultimately, by having a deeper understanding of the upsides and downsides of the two major forms of financing, you can ascertain which of them is more suitable for your business at its current level of growth.
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