Regardless of the type of business you are running, you will frequently need money. In most cases, you will always be in need of money during the initial stages of your business. However, finding money is not easy. Over the years, lending conditions have become tighter and investors are not pumping in as more money as before into small businesses.
There are different financing options that small businesses can go for. The most common ones are equity financing and debt financing. Before choosing either of the options, you should know how they work to determine which one would be suitable for you.
Overview of Debt Financing
When you select debt financing, you are simply getting a loan that will have to be paid back with interest. Buying a home, a car or using credit card are common forms of debt financing. Debt financing for business also involves taking a loan from a bank or friends, which must be paid back with interest.
There are many reasons why you may want to choose debt financing for your business. To begin, you will not have to give up part of your business to the party providing the loan. Your obligations with the lender will end as soon as you pay back the loan with interest. The interest charged on the loan is also tax deductible, which is an advantage for you. Finally, you will have to pay back the loan in regular installments. Planning for your expenses over time becomes easy when you have regular payments to make.
How Does Equity Financing Work?
Equity financing is not well understood as much as debt financing is. Investors are involved in equity financing and this is why it is not as popular as debt financing. While your family and friends may hold shares of your company, equity financing usually involves angel investors or venture capitalists.
With equity financing, the investor takes all the risk of the business. On your side, you will not be liable to pay any money back in case the business fails. Apart from this, since you will not be having any loans to pay, you will be left with more money at your disposal. Finally, venture capitalist can provide you with advice and a platform to launch your business globally.
Which Funding Method Should You Choose?
When it comes to small business funding, you will not have a choice in most cases. Getting formal financing can be quite difficult if you are running a small business. On the flip side, unless your business has the potential for a global reach, getting venture capital will be nearly impossible. To get funds from angel investors, you will have to give part of the ownership of your business.
The above are the two main financing options that small businesses have.