Debt Vs Equity Finance: Which Is Better For Your Business?

If you’re seeking funding for your business, there are multiple sources of finance you can choose from. You may either utilize funds that you have saved up or hunt for external support. If you opt for the latter, you could go for debt or equity financing.

Debt financing options include bank loans, business lines of credit, and invoice factoring. Equity financing ranges from contributions from family and friends to investments from angel investors and venture capitalists.

You will want to access financing that suits your business’s unique needs. This article walks you through some of the factors you should consider before settling for any alternative.

Qualification

Banks and other lenders typically prefer to give loans to businesses that have existed for a while and are in good financial shape. Consequently, many early-stage startups and SMEs seldom qualify for such loans. On the other hand, individuals and organizations offering equity financing will want the startup they invest in to show promise of strong market performance and bottom lines.

Risk Tolerance

Lenders may expect you to give up collateral to them if you are unable to repay their loans. This is something you should have in mind when weighing options for funding your business. Persons with a relatively high tolerance for risk may go ahead with securing a loan despite the prospect of losing their collateral (which could be their business equipment, vehicles, or even building).

If you are not comfortable with this possibility, you should consider some other source of finance instead.

Financial Benefits

Debt financing may offer better financial benefits over the long term. This is because it’ll leave you with complete control of your business’s revenues and profits after you have repaid your loan or line of credit. If you go for equity financing, your investors will own a part of your business, and, by implication, a portion of your profits. This will be the case for as long as they hold a stake in your company.

Your Relationship With Debt

Some people have an aversion to debt, and would not want to take a loan under almost any circumstance. Others have no problem with credit. People in the former category will typically consider equity finance more seriously, as it allows them to access funding without being in debt. However, it’s worth noting that there’s nothing necessarily wrong with taking out a loan. You only need to be certain that your business can meet its financial obligations to lenders.

Ownership And Control

Equity finance gives investors a stake in your business. This allows them to have a say in how your business is run.

If you would not like to hand control of your enterprise to other persons or organizations, you should seek debt financing instead. It’ll let you secure funding without diluting your decision-making powers at your business.

Profitability

Institutional lenders prefer to give loans to businesses that are already profitable. That’s because they believe that an organization’s profitability is a sign that it’s able to meet its financial obligations. But angel investors and venture capitalists often invest in startups that have not yet broken even. Such startups will have demonstrated that they can become profitable in the future.

Final Words

No one funding source’s suitable for every SME or startup. If you’re looking for financial support for your business from external sources, you should select one that’s best for your business’s specific situation. Hopefully, you’ll find it easier to make a decision based on the factors we’ve discussed here.