Debt vs equity

If you are building a startup and looking at how to grow it more rapidly, one of your first questions will be how to raise money. Whether you need to spend more on R&D, expand your office space, or bring on new team members, if you are bootstrapped then such expenses can be near impossible to cover, and so you look to others to fund the growth – either through debt or equity financing.

Equity financing

Equity financing is where you sell a portion of your business to an investor in return for the funds. How much of your business you sell and the figure you ask for depends massively on the business and stage of growth you are at, and whether you are looking to friends and family, angel investors, or venture capital funds for the money.

Equity financing is the type of deal you will have seen on TV shows like Dragons’ Den or Shark Tank, where investors look to take a percentage of your business in return for risking their money on you. For particularly risky business propositions, investors will often look for over a 50% stake in the business, which can be disheartening for entrepreneurs who would then lose control of their company, but if this investment turns a small company into a multi-million dollar behemoth, it is useful to remember that 45% of £10m is a lot more than 100% of £50k.

Whilst you will have to give up some of your company to raise equity financing, the benefit is that you are not burdened with debt, so that while your investors will share in your profits, you do not have to spend time and resources paying back the a loan with interest. Moreover, if you have found investment from investors or VCs, they may have hugely useful knowledge and information you can exploit to help grow your businesses – and as they own a percentage of your business they are invested in helping you succeed.

Debt financing

If you do not want to part with a percentage of your business, then you might look to debt to help finance your company’s growth. This could be in the form of consumer debt like credit cards for short-term cashflow, but if you are looking for large sums for growth then applying for a business loan from the bank could be an option.

Debt financing means that you maintain full control of your business and do not have to split the profits with investors, but instead you will have to pay back the money, normally in monthly instalments, with added interest. Also, as the loan may be given against your assets, either as a business or on an personal, and so it is vital that you pay each instalment of your debt on time every time or you may be in danger of losing more than just control of your business and could put you at a higher risk of personal bankruptcy.

Whether equity or debt is the best option for you depends on your desires and requirements for your business. Always talk to an independent financial adviser to help you make such important decisions.

Photograph by WerbeFabrik

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