Advivo explores the best and most strategic ways to fund the growth of your small business.
Funding growth is the foundational pillar of ensuring your business stays afloat in the ever-changing market landscape. This article highlights three options you may consider when making the all-important decision of where to source your finding from to support your small business.
Profit Financing
First and perhaps the easiest source of finance available to your small business is using the profits you take from your day-to-day business operations which you can plug straight back into your business to support growth. This option requires no obligations to third parties as you hold all the responsibilities and reap all the benefits. For most small businesses, this option is usually the most practical and straightforward.
Debt Financing
The second option is debt. Debt is an option that requires a carefully planned out strategy as it is much more complex than funding through profits. Debt financing can come in many different forms, some common ones include:
- Bank loans
- Family finance
- Overdrafts
- Mortgages
- Credit cards
- Equipment leasing/hire purchase
- Debtor finance
Advantages
This option allows you to retain equity, giving you complete ownership of the business and the ability to negotiate interest rates and repayment options. As a business owner, your only obligation is to make repayments within the agreed time frames. Provided your business can generate a higher rate of return than the interest and costs of the debt, then using debt will supercharge your asset position over time compared to what it would be without accessing the debt to grow. There is no need to give that extra profit away to a third party.
Disadvantages
Debt financing also has its disadvantages which must be considered based on your business’ capabilities. New businesses, in particular, may find it difficult to secure financing from banks and need to ensure they are generating enough cash to service the debts. Cash flow shortages can make regular repayments difficult which is a problem that start-up businesses often run into. Failure to make repayments on time will negatively affect your credit rating which has roll-on effects for future business ventures. It is important to note that as the business owner, depending upon your business structure and whether you have provided a personal guarantee for a debt, you can be personally liable for the entirety of the loan if things do not succeed.
Equity Financing
The final option of financing for your small business is through equity. That is when funds are sourced through a third party that provides an agreement that the investor receives a share of the business. The investor is granted a certain percentage of equity such as shares in your business. As security for the investor, they will generally want some influence over business decisions (e.g. being on the board of directors). When considering equity funding, it is important to note that any investors become part owners of your business and share in the profits the business makes.
Advantages
Equity financing can provide you as a small business owner with the freedom of debt as you do not have to make repayments. The term of the investment may be longer in equity financing as investors generally wait a longer period for returns to be realised. Rather than paying a defined amount, funds are repaid through an investment exit strategy. As well as funds, investors often bring valuable experience, business advice, contacts, and act within the best interests of the business as they have a greater stake in the operation.
Disadvantages
As mentioned, equity financing requires for the business owner to sacrifice some of their ownership to the investors. This option is quite a demanding task that requires time and money, so you need to be prepared to spend before you profit from this strategy. When deciding to an equity fund, you need to be prepared for more reporting and disclosure responsibilities as investors always need to be informed on how well the business is operating. Bringing others into an equity position is a lot like a relationship and it is critical that you all see eye-to-eye on the business strategy and can work together or it will fail. If people you know, such as family or friends, are investing in your business, these relationships may be strained if things do not go as planned.
