Equity vs Debt Financing | Meaning, benefits & drawbacks, choosing the most suitable

Welcome to knowledge series of CapSavvy. As an entrepreneur, several questions may have popped up in your mind before selecting the most appropriate funding option between Debt and Equity. Let us understand pros and cons of both the options. Equity financing refers to the sale of a minority stake to raise funds. Equity financing can be raised either from third-party investors who have no existing stake in the business or from existing investors through the right issues.

You can also obtain equity funding from investment banks, venture capitalists, PE firms, or large corporates. Equity financing is most suitable for businesses that are at an early stage and have no financial history or collateral. Equity financing allows the entrepreneurs to focus more on the business rather than bothering about the repayment of debt. At the same time, the risk of losing ownership and control is involved with equity financing. Debt financing refers to borrowing funds from a lender and then paying it back with interest over a defined period. Debt financing can be used for either working capital, long-term investment, or both. The three broad categories of debt financing are: loans and overdrafts, fixed-income debt securities, and finance secured on assets. Debt financing is appropriate for established businesses, but the credit score and the financial performance matters a lot here. Compared to equity options, debt financing is less expensive, and you can customize it according to the necessity of your business. Unlike equity, debt funding doesn't involve surrendering any part of ownership or control. The disadvantage of debt funding is that the process is time-consuming and lengthy. Debt funding is also not suitable for seasonal businesses or with erratic cash flows.

As an entrepreneur, before finalizing the financing option, you need to consider the following questions: How much money do I need? Over what period will I be able to repay it? What exactly is the capital required for? Is there any collateral at my disposal? What are the taxation implications? Can the interest payment be met on time? Are the existing shareholders willing to relinquish some control? Is the additional input of a new equity partner warranted? Finding accurate answers to these questions may not be easy. But don't fret. CapSavvy is here to help you choose the best financing option available for your business..

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