There are several ways to finance a company. Among those ways, equity financing and debt financing are very popular. What is the difference between the two financing options? Though equity and debt financing are used to fund companies or businesses there are differences between the two options. Awareness of the advantages and disadvantages of equity financing and debt financing is very important when choosing what is better for the company.
What is equity financing?
Equity financing is used to raise the capital of a company by selling the shares to investors who are willing to be shareholders of the company. Stock value can be varying from a few thousand dollars to millions or billions of dollars. Buying shares has been popular among investors as it has guaranteed ownership when compared with the other investing opportunities. Selling shares in the stock market is a simple way of improving the capital of a company. It allows the company to find a wider range of investors for the company. Reputed companies have a higher possibility of acquiring more investors to invest in.
What is debt financing?
Debt financing is selling debt instruments to the investors to raise the capital of a company. The investors become creditors of the company and receive interest as repayment according to the debt. When a company uses debt financing, they promise the lenders to repay the amount that acquired.
However, there are advantages and disadvantages of equity financing and debt financing. It is the company owner’s responsibility to determine what is better for his business and which way it should lead.
In Equity financing, there is no need of repaying the money raised through it. Instead, the company will pay a part of the profit to the investors. Unlike repaying debt, it depends on how much income is gained by the company within a pre-determined period. It is obvious that the company has to be successful and pay a good return to the shareholders, but still not stressful as paying back debts monthly.
One disadvantage of equity financing is that the company has to get the approval of the director board or the shareholders when making decisions and handling the business. This limits the freedom to take decisions.
There are many advantages to debt financing. The owner has full control of the business through the lenders who have lent money for it. The deal between the company and the lender is over once you paid back the debt amount. In some states, there are numerous tax deductibles when repaying a debt. Such advantages are only available in debt financing.
Even though there are advantages, it is necessary to repay the debt, no matter your company is successful or not. Imagine a company that chose debt financing is going through a harder period. However, it has to pay back the regular debt installment at any cost. It can lead the company from bad to worst. If the company fails to do so, it will then haunt the guarantors or the family assets.
Expanding a business will be challenging when deciding between the available options for a company. It is necessary to consider the advantages and disadvantages before deciding what is best for your business.
