Debt vs. Equity Financing: Pros and Cons

by | Feb 7, 2022 | Finance

 

Most organisations utilise both debt financing and equity financing to help with the daily expenses of maintaining their business. There are both pros and cons on debt and equity financing which means choosing what’s best for you should be a top priority. Consider the advantages and disadvantages in order to have the right choice, for a wrong one could lead to something catastrophic for both you and your company. With that, here are some pros and cons of both Debt, and Equity financing:

 

Debt financing

Debt financing is getting cash from a lender, usually a bank. There are a few types of debt financing, including loans (business loans, personal loans), credit cards, overdrafts, and lines of credit. You’ll pay back the money whether it is in instalments or over a fixed period of time, including the interest rate.

 

Pros

  • The greatest and most clear benefit of debt financing versus equity financing is control and ownership. With conventional kinds of debt financing you are not surrendering or selling any controlling interests/shares in your business.
  • One more benefit is that whenever you’ve taken care of the debt your risk is finished.
  • Paying off the interest on a business loan may be a deductible business expense.
  • Lastly, if the loan is from family and/or friends, it is hassle-free to negotiate interest rates and the loan due.

 

Cons

  • The main risk and drawback of debt financing is that it requires repayment, regardless of how well you are doing, or not. You may be consuming money for a couple of years, with minimal net benefits, yet still need to make month to month debt instalments.
  • If a bank loan, the bank can take advantage if the money is not paid in due time.
  • Most small business loans require the lender to ensure repayment of the loan so their own resources are in danger on the off chance that the loan can’t be paid in full.

 

group of people discussing in the office

 

Equity Financing

This type of funding is getting money in exchange for ownership rights and shares of your company. May it be through crowdfunding, close partnerships, and venture capital investments.

 

Pros

  • Since this type of financing doesn’t require instalments and repayment, you can solely focus on making your business thriving, it is hassle-free and stress free for the entrepreneur.
  • It doesn’t require the entrepreneur to pay back the money if the company loses money or closes.
  • There is a chance that you can select your own investor that you think will add more power and knowledge to you for the betterment of the company.

 

Cons

  • The problem about sharing equity in your company is loss of control and ownership. The worst case, your business partners can replace you if you don’t retain enough board seats and voting power. Meaning, you can lose the ownership of your company.
  • A small company share/ownership would likewise not just imply that you are able to divide the benefits, however at times, a few investors might get the goods before it reaches your hand.

 

pros and cons concept

 

In conclusion, there are pros and cons of both debt and equity financing. The more you can get, the more control you might conceivably lose. The less mind boggling the choice, generally the less cash you can fund as well. Every choice will be appropriate for various kinds of business and business structures. Hence, it is encouraged to seek guidance, know the advantages and disadvantages before you begin looking for the cash. Comprehend which might be the most gainful for your present phase of business and how it could help or damage the future to come.

 

 

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