It takes money to make money; that capital often comes as business debt financing. From small startups pursuing a launchpad to established enterprises chasing expansion and innovation, debt financing provides much-needed cash to turn big ideas into realities.
However, subtle nuances make it trickier than that.
As a business owner, you’ll have to decide between equity financing, debt financing, or a combination of both. Each has benefits and drawbacks that make it better for certain business models, industries, and growth rates.
Debt isn’t a bad thing. Even the most successful companies leverage debt from time to time. Giants like Uber, Airbnb, and Whole Foods used debt financing to grow and expand their businesses.
In this article, we’ll walk you through all the intricate ins and outs of debt financing so that you know exactly what you’re getting into before you sign the dotted line.
Debt financing is a method of raising capital where a business borrows money and agrees to repay it later, often with interest. The funds typically come from financial institutions like banks or can be raised through issuing bonds to investors. This strategy allows businesses to fund operations, purchase assets, or undertake new projects without giving away ownership stakes.
Equity financing is when you trade company shares in exchange for capital. You’re selling ownership of your business for upfront cash.
Some startups view it as free money, but it has the potential to be much more expensive than debt financing, especially if you’re successful.
Unlike equity financing, debt financing keeps you in control of your business. Instead of trading ownership of your company (forever), you pay interest (over time).
Debts get paid off. Equity financing doesn’t.
Debt financing doesn’t dilute ownership or grant lenders any claim to a company’s profits or control. You borrow money, pay it back on time (with interest), and that’s that.
The nitty-gritty details of debt financing vary depending on your loan type. Some feature basic repayment terms with a fixed interest rate, while others require a set percentage of your debit and credit card sales.
The best debt financing for your business will depend on your financing needs, credit score, assets, and financial situation. Below, we’ll cover some commons types of business financing options:
Fixed-sum loans with a pre-determined repayment period and interest rate are used for specific purposes such as expansion, capital investments, or operational needs.
Smaller-term loans with shorter repayment periods and quicker access to cash are typically used for addressing immediate cash flow needs, covering short-term expenses, or bridging gaps in funding.
This flexible financing gives your business access to a set credit limit you can borrow from on an as-needed basis. You can use this to cover practically any business expense, repay the amount borrowed, and get full access to the line of credit again without application or approval waits.
These business loans help you purchase necessary equipment or machinery—from computers to accounting software. Your financed equipment serves as collateral, allowing you to make bigger purchases.
This type of financing lets you sell your outstanding invoices (at a discount) in exchange for immediate cash. Accounts receivable financing (also known as factoring or invoice financing) is perfect for keeping a healthy cash flow when clients are slow to make payments.
Government-backed financing options through the Small Business Administration (SBA) give your company access to affordable capital through partnering with approved lenders. While this is ideal debt financing, it’s notoriously competitive and difficult to qualify.
Revolving line of credit that gives your business purchasing power and expense tracking for day-to-day expenses. Business credit cards also help you build your credit history to help you qualify for bigger, better loans down the road.
Financing option where a business receives a lump sum payment upfront in exchange for a portion of its future credit card sales, providing quick access to capital with repayment based on a percentage of daily or weekly sales.
Should you use debt financing to grow your business? There’s no one-size-fits-all answer, but we can help you understand the benefits and drawbacks of debt financing. The right financial strategy for your business will depend on your products and services, growth rate, and goals.
Understanding these nuances will help you know if it’s right for your business.
While it’s possible to bootstrap a business and never take on any debt, this slow-growth strategy might hurt your potential and limit your opportunities.
It can be uncomfortable taking on debt, but it can also be the best way to build your business—done correctly, of course.
Is debt financing right for your business? Consider the following circumstances:
Debt financing is an investment in your business.
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