Your business needs capital, and quick! The reason doesn’t matter; perhaps you are a startup or a more mature business with an opportunity to invest in a new project to help you grow. You may even have had negative impacts caused by today’s unsteady economy and your capital structure is sub-optimal and you just need to buy some time to weather the storm.
So, now you have a new problem. Where will you go for financing?
This is one of the most difficult questions a business needs to answer.
Entrepreneurs like you who are looking to raise capital have two main ways to do so: you can apply for a business loan or secure equity investment financing. We have put together a summary of each option to help you on your fundraising journey.
You can apply for business loans from financial institutions like banks, credit unions, credit card companies, finance companies, and private businesses. When you take out a loan, you agree to pay back the capital you received, plus the interest.
With a business loan, you still maintain control over your company. You do not have any investors to answer to. It is also much faster to acquire than seeking investors, so this is a good option for you if you are in a hurry to raise funds.
Another thing getting a business loan can give you is the opportunity to build your creditworthiness. It means you become more attractive to financial institutions and can get more favorable loans when you need them again in the future.
Advantages of business loans
- The financial institution does not get any portion of the profits in your company.
- You have the freedom to use the money from the loan in whatever way you choose.
- You can deduct the interest payments as a business expense.
- Your payments are in regular monthly periods at a fixed rate.
Disadvantages of business loans
- You will have to pay the principal, plus fees and interest.
- If you do not have the ideal credit rating, you might not qualify.
- Most lenders ask for collateral, usually, it is your personal property.
- If unfortunately, your business fails, you will still have to pay the bank.
How to increase your chances of getting a business loan
If you decide that getting a business loan is better for you, there are a few things you can do to increase your chances of success.
- Have a solid business plan.
Creating a sound business plan gives you a better shot at getting that much-coveted business loan. Be well-prepared for the presentation and polish your executive summary. The summary is normally the first thing lenders look at, and if they like it, they might take the time to read the rest of the plan.
- Put some of your money into the business.
Banks also like it when they see the founders invest some of their money in the business because it shows how confident you are in your own business.
- Instead of buying property, just rent.
Lenders would rather see you rent than buy a property. They want to see the money go to assets that create income, like equipment and inventory. Lenders also do not like seeing high renovation costs.
- Review your credit report.
Review your credit report before starting your application for a bank loan. Lenders will check your credit history to help them decide whether they will let you borrow their money or not. Check if there are any mistakes in the report, as they might prove costly to you. If your report shows you had late payments before, you can write a letter to explain what happened and that circumstances have now changed.
- You may also try smaller banks.
You might have a better chance at success with smaller banks than larger ones. There is no harm in applying.
With equity investments, you surrender a portion of your company in exchange for funds. An investor or group of investors invests money in your company and becomes a shareholder or equity partner.
While in a business loan you still retain all your rights to the company, the opposite is true when investors buy shares in your company.
Here are a few of the most common types of equity investment:
- Venture capital: This is an investment by a single venture capitalist or group, buying a portion in start-ups and mature companies.
- Ownership stake: This is a direct investment by the owner or a new person wanting to come in as a co-owner.
- Public investment: This is an investment by the public into the shares of publicly-traded companies.
Advantages of equity investment
- You can get a larger amount of money from investors compared to bank loans since banks are very cautious of lending large sums of money due to risks of default.
- There are flexible repayment terms.
- There is the possibility that at least one of the investors would be willing to mentor you to help you run the business. This normally happens between an investor and an investee since investors also have a stake in the business.
- Depending on the agreement terms, there may not be an obligation to pay back the investors in case the business does not succeed.
Disadvantages of equity investment
- Since investors may want to oversee the operations, you can lose some control over your own business.
- Equity investors will get a big slice of the profit pie. The total amount of money paid out, in the end, may far exceed that of the interest and fees on a simple business loan.
- Investors may get legal rights over the company and in some cases, can sue if you commit any violations.
How to increase your chances of getting investors
Here are a few tips you can use to get investors to give you some of their cash.
- Present numbers
A presentation with words and no data is merely an opinion. Fill your presentation with realistic data.
- When using words, focus on verbs and ditch the adjectives
Tell potential investors what you are going to do to ensure that the company prospers. They are not interested in generalizations or technical jargon.
- Always tell them what’s in it for them
Potential investors do not care what your dreams are, what you love to do, etc. Your goal is to let them know what they can get for their money.
- Answer their questions at once
A common practice among presenters is that they reserve the question-and-answer portion to the end of the presentation. But when investors ask a question in the middle of your presentation, you have to answer at once, lest you lose your chance of clearing any of their doubts.
- Expect to answer tough questions
The top investors ask tough questions to test how you respond to pressure. It is better for them to see you fail during this stage rather than during the business operations itself.
If you are in the money hunt for cash, eventually, you will have to decide whether to get a business loan or to look for investors to secure equity investment. Your decision will depend on your business objectives. If you can see that your business has potential for incredible growth, then equity investment might be better for you due to lower risks, more lenient repayment terms, and the mentorship you could receive by involving the right investors.
Conversely, if the amount of funding is small and you do not plan on building a massive company, a loan may fit the bill, so that you can maintain complete control of your business.
There are pros and cons to each capital raising method. Hopefully, we were able to assist you in making an informed decision.