Taking debt or selling equity?
If William Shakespear was living now, that would be the question of Hamlet for today's entrepreneurs.
Loan is a word that many people are afraid of - and business founders are no different. Well, here is a reason for it - if things go wrong, you are risking too much. And what is more, you need to pay expensive interest rates. Yes, we get it. Although raising money in exchange for a part of ownership of your company might seem a better and safer option to raise capital for any business, debt financing has a lot to offer - and sometimes even more than equity.
Let's find out in which situations is debt better option than equity - and when it is simply not.
A good reason to choose debt over equity is when…
- You want to avoid dilution
When you choose debt, you choose freedom for your business. You stay fully in control and make all the decisions about the company. - You want higher valuation
Increasing valuation of your business means better terms and a possibility to raise more money from equity later on. - You want to choose the cheaper option
If you think interest rates of debt are high, consider the following: Would you rather pay 25% interest rate on your debt or lose 25% of the total value of your company? You got the answer. - You want to boost before exit
Taking debt to boost your numbers just before exit is better and cheaper than selling equity. - You don't want to risk negative relationships with investors
Selling a part of your company means sharing it with the investors - and if you happen to not be on the same page, it can have a negative impact on your business.
You want to save money on tax
The ability to deduct the interest payments from your taxable income will save you money and result in lower actual cost.
A good reason to choose equity over debt is when…
- You seek a partner for your business
Selling a part of your company is not necessarily a bad thing. Partnering with investors allows you to benefit from their business experience and valuable guidance. - You prefer long-term business relationships
As soon as you repay a loan, your relationship with a lender automatically ends. Equity investors, on the other hand, stay with you until the very end of your journey. - You are not profitable yet
Do you have a great business idea but not sure yet about how to reach success? Selling equity gives you time for figuring it out. Debt does not - to qualify, you need to be already profitable. - Getting your investment back takes too long
Acquiring customers can be a costly process and even after you start making sales, it will take some time to get your money back and generate true revenue. As this does not allow you to reinvest revenue back into your business, selling equity is the path to choose. - You cannot get capital anywhere else
If your own financial resources are scarce, family and friends have deep pockets and your company does not qualify for debt, selling equity can be the only way to raise much needed capital. - There are metrics to be improved
If you have a promising business idea, equity investors will be willing to take risk and cooperate with you even though some of your metrics are not ideal at the moment.
Is debt really better than equity?
Let's come back to our modern dilemma and answer the question all startup founders ask at some point in their business journey.
Should you choose paying interest rates rather than sell a part of your company? The answer is - it depends. Both discussed financing options are suitable for different scenarios and only you as a business owner know where your company stands now.
Whether you have already decided for debt or you are just playing with the idea, fill your data in our assessment tool, which will tell you if your business is ready for debt and under which conditions - and all within just 15 minutes. Why not give it a try now?
