Know the ABCs of a small business financing
Farrah Gray/NNPA Columnist
Issue date: 6/14/09 Section: Business
Small-business owners can choose from two basic types of financing - debt and equity. There are advantages and disadvantages of each type that may be used for different purposes.
Before you seek start-up capital, organize your records as follows:
1. Gather your financial business records including tax returns;
2. Speak with business partners or family members about the sometimes uncomfortable option of giving up partial control of the business to potential investors;
3. Request copies of your personal and any business credit reports;
Entrepreneurs who seek financing face a fundamental choice: Should they borrow funds or take in new investment capital? Since debt and equity are accounted for differently, each has a different impact on earnings, cash flow, and taxes.
Each also has a different effect on leverage, dilution, and a host of other metrics by which businesses are measured. The planned use of funds will also affect the choice of financing, with one option more appropriate for certain uses than the other.
Debt can be a loan, line of credit, bond, or even an IOU - any promise to repay borrowed amounts over a certain time with a specified interest rate and other terms. Debt is accounted for as a liability of the company, and interest payments are deductible business expenses. In the event of bankruptcy or insolvency, debt holders take priority over equity holders.
On the plus side, debt can be relatively simple to secure through a bank or other financial institution and is available with a broad range of terms, allowing you to customize the debt to meet your specific needs. And since most debt entails regularly scheduled payments of interest and often principal as well, debt is easy to plan around. Perhaps most important, debt, unlike equity, will not dilute your ownership interest in your company.
On the minus side, however, financing with debt can be more expensive, and you will have to meet scheduled interest and principal payments regardless of your cash flow.
Before you seek start-up capital, organize your records as follows:
1. Gather your financial business records including tax returns;
2. Speak with business partners or family members about the sometimes uncomfortable option of giving up partial control of the business to potential investors;
3. Request copies of your personal and any business credit reports;
Entrepreneurs who seek financing face a fundamental choice: Should they borrow funds or take in new investment capital? Since debt and equity are accounted for differently, each has a different impact on earnings, cash flow, and taxes.
Each also has a different effect on leverage, dilution, and a host of other metrics by which businesses are measured. The planned use of funds will also affect the choice of financing, with one option more appropriate for certain uses than the other.
Debt can be a loan, line of credit, bond, or even an IOU - any promise to repay borrowed amounts over a certain time with a specified interest rate and other terms. Debt is accounted for as a liability of the company, and interest payments are deductible business expenses. In the event of bankruptcy or insolvency, debt holders take priority over equity holders.
On the plus side, debt can be relatively simple to secure through a bank or other financial institution and is available with a broad range of terms, allowing you to customize the debt to meet your specific needs. And since most debt entails regularly scheduled payments of interest and often principal as well, debt is easy to plan around. Perhaps most important, debt, unlike equity, will not dilute your ownership interest in your company.
On the minus side, however, financing with debt can be more expensive, and you will have to meet scheduled interest and principal payments regardless of your cash flow.
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