Uses Of Equity Financing for Small Business

small business equity financing

Equity financing is a unique way of raising money and capital for your small business that many small business owners remain unaware of, or at least unfamiliar with how it works.

What is Equity Financing?

The term “equity” refers to the ownership that both the business owner and any investors (if applicable) have in a company. Whether through signed partnerships, shares and/or stock that is bought and sold, individual owners and business partners are considered equity to a small business.

Equity financing, then, is the act of raising money and finances for the small business in question through these investors. To put it simply, equity financing is the business owner giving away part of their ownership interest in their business in exchange for money. Consider it an investor buying a piece of the business and looking for a return on their investment in the form of profit-sharing, repayment, and more.

How is Equity Financing Different From Debt Financing?

It differs from traditional small business financing, which is generally referred to as debt financing, which requires regular repayments until the debt is paid off. Equity financing generally ties investor repayment into the operating cash flow of the business, which allows the investors to make money alongside the business and then terminates their involvement in the business when they’ve been repaid a specific return on their investment.

This is all well and good, but you might be wondering when this sort of financing can be best used. Generally speaking, equity financing is fairly time-sensitive, and depends on the needs of the business.

When to Use Equity Financing:

Funding a startup

A good (and common) time to seek equity financing is while you’re finding startup capital for your business. Angel investors, a common source of equity financing that specifically seeks out businesses that can offer a high return on their investment, tend to flock to business ideas that are yet to get off the ground.

Equity financing is a good solution to any short-term financing needs that may arise before your business is fully opened and operational both due to its availability and its impact on your finances, making it optimal for coming up with the money needed to do things like find a location, train and hire your staff, and so on.

Financing risky businesses

Another common use for equity financing is to finance riskier businesses. Many banks or traditional lenders might not be willing to take a gamble on a riskier business idea (be it concept, location, or what have you), but equity financing will allow you to get money from outside investors who understand the inherent risks and might not be expecting to make all of their money back.

While it does take time and effort to find the right investor, the availability of financing they can provide can make or break the chances of your business getting off the ground.

Managing Debt

Equity financing can still help even after you’ve already been operating, particularly when you want to manage your business’ debt. Unlike other forms of business financing, equity financing isn’t counted into your business’ debt and is repaid much differently.

Drawbacks of Equity Financing

Granted, there’s always still risks involved – and frankly, it can be a lot more legwork and effort to find an investor that can meet your needs. Even if you are to find one, they can end up controlling how you run your business. Make sure you do your research before deciding on a financing strategy and keep your options open.