What is equity financing and is it an option for your SME?
Equity finance is described by Queensland Business as an investment in your business, either with your own money or someone else's.
"The difference between debt and equity finance is that the investor becomes part owner of your business and shares any profit the business makes", states its website.
What are examples of equity financing?
Equity finance can include:
- self-funding or bootstrapping, where your personal finances are used for business purposes
- money from your family and friends through a partnership
- private investors
- venture capitalism
- initial public offering or a "float"
- angel investing, which refers to wealthy individuals investing their own funds into start-ups with strong growth potential
- government grants
- crowdfunding, which refers to entrepreneurs raising funds through social media or websites
What are the pros and cons of equity financing?
The downside to equity finance is that it's a more complex concept to grasp initially as it involves investors, according to Investopedia.
Furthermore, sharing profits with investors can pose an issue for some business owners - this involves consulting with your business partners on a regular basis and allowing them to share in the decision-making process.
However, that may sometimes be the upside to equity financing - the investor is also taking on a significant level of risk when he shares your business. If the business fails, there's no obligation to return the money to investors, but remember that if your investors are your family and friends, this may adversely affect the relationship. Business.gov.au recommends that in this case, you tread carefully so as not to compromise your relationship with your family or friends.
It's important to think carefully when faced with a funding decision. Often, start-ups do not qualify for equity financing as there's no demonstration of growth or profits, although there is the rare case of angel investing.
Typically, start-ups use debt financing in the early stages, while more established businesses with an eye on a national or international presence tend to opt for equity financing.