The importance of financing in the world of business can’t be emphasised enough. Among the various reasons for failure in businesses, inadequate funding is right up there as the most common one. Unlike what most people tend to think, financing isn’t just a single time activity. Instead, financing becomes a necessity at different times, such as during expansion, modernisation, etc.
Considering the importance of finance, it needs to be exercised with great caution. The use of capital should be planned in detail as well. Taking a wrong decision could be harmful for a business, even potentially being the cause of its downfall.
Insufficient financing can cause any business opportunity to be unsuccessful, even if it is the most lucrative and attractive one. Business owners should be familiar with the different types of financing available. That way, they can search, choose and obtain the correct form of financing for their needs. Primarily, there are two types of financing- equity financing and debt financing.
This type of financing usually involves borrowing of money. The amount borrowed has to be repaid over a specific period, along with a certain interest. Such financing can be long term or short term, depending on the period of repayment. Generally, the money is repaid within a year in the case of a short-term loan.
With debt financing, the borrower only needs to make payments in a timely and regular manner. The lender does not get any ownership of the business. With small start-up businesses, closing the deal usually requires a personal guarantee.
Contradictory to debt financing, equity financing involves giving a business share to the entity providing the finance. While such form of finance doesn’t incur debt, business owners still hesitate on losing any control over their business. The absence of any liability could provide a sense of security. Also, some equity partners can be of good use to the business as well.
Choosing the best option
Apart from the conventional methods of financing, there are other ways of obtaining funds as well. Sometimes, the source of financing could even be friends or family of the business owner.
The type of financing best suited for a business depends on its needs, and assets available along with a collateral. Excessive debt financing can result in poor credit. It also causes fund shortage, since businesses are unable to apply for more financing. An overextended business with too much debt with little collateral is never an appealing option for investors.