Finances are the most important parts of a company. The cash required to run an establishment should be properly sourced and carefully managed. Improper financial management is one of the main reasons business enterprises fail. Proper knowledge of the nuances of the field is key to achieving optimal financing. This includes considering options like flexible financing and weighing down the pros and cons of different choices.
Types of Financing
Financing can be broadly divided into two types – equity and debt financing. Based on a company’s financial sourcing, there will be a debt-to-equity ratio. This ratio is what determines what kind of funding is preferred for the future. Therefore, funding should be focused on keeping the ratio as balanced as possible.
Debt Financing
Debt financing refers to the process of acquiring money from a bank or a lending institution. This is to be repaid under certain conditions like interest and payment schedule.
In the case of banks, a loan application has to be filed, which will be reviewed based on several factors. If the business is recent, the personal credit of the major stakeholders will be checked to come to a decision. For larger or older businesses, banks will contain other variables. The Dun and Bradsreet file. D&B is a very reliable company known for compiling the credit histories of companies. It is important to keep all documents organized before applying for a loan, as these might be reviewed.
Advantages and Disadvantages of Debt Financing
One of the main advantages of this type of financing is that the lending institution or individual has no say in its working as they have no ownership. Another benefit is that the interest that is required to be paid is tax-deductible as a business expense. Once the loan amount is paid, the relationship with the lending individual or institution ceases to exist. The payment schedule can even be personalized in the case of options like flexible financing. However, debt financing can prove to be hard to acquire during times of economic constraints.
Equity Financing
Equity financing works by involving investors in financing a company in return for a percentage of its ownership. A venture capitalist often refers to various lawyers, accountants, and advisers who work together to ensure the proper management of invested capital. Angel investors are the exact opposite of venture capitalists. They are wealthy individuals who usually prefer to invest a small amount of their fortune into a specific product. They rarely put effort into building businesses. These individuals also want quick decisions and prefer simple terms.
Advantages and Disadvantages of Equity Financing
The maximum advantage of this method is that the invested money does not have to be paid back. The investor is a stakeholder, and losses in the company mean losses in their investments. This financing method also avoids the need for monthly repayments, thus leaving more liquid cash for company operations. Investors can also understand the result, as they know how difficult it is to build a business. The only downside to this is having to adjust with investors pitching in on major decisions. If the investor has more than 50% of its shares, they would have the final say in its functioning.
Financial options from informal sources like friends and family can also be beneficial to an extent. However, the management of finances eventually comes down to making good and informed choices based on all the available options.