Since every business requires some form of financing, raising sufficient capital is integral to the success of any business. Here are a few financing alternatives to consider:
Working lines of credit
A working line of credit from a third party lets you withdraw funds on an as-needed basis as long as you are within the credit limit and in compliance with the loan covenants (e.g., debt-to-equity ratios, collateral ratios, etc.). With a working line of credit, you repay interest and principal based on an amortization that is calculated on a monthly basis and tied to the maturity date of the facility. You also have the right to re-borrow principal after it is repaid (much like a credit card).
Term loan from a credit facility
In this option, you receive the entire loan amount at once and repay that amount plus interest on a fixed payment schedule.
Borrowing from friends and family
Asking friends and family for credit and/or equity financing may not be the best choice because it can put a strain on your relationships. On the flip side, if your business is successful, it could strengthen your relationships. If you decide to tap into the pockets of those with whom you have relationships, make sure the borrowing is structured to be an arms-length transaction and that the terms of the loan are comparable with those in the credit market.
Business “angels” are individual investors of high net worth who are most likely to fund companies in their very early stages. They seek high returns through private investments. Angel financing usually occurs before the business reaches financial sustainability from an operations perspective.
Venture capital firms
Venture capital firms are small groups of investors with excess cash and an interest in financing small businesses. Most venture firms prepare an investment proposal outlining their provisions for financing. The company’s management and the partners, or senior executives, of the venture capital firm will negotiate the conditions of this final agreement. Common conditions of the final agreement may include:
You will need to carefully consider the impact of the ratio of funds invested to the percentage of ownership given up.
Since venture capital firms want to be involved in key strategic decisions of the company, they will often request that a minimum of one partner be made a director of the company.
Be aware that some forms of financing that are not in the form of direct ownership can impose a fixed charge for interest (and sometimes principal) upon the company.