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Investment or a Loan? How to Fund Your Small Business

In my last post, I offered tips on how to estimate the amount of capital you’ll need to open your small business. Once you know that number, it’s time to decide whether equity investment or a loan (or some combination) makes the most sense for your type of business. There’s no checklist for making this determination, and there are many factors to consider.

Here are a few tips to get you started.

Should I get a business loan?

If you can afford the monthly payments without eliminating your company’s cash, and you have a slow-growth business, a loan might be a good option. You don’t have to give up any ownership in your company in exchange for a loan, and in 3-5 years when the loan is paid off, the business and its assets remain 100% yours. Sure, you have to pay some interest, but you don’t have to give up any control over the decisions that are made in your business.

Brick-and-mortar businesses are often good loan candidates, because they have assets (like equipment and inventory) to secure loan financing. However, you’ll need to keep enough cash in your business to guarantee you can make your payments if sales are slower than you projected. Most lenders will want to see a business plan that provides a clear projection of cash flow and an explanation of how you’ll deal with slower than anticipated sales.

Should I look for investors?

Investors often like to put their money in high-growth companies (like technology and energy start-ups) because they might see high returns relatively quickly. Companies that are seeking a quick acquisition and expecting to grow revenues at a fast rate are attractive candidates for equity investment. However, many small businesses, including brick-and-mortar stores with slower growth rates, do receive investment. Sometimes, this comes in the form of love money, or investment from family and friends.

If you’re seeking investment, you need to be comfortable giving up a percentage of your company and sharing the decision making with someone else. If your business fails, some of the company’s assets will go to that investor. Think about what percentage you’d be willing to give up, and for how much money, but be careful not to overvalue your company at the beginning. For example, a $100,000 investment for 10% of your business effectively values it at $1 million; but without a history of revenue and profit to support that valuation, you’re unlikely to get the investment you want. Be prepared to answer a lot of questions about how you’ve valued your company.

Finding Sources of Funding

Don’t be afraid to approach local small business centres, government departments, banks and successful business people to ask where you might start your funding search. There are a lot of options available and it can take some time to find the right one for your business. The best advice I can offer is to be patient, do your research and make sure you have a sound business plan that you can show investors and lenders when they show interest in your company. You never know who you’ll meet on your entrepreneurial journey.

Related articles: Seeking Equity Investment? Know the Rules