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How to choose between debt and equity financing

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Ultimately, the decision between debt and equity financing depends on the type of business you have and whether the advantages outweigh the risks. Do some research on the norms in your industry and what your competitors are doing. Investigate several financial products to see what suits your needs. If you are considering selling equity, do so in a manner that is legal and allows you to retain control over your company.

Similar to debt financing, there are both advantages and disadvantages to using equity financing to raise capital. These are some of the positives:

Well suited for startups in high-growth industries. Especially in the case of venture capitalists, a business that’s primed for rapid growth is an ideal candidate for equity financing.
Rapid scaling. With the amount of capital a company can obtain through equity financing, rapid upscaling is far easier to achieve.
No repayment until the company is profitable. Whereas debt financing requires repayment no matter your business situation, angel investors and venture capitalists wait until you make a profit before recouping their investment. If your company fails, you never need to repay your equity financing, whereas debt financing will still require repayment.

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These are the main cons of equity financing:

Hard to obtain. Unlike debt financing, equity financing is hard to obtain for most businesses. It requires a strong personal network, an attractive business plan and the foundation to back it all up.
Investor involvement in company operations. Since your equity financers invest their own money into your company, they get a seat at your table for all operations. If you relinquish more than 50% of your business – whether to separate investors or just one – you will lose your majority stake in the company. That means less control over how your company is run and the risk of removal from a management position if the other shareholders decide to change leadership.

Many companies use a mix of both types of financing, in which case you can use a formula called the weighted average cost of capital, or WACC, to compare capital structures. The WACC multiplies the percentage costs of debt and equity under a given proposed financing plan by the weight equal to the proportion of total capital represented by each capital type.

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