Debt finance as a solution for business growth

The finance landscape has changed. It’s no longer a case of choosing between traditional term loan debt finance or relinquishing equity. Alternative lenders now offer a range of flexible, growth-focused finance products. The key is choosing the right one for your business. 

Capital is fundamental to business growth. Until recently, it was relatively easy to secure. Mainstream lenders offered cheap, accessible debt finance to businesses to fund their growth. Then came the financial crisis. For many businesses, ambitions of growth have had to be sidelined or postponed, due to the lack of available finance. While others seek out external investment and relinquish equity, control and ownership of their businesses to secure necessary funds.

Equity or debt: the old dilemma

For SMEs, equity financing means raising capital by selling shares of a business to external investors. The investors inject capital into the business and become partial owners. In return they receive a share of the business’s profits over time, usually expected within three to five years.

Control

The main benefit of equity financing for many businesses is that repayment is not required. Capital raised through equity financing does not accrue interest or require monthly repayments. You’re under no obligation to repay the investment. Investors take on the risk themselves.

However, equity finance is not a completely flexible, no-strings solution. When selling equity, you also hand over rights and decision-making input over your business. Some investors are relatively hands-off, yet many others have plenty to say about how you run your business. Ownership of the company is diluted.

Traditionally, debt finance is a more simple proposition. You borrow a lump sum from a bank, and repay that sum over the agreed term of the loan, with interest added. As long as the repayments are made, there is no interference or involvement in your business from the lender. Repayment terms are clear, and future profits do not need to be shared.

Cost

common misconception around debt finance is that it is more costly than equity finance. Although this may seem true in the short term, investors generally seek a higher return from their investments than do lenders. Equity financing is a greater risk to the investor than debt financing is to the lender. This makes the cost of equity often higher than the cost of debt.

Lenders also have primary claiming rights over business assets should a borrower business go into liquidation. This reduces the risk of loss in the event of default. A safer debt investment requires less cost compensation

Usage

Equity finance is often seen as the solution for businesses looking for ‘more than money’. Investors can provide advice, contacts, and mentorship to business owners (whether wanted or not). It’s normally used for high-cost, long-term growth and development funding.

Debt finance has been traditionally chosen for swift, lower cost projects and expenses by businesses who want to retain control.

Combining Equity and Debt Finance

Yet the choice between equity and debt finance is no longer a case of ‘one or the other’. In order to create a well-rounded, agile financial strategy, many equity-funded businesses also use debt. As long as the form of debt doesn’t threaten the company in more difficult times, many equity owners welcome certain debt uses. If they can see the potential to help enhance their investment returns.

These ‘blended solutions’ offer businesses the chance to combine both equity and debt finance funding to facilitate long-term growth as well as tactical operations. Cash can be available to fund opportunities and process optimisations that form part of a wider, investor-led growth strategy. Choosing the right form of debt finance is crucial to achieving this balance. Flexibility and cost-effectiveness are key. And the finance landscape has evolved dramatically over the past several years.

The Evolving Debt Finance Landscape

Debt financing now comes in many forms. It’s no longer about simply securing a small business loan from a big bank. Alternative finance providers have made it easier for businesses to secure the right form of finance to match their specific needs. The range of debt finance products now available includes:

  • Term loans
  • Lines of credit
  • Business credit cards
  • Invoice finance
  • Overdrafts
  • Supply chain finance
  • Merchant cash advances

For the majority of businesses, term loans remain the most popular form of debt finance. Yet there is a more flexible, cost-effective, and growth-focused option available. Offering a revolving credit facility that is tailor-made to support growth, it’s fast becoming the working capital solution of choice for growing businesses.