If you need more capital to grow your business, you have two main options: borrow money or find investors. Borrowing is referred to as debt financing; investors mean equity financing. The latter choice—equity financing—which is the focus of this blog—has serious ramification for you. Understand what you’re getting into.
Advantages and disadvantages of equity financing
Before you decide to bring in capital by taking on new investors, be very clear about what it means to you and your company.
- Advantages. Besides getting the funds you seek, there is another important advantage: There is no requirement to make distributions to investors as compared with borrowing and regular loan repayment. This means that equity financing is more favorable from a cash flow perspective.
- Disadvantages. The main drawback is a dilution of your ownership interest. For example, if you own 100% of a company but sell a 20% interest, your interest is now reduced to 80%. If you maintain a majority interest, you probably continue to control decision-making. But minority owners have rights and may influence your operations. For example, depending on the terms of the agreement and state law, you may have to share the company’s financial information. Other considerations:
- A relationship with an investor is open-ended. Once you commence the arrangement, you’re locked into it unless you can buy out the investor or the investor sells to another party. This is in contrast to loans, where the relationship with the lender ends when the loan is repaid.
- Profits are shared. There may be some juggling when comes to making distributions, but investors want to see returns on their investment.
Finding investors
There are various ways to find investors. The appropriate venue depends on the nature of your business, the amount you need to raise, and other factors. For some business owners, finding investors may be using “all of the above.” Some options:
- People you know. In the old days (before computer and smartphone time), this was referred to as Rolodex financing because you reached out to those you knew. Today, check your contact list for family, friends, and acquaintances who are in a financial position to be able to make an investment. Use caution in tapping family because if the business fails, they’re still family.
- Angels. Angel investors are individuals or a group of individuals who put money into start-ups and early-stage businesses. This may be referred to as “seed money.” Angels may also provide non-financial assistance in the form of mentorship and networking. The Angel Investment Network and Angel Capital Association can connect entrepreneurs with angel investors in the U.S.
- Crowdfunding. You may be able to find investors through a crowdfunding platform, such as Wefunder and StartEngine. In 2023, Wefunder raised $131.9 million for businesses, while StartEngine raised $116.8 million. Check each option for requirements and fees. Seeking equity through crowdfunding is best done if your business is a C corporation. It makes it easy to share ownership. It may be difficult or impossible to do with other entities (e.g., an S corporation cannot have more than 100 shareholders).
- Startup events and pitch competitions. Shark Tank is the premier place to pitch a business idea and seek funding from one or more of the celebrity investors on the show. If you want to become a contestant, you can attend an open call (2024 is closed; cities for 2025 have yet to be announced). But besides Shark Tank, there may be business groups and universities in your area that hold events and competitions with an eye toward providing funding for an attractive business idea.
Final thought
To snag investors, be prepared to pitch your idea and convey your company’s mission—the problem you hope to solve through your goods or services and the results you hope to achieve. Have your numbers on hand to demonstrate your knowledge about running the business and the returns that investors might expect to receive if they give you money.
