Financing Options for Growing a Small Business

Suzanna De Baca -- Expert Business Source, 12/14/2007 9:03:00 AM

Dear Suzanna:

I own a small, relatively young business in the commercial building industry.  We have been doing well and I am exploring the best way to grow.  What types of financing should I consider?

Growing Pains

Dear Growing Pains:

Congratulations on your success.  Expanding or growing your small business is exciting, but determining the best way to finance your growth can be challenging.  The most appropriate choice for you will be based on how much capital you need, your feelings surrounding ownership and control of the business, and your company’s ability to service debt.  Both equity or debt financing are available to small business owners, but within those categories many alternatives exist.

Equity Financing

Equity refers to ownership in your company.  One way to raise money is through equity financing, which means that you can obtain capital by selling a portion of ownership in your company.  Private equity, private placements, or selling stock in the public markets are options, but are not necessarily appropriate for small businesses. 

For small companies like yours, angel investing and venture capital are two common and potentially suitable forms of equity investing.

Angel investing is one type of equity investing that is often used by start-up or early stage companies seeking capital.  Angel investors are willing to provide capital in situations where there might be too much risk for banks and not enough proven profits for venture capitalists.  Angel investors may seed a company with investments less than $1 million and may provide capital for a longer time period than other investors, allowing a young company to get on their feet.  In exchange for such speculative financing however, Angel investors generally require a hefty amount of ownership.

Venture capital is another type of equity investing.  Venture is less common in certain industries, like the building trades, and more common in high-growth sectors like technology.  Venture capitalists generally look for investments where they can enter and exit with a profit within three to five years.  They typically invest in companies which have made it through the start-up phase and which are seeking capital in the $5 million and up range.  Venture capitalists also generally take an active role in company management, so owners need to be aware that they may lose or relinquish a great deal of decision making power in exchange for venture funding.

Debt financing

Debt financing refers to a company accessing capital through borrowing.  Debt financing is available in many forms.  Large or public companies may offer bonds through the public markets as a way of raising capital.  For small businesses, however, common types of debt include commercial loans, small business loans, credit card financing and home equity loans.

According to the Small Business Association, commercial banks and other depository institutions are the largest lenders of debt capital to small businesses, accounting for almost 65 percent of total traditional credit to small businesses in 2003. (This includes credit lines and loans for nonresidential mortgages, vehicles, equipment, and leases.)

Commercial Banks

For companies seeking $100,000 or less, unsecured loans through commercial banks are often available based on the owner’s personal credit history.  An owner may also use personal assets to secure loans to be used for the business.

Commercial loans generally do not require business owners to turn over equity or company control so they may be more attractive than equity financing.  However, the cost of servicing debt can be expensive.

Small Business Administration

The SBA is a federal agency that loans no money directly but instead guarantees 75 percent of individual loans made by private lenders up to $750,000. In order to qualify, generally a business must prove that it cannot obtain conventional financing at reasonable terms. SBA loans are personally guaranteed by business owners, who must also show that they have cash flow sufficient to repay the loan.
Credit Cards

Using credit cards is a quick way to gain access to cash but it is an expensive way to finance a business.  Credit card interest rates typically are much higher than bank loan rates and the minimum payments can be high.
Home Equity Loans

Home equity loans offer some of the best interest rates available, but you may not want to risk your family’s security to grow your business venture. 

As a financially savvy business owner, you will want to first investigate all the funding options available to you and then balance these choices with the level of control you are willing to relinquish in your business.  Your bank or SBA may offer advise or counseling to help you determine which is the most appropriate method of raising capital for you.

Suzanna de Baca is President of Private Capital Solutions Group.  She is a Registered Representative and Financial Advisor of Park Avenue Securities LLC (PAS), 7 Hanover Square, New York, NY 10004, (888) 600-4667.  Securities products/services and advisory services are offered through PAS, a registered broker/dealer and investment advisor. Private Capital Solutions Group is not an affiliate or subsidiary of PAS.
PAS is a member FINRA, SIPC.
Material discussed is meant for general illustration and/or informational purposes only and it is not to be construed as tax, legal or investment advice. Although the information has been gathered from sources believed reliable, please note that individual situations can vary, therefore the information should be relied upon when coordinated with individual professional advice.