Financing of a business  is an important aspect of any business regardless of whether it is in its start-up phase or much more established. The funding obtained is often utilised for expansion or ensuring that the running costs of the business are taken care of and alleviating pressure on the cash flow of the entity. It is the foundation of every business and finding success without first establishing a strong finance structure is often extremely difficult. A CB insights survey cited cash flow as one of the biggest reasons for business failure, which further illustrates the importance of business finance.

Financing plays an important part in the business and activities such as managing the daily business operations and planning for the future of the business in order for it to be competitive in the marketplace cannot be achieved if there isn’t a suitable financing structure in place. Here is a list of some of key items that can be addressed by obtained business funding:

• Assists the business to achieve its goals.
• Manages cash flow.
• Helps the business in investment decision-making.
• Assists the business in managing financial risks.

There are several options to consider when it comes to financing your business, however, in this article we will specifically have a look at 4 types of financing and hopefully this gives you a brief insight into the various financing options available.

• Angel Investing

1. Debt Financing

Debt financing is a type of financing that is most common among businesses and involves the borrowing of money for a specific period of time with the business expected to make repayments inclusive of interest charges. Generally it is advisable to ensure that the business accounting records are in order prior to applying for this type of funding as well as being aware of the repayment terms that would be most suitable for the company.

Some examples of debt financing include:

• Bank loans
• Cash flow loans
• Secured and unsecured loans
• Bonds
• Merchant cash advance

ADVANTAGES OF DEBT FINANCING

• Interest charges on commercial loans are generally tax deductible for the business however it is advisable to consult a tax practitioner in this regard. 

• You retain full ownership of the business and the person/entity that is lending you money has no control or influence over how the business is run. 

• The relationship between your business and the lender increases if the business pays off its loans which can be important later on in the future once your business continues to grow and increase in value.

DISADVANTAGES OF DEBT FINANCING

• You are still required to maintain the payments as according to the requirements of the agreement regardless of the performance of your business e.g low cash-flow. This means that you may have to sell valuable assets in the business in order to pay off debts.

• The business might be unable to meet its obligations which could potentially affect its ability to obtain funding in the future. This is often referred to as the liquidity risk of the business.

2. Equity Financing

This type of financing occurs when the business sells its shares to investors or existing shareholders These investors are often referred to as venture capitalists and even angel investors. Angel investors in general are wealthy individuals who are looking to invest their money into a single product which the business is offering rather than the whole business itself. Venture capitalists on the other hand generally operate as consortium or a firm and their role is to seek businesses with high growing potential and invest their money in exchange for equity in the business. The following article referenced does a great job in explaining the differences between the two – https://us.weareuncapped.com/blog/venture-capital-vs-angel-investor.

ADVANTAGES

• Probably the biggest advantage of this type of financing is that you don’t have to pay back money to the investors as they are not creditors since they form part of the ownership of the business. It is however worth noting that investors still require a return on their investment and thus will most likely seek some level of operational control within the business especially a start-up. 

• More liquid cash is available for the business’s operating expenses.

• There is less pressure on the business to succeed or make a profit over a short period of time as investors will have significantly more patience due to their focus being more on the long-term growth of the business.

DISADVANTAGES

• The downside of this type of financing however is that you have to give up part of the ownership of your business to the investors who have equity in the business. This becomes even more of an issue if investors view your business as a risky investment which means you may have to give up more ownership of the business in order to acquire investors.

•  Since investors own a portion of the business this means that they sometimes have to be consulted before certain decisions are made with regard to the business. 

• It is also important to consider whether the vision of the investor aligns with your vision of the business as lack of alignment can cause unnecessary clashes in the future.

3. Crowdfunding

Crowdfunding occurs when a business receives capital from a large number of people in order for the business to finance its business projects and assists the business with capital injection. Although this concept has been well established in countries such as the United States and even in the UK, it remains relatively unknown in South Africa and is not considered a mainstream method with regards to obtaining funding. Backabuddy and Thundafund are the most established platforms that facilitate crowdfunding in the country and as recently as 2017 an equity crowdfunding platform called Uprise Africa was introduced in South Africa. 

There are a few type of crowdfunding which include:

• Donation-based crowdfunding
• Reward-based crowdfunding
• Equity crowdfunding

ADVANTAGES

• There is no obligation to pay back money received from crowdfunding.

• It is a much faster way of raising funds for the business in order to achieve its goals/targets.

• Businesses that are unable to obtain loans from banks may find crowdfunding as a good alternative due to the lack of repayment obligation and low cost nature.

DISADVANTAGES

• There are no guarantees that you will be able to raise up sufficient funds from crowdfunding.

• It requires a lot of marketing in order to get people on board with what the business is trying to accomplish in order for the public to invest their own money into the business.

• You relinquish some control of the business if you opt to do equity crowdfunding for your business.

4. Angel Investing

According to  BDC, an angel investor is someone who invests their own personal money usually in start-up companies that are in the early stages of its development. Generally, these angel investors are wealthy and they often receive a form/percentage of ownership from these start-up companies due to the nature of the risks they have taken in investing their own money into a business which may or may not succeed. Equity and convertible debt are just some of the ways in which angel investors may own a portion of the business.  The primary objective of angel investors is to assist the business in becoming more established and profitable.

Angel investors are more inclined to take risks on giving loans/financially assisting a start-up or small business since these angel investors are generally entrepreneurs who are already established in their respective field or line of work and would therefore have more of an understanding about the risks as well as the opportunities that may be available. There are some Pro’s and Con’s with the Angel Investor approach and the following article goes into more detail – https://www.startupgrind.com/blog/pros-and-cons-of-using-an-angel-investor-to-fund-a-startup/ .
Angel Investors are generally more knowledgeable therefore they may be willing to invest more capital into the small/start-up business and in some instances less restrictive when compared to taking out a bank loan.

The money and resources an angel investor invests into your small business differs from a bank loan in that bank loans have to be repaid and often with interest whereas angel investment funds do not necessarily have to be repaid but rather the angel investor takes ownership of a percentage of the business in exchange for investing their resources into your business (similar to equity financing).

Platforms such as Invest Network  make it possible for entrepreneurs looking to start a new business to connect with potential angel investors who will not only invest their own money but also offer valuable information and experience to new entrepreneurs.

Another platform which new entrepreneurs should consider is called SEDA (Small Enterprise Development Agency) which offers non-financial support to small businesses, marketing support, technology assistance as well as many other services. They can provide tools and assist entrepreneurs and people looking to start a business but may not know how to or lack the direction in order to go about doing so correctly. 

Conclusion

In conclusion, the financing of a business is a critical aspect that significantly influences its success and longevity. Whether in the startup phase or a more established state, businesses rely on funding to expand, cover operational costs, and manage financial risks. Neglecting to establish a robust financial structure can pose challenges, with cash flow issues identified as a key contributor to business failures.

In the ever-evolving landscape of business financing, exploring diverse options and aligning them with the unique needs and goals of the business is crucial. Success lies in striking a balance between securing necessary funds and maintaining a strategic approach that aligns with the overall vision of the business. As businesses navigate the complexities of financing, informed decision-making becomes paramount for sustainable growth and resilience in the competitive marketplace.