Debt Versus Equity Financing

Options to help you expand your business.

Many manufacturing companies are now fully utilizing capacity in the rising economy. If you’re planning to start, buy or expand a manufacturing company, should you look for a loan (debt financing) or turn to investors to inject cash into your business (equity financing)? Here’s a closer look at your options.

Debt

There are several types of loans that may fit your situation:

Term loans provide a fixed amount of credit to purchase assets or meet specific financing needs. Loans can be unsecured or secured by collateral in the form of existing fixed assets or those you’re about to purchase. Interest rates are generally fixed for the life of the loan. Don’t forget simple types of loans such as business vehicle loans, which can be used for financing not only cars and trucks but also heavy vehicles. Alternatively, you may want to think about leasing equipment through an equipment vendor or by some other arrangement instead of purchasing it.

There are more complex debt solutions like loan syndication, asset-backed securities or bonds. In loan syndication, a group of lenders is put together to provide the credit you need. This requires identifying, structuring, documenting and distributing loan syndications. Asset-backed securities use your assets to obtain debt, equity or hybrid capital financing. This requires expert structuring, execution, placement and administration of securitization transactions. Issuing bonds is also a matter for professionals. Your banker, financial advisor and attorney should help you if you are considering these options.

The U.S. Small Business Administration (SBA) does not make direct loans, but it guarantees repayment when a borrower and lender meet certain guidelines. If your company qualifies, the SBA can connect you with a network of lenders that may be able to help.

Equity

Many business owners turn to friends and family members for funds. While they may be enthusiastic about your venture, don’t forget that disagreements may arise in the future. Venture capital (VC) groups and angel individual investors often help high-growth-potential startup companies. (Check out the National Venture Capital Association and the Angel Capital Association to learn more.) If venture capital is the right option, the SBA’s Small Business Investment Company (SBIC) Program licenses qualified investment funds and supplements the capital they raise with access to low-cost, government-guaranteed debt. You may also find investors by networking with the chamber of commerce, trade associations, state and local economic development agencies and SBA Small Business Development Centers (SBDCs).

Some investors expect to give advice and receive reports. They may also want to control the amount of profit they receive or cap your salary. Consider whether partnerships, corporations or limited liability company structures are right for you. You need an equity purchase agreement and an investor rights agreement with each new owner to document such matters as rights, legal compliance, amount of investment and return on investment.

Above all, you must comply with federal and state securities laws. Consult both an attorney and a financial advisor before proceeding with any of these paths.

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