E-commerce Financing: What Should You Opt for Debt vs. Equity
Selling online seems to be a great opportunity for many small business owners. As per the statistics provided by the National Retail Federation the e-commerce retail sales were estimated to increase somewhere between 8% and 12% last year, this is actually 3x the actual growth rate of the overall retail industry.
What Should You Opt for Debt vs. Equity
Is Equity or Debt Fundraising: the Best Policy?
There are definitely many ways of funding your new e-commerce venture and boost its growth. For practically, all kinds of businesses, outside money or loan would be necessary for the long run. The two best options available to entrepreneurs are either fundraising for equity investors or leveraging business debt financing. Each method would be having its own merits and demerits. It is crucial for e-commerce entrepreneurs not to do something just because others are doing it.
You need to explore what is the best option for you at this particular phase of your business and tip the scales in your favor according to the https://www.forbes.com.
If you are running an e-commerce business, it is best to maximize your growth avenues so that you could capitalize on the present online retail boom. But the problem is you require cash for fueling all your expansion programs.
You need to have the perfect funding. Debt financing involves borrowing a fixed amount from a lender or institution such as a bank that amount is then repaid with interest. This could be the perfect solution for your business expansion dreams. Just like you go through debt consolidation reviews, you must browse the Internet to research e-commerce financing and loans.
What Could Your E-commerce Ventures Utilize a Loan For?
There are numerous scenarios when you could use a loan while running an e-commerce business. A loan could be of immense help to you if you are thinking in terms of taking your business to the next level. A business loan could be of great importance for:
- Purchasing inventory.
- Expanding the product line.
- Redesigning or revamping your website.
- Employing new staff.
- Supplementing your overall marketing budget.
- Covering operational expenses on a day-to-day basis.
- Shifting your e-commerce business to a physical store.
Several business owners are compelled to raise capital for expanding the business and to maintain steady growth. They are just not interested in selling. They love what they do or they firmly have faith in themselves and that they know that they could get remarkably more money by selling the business later.
Look for Outside Capital
We know well that companies are financed by either equity or debt. Each approach has its merits, of course, and both give you the capital to grow your business the way you want to. However, in the long run, both approaches have significantly different implications. If your e-commerce business has revenue of about $1mn, you could go for a 10% ownership equity interest for $100k, or take a loan of $100k at 10% interest. Both options give you the money soon enough, but the difference is more evident when you do the math. Provided your business makes a profit of $200k, if you had taken the loan, you would keep $190k in profits and cough up $10k as interest.
Equity, on the other hand, would demand not 10% of the amount handed to you, but 10% of your profits, which is $20k. In this scenario, debt is not only cheaper in the short term but also better because once you have paid it off, all the profits are yours to keep. Equity investments are permanent, meaning the investor will hold the 10% share of your company forever.
If Business Growth Is Not On Track
Unpredictable growth is pretty normal for startups in their early stages but is viewed unfavorably by lenders and financial institutions. They either deny you the funds you need or give you the money with completely unreasonable terms like very high-interest rates that would be a heavy drain on your already limited cash flow in the future. In these cases, equity investments are safer, because the investors know what they are signing up for.
If you do not break even the year after their investment, even then, you typically do not owe the investor any money. Debt is easier to procure and low-cost in the long run, but only if your revenue is predictable and you are able to secure attractive or at least reasonable terms for the loan. You must, however, keep risk in mind while looking for funds so that your decision does not harm your business in the long run.
One of the risks you must look into is the capital structure of your company. If your annual interest and principal payment combine to a number that is close to your annual profits, you probably should not be taking a loan. A high debt-to-equity ratio not only reduces the amount of money you can take home from the business, but also the amount you can put back into it to grow it to its full potential, to pay your employees, and also to fix things that are going wrong.
It will also make it very difficult to raise capital in the long run because investors will view the business as unsustainable if you run the risk of defaulting on loans.
This sort of risk is lower for equity investments because they have a more subjective view of debt-to-equity because the investors usually know the industry well and are able to gauge whether your ratio is reasonable and whether your company will make it big in the years to come. Their investment is not only based on how much money you will make for them, but also on a genuine interest in what you do. Over a period of time, you could lose your grip on the e-commerce business you had established for years.
Overall, equity financing usually entails lower financial risks though things could become dicey if as a business owner you are taking several rounds of financing.
We know that debt financing could be much riskier both on a short-term and a long-term basis if you need repeated refinancing over long-term in case your business’s profitability is actually unpredictable. Depending on the exact kind of loan you are opting for, or the precise amount of equity, a loan is available to you that necessitates signing a contract which could restrict your future options. From that perspective debt financing would be providing less flexibility as compared to equity.
An equity investor may be having similar stipulations but even though equity involves higher cost, actually it provides much more flexibility as compared to a loan. You must not relinquish your company’s controlling interest. Only then you could be in a strong position to chart a course for your e-commerce business in the near and distant future.
The actual decision to give up equity or take on debt for financing your organization is often attributed to several factors like the business cycle, the business owner’s lifestyle options, market trends, a desire for selling off the business, and macroeconomic influences.