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One of the most common ways of funding your company is through debt financing. Debt should be handled carefully and knowing about the different types of debt will help you make more informed decisions when seeking out debt financing.
One of the most common ways we could fund
our company is through debt.
0:00
Debt financing is the most common way to
bring in extra cash by borrowing someone
0:04
else's money.
0:08
The key term here is borrowing.
0:10
We're promising to pay the lender back.
0:11
We're going to talk about equity financing
in a bit, and
0:14
as you will see with equity financing, you
don't have to pay back any of the money.
0:17
Free money.
0:21
So why would we ever borrow money then?
0:22
Well, debt financing is much easier to
secure than equity financing, and
0:26
much less complicated.
0:30
There are different types of debt out
there,
0:31
but on average the time it takes to obtain
debt financing is far shorter than equity.
0:34
One of the biggest advantages of debt
financing is that you're not
0:40
giving away ownership of the company.
0:43
Since you're paying the money back,
0:45
you don't have to give a portion of your
company away.
0:47
Because debt is easier to obtain than
equity, the cost of doing so
0:50
is much cheaper as well.
0:53
When raising equity funding, you're going
to have to pay lawyers to
0:55
prepare all your documentation for you,
and that can add up.
0:59
Finally, the cost of the money is easily
measurable with debt.
1:02
When you secure debt financing, the cost
of doing so
1:06
is the principle plus the interest that
you have to pay back.
1:09
With equity funding, you're giving away
control of the company to someone else.
1:12
The immediate effects of such actions
aren't measurable.
1:16
Will that come back to hurt you in the
future?
1:20
Who knows.
1:22
Still a debt isn't all good.
1:23
There's some negative aspects to obtaining
debt financing.
1:25
Let's see what they are.
1:29
First, you have to pay that money back.
1:30
That's a big one and the most obvious
hurdle.
1:33
You have an obligation to pay that money
back in a timely manner, so
1:35
you have to make sure that whatever you
pay your money on brings in extra revenue.
1:39
Having debt on your balance sheet isn't
attractive.
1:45
Investors don't like it because it means
you owe someone money, and
1:47
other lenders don't like it because if
they give you money, there is a lower
1:51
chance they'll get it back, because you're
already paying somebody else off.
1:54
If you are a small business, just starting
out with not a lot of revenue,
1:58
a lot of banks asset the founder
personally guaranteeing the debt,
2:02
and possibly pledge collateral.
2:06
Finally, you might have to provide
detailed accounting records as well as
2:08
quarterly or annual financial statements
to the lender in order to qualify.
2:12
At the end of the day, debt is not bad.
2:16
That extra cash might be all you need to
get to the next level of your business.
2:19
The key, as in your personal life, is to
handle debt with care and
2:23
never take on too much debt.
2:27
Now that you understand the good and bad,
let's take a look at different types of
2:29
debt financing we can obtain to grow our
business.
2:33
There are many sources of debt financing
out there.
2:36
Let's go over some of the more common ones
available to entrepreneurs.
2:39
The most common kind of debt financing
that pops into everyone's head,
2:42
is a bank loan.
2:46
To obtain a bank loan for
2:48
a new business, you'll need to show a
business plan or a loan proposal.
2:49
If you don't know how to write a business
plan,
2:53
check out the How to Write a Business Plan
course.
2:55
We basically take all the information we
learned in the discovery phase, and
2:58
convert it into a traditional business
plan.
3:02
In your business plan, the bank will want
to know the nature of the business,
3:05
the amount of money you want from them,
how you intend to spend this money and
3:09
most importantly, how you intend to pay
them back.
3:13
When attempting to get a bank loan, it
will help if you have a good
3:17
history with the bank you're obtaining the
loan from.
3:20
If they already know you're creditworthy,
3:23
securing the loan shouldn't pose a
problem.
3:25
It also helps if you have a history of
running a profitable business.
3:28
Financial statements, and projections can
help you greatly here.
3:32
The only snag is that when you start up a
business and don't really have a track
3:36
record to prove yourself, the bank will
probably ask you to guarantee the loan.
3:40
If this does occur, check if the bank will
agree to
3:45
remove the guarantee after a reasonable
amount of time.
3:48
Most banks also won't give you a loan
unless you have revenue history for
3:51
at least one year.
3:54
Now not all banks are made equal, so shop
around for good rates when you're looking.
3:56
Explore the different types of loans to
make sure you get something that fits your
4:01
needs as well.
4:05
Instead of getting an installment loan,
4:06
which is a large sum of money that you
would pay off,
4:08
you could get a line of credit that allows
you to draw funds when you need it.
4:10
Finally, it's also important to remember
that not all institutions are equal.
4:15
Large banks have a variety of products,
and
4:20
it might be easier to find something that
works for you.
4:22
But smaller community banks are more
willing to work with you and
4:25
customize their products to fit your
needs.
4:28
So, in summary, how to get a bank loan.
4:31
You start by putting together a business
plan or a loan proposal.
4:33
You prepare financial statements and
4:37
projections that clearly show your ability
to pay back the loan.
4:39
You present the information to the lender.
4:43
You can also reach out to your government
for money.
4:46
Across the world there are different
government agencies that
4:49
provide support to entrepreneurs either
through loans, grants or other benefits.
4:52
This really varies on your country and
4:57
even city, so make sure you look into what
options you have available to you.
4:58
While I can't go into detail about every
country, I've provided plenty of
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links below so you can check out what's
available in your area.
5:06
The third instrument of debt that most
people are familiar with is credit cards.
5:10
Quite a few entrepreneurs use credit cards
to finance their businesses when they
5:15
first start out.
5:19
Just be careful though, because credit
cards can be dangerous.
5:20
Treat the debt just as you would an
installment loan.
5:24
Make frequent payments and get rid of it
as soon as possible.
5:27
Do not accumulate that interest.
5:30
Like bank loans, not all credit cards are
the same, so shop around for
5:33
rates that you can afford.
5:36
More importantly, establish strict
guidelines for
5:38
yourself if you plan on using credit
cards, and
5:41
keep detailed financial records of all the
purchases you make.
5:44
A good rule of thumb is to never put a
non-revenue generating purchase on
5:48
a credit card if you can afford to.
5:52
So use it for long-term asset purchases
that will help generate revenue over time,
5:55
or for something that will help bring in
money quickly like inventory.
5:59
Now those are some of the more popular
types of debt instruments.
6:03
There are more out there, but
6:06
they're somewhat outside the mainstream
tools that you would use.
6:07
These things include home equity lines,
6:11
retirement funds, and life insurance
borrowing.
6:12
You can use those types of debt, but
they're far riskier.
6:15
You could lose the asset backing the debt
if your business can't pay that
6:18
money back.
6:22
Debt financing can give you the leverage
you need
6:23
to build your company into something much
bigger.
6:25
You can hire more people, grow faster and
achieve your goals quicker.
6:28
But debt can also be very dangerous, so
tread carefully and
6:32
be realistic about how much of it you can
take on.
6:36
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