Debt Financing vs Equity Financing: What's the difference?

When your business needs cash, you basically have 2 types of financing: debt financing or equity financing. They operate differently and have their own advantages and disadvantages.

Debt financing, means borrowing money usually from a bank or NBFC (Non-Banking finance company) and promising to pay it back over time (plus interest) - you are still the 100% owner of your business, but you now also have to make monthly payments no matter how your business is doing. If you don't pay the bank or NBFC for a period of time it is considered a default and this will most likely affect your credit score and put your assets on the line too if you have put anything up as collateral.

Equity financing means you sell a staged of ownership in your business to investors. They put in cash and receive shares in return. You do not have to pay back cash to them but you do share profits and decision making. Equity can allow you to raise more capital without the burden of monthly repayments, however you are giving up business ownership and control.

Here some quick comparisons:

Debt Financing:

• Full ownership remains in your name, you simply owe the lender money.
• You must make periodic payments to your lender, with interest.
• Interest paid on debt is tax deductible.
• Debt can be risky when cash flow is low.

Equity Financing:

• You have an ownership share with the investors, commensurate with the agreed investment.
• No repayment is required.
• You will share profits and possibly control with equity holders.
• Less risk if business struggles

Your choice ultimately depends on what you want for your business, how much risk you are willing to take, and the nature of your growth aspirations.