As a business owner, the goals for your company include growth and expansion.
To meet those goals, you need to find a financing solution that is appropriate for you and your company. You can certainly go to a bank or lender and apply for a business loan or a line of credit, but if you want something more substantial and long-term, it may be time to think about the best capital funding solutions. To get started, consider the information in this article.
What Is Capital Funding?
Capital funding is the money provided to your business by lenders and shareholders. You can use the money to drive the growth of your business. These may include:
Capital funding comes in the forms of debt, equity, or venture capital, and the company then generates a return on the investment made by lenders and shareholders in the form of annual dividends, interest, and appreciation of company stock.
How Do Businesses Use Capital Funding?
Acquiring capital or assets requires generating money through capital funding programs. There are two ways that your business can do that:
- Stock issuance: There are two main ways that you can issue stock. You can make an initial public offering or issue shares in the capital market.
- Debt issuance: Issuing debt usually comes in the form of corporate bonds, which are essentially borrowing money from investors.
Stock and debt issuance are both complex processes that present positives and negatives. You have to find the right balance for your business in order to benefit from them. To start, let us take a further look into both.
What Is the Issuance of Stock?
Stock is an investment that presents a share of ownership in your company. Selling shares of ownership provides working capital financing for your company. Treasury stock, or treasury shares, refer to the shares that you purchase back from investors, thereby regaining ownership over that percentage of your company. Issued stock refers to the shares that you are able to sell to investors.
Types of Stock
Stock comes in two forms, which are common and preferred stock. The primary difference between the two is in voting rights. Shareholders with preferred stock do not have voting rights in the company, whereas, shareholders with common stock are allowed one vote for every share they own. Preferred and common stock differ in other ways as well:
- Preferred stock dividends are calculated by dividing the dollar amount of a dividend by the price of the stock. Common stock has variable dividends that are not set by a single calculation. They are determined by the board of directors. Some companies never even pay out dividends on common stock.
- The value of the preferred stock is also affected by interest rates. As rates rise, the value of preferred stock drops. As rates decline, the value rises. The value of shares of common stock is determined by market supply and demand and is unaffected by interest rates.
- You, as the issuer of stock, have the right to redeem shares of preferred stock after a predetermined period of time. The same is not true with common stock.
Discussion about stock most often refers to common stock. Preferred stock is outperformed by common stock most of the time, primarily because the common stock has greater potential for gains in the long term. If your company is doing well, you can pay dividends to both your preferred and common shareholders. If you cannot pay dividends to both, preferred stockholders take priority over common stockholders.
How Stock Is Issued
The board of your company must approve the issuance of stock. When stock is issued, the company is paid a set value for each share. There are also state and federal laws that govern the issuing of stock to ensure that both the company and the shareholder are protected. The company must be transparent in the transaction. This means providing investors with a clear view of the company’s standing and an explanation of the risks associated with purchasing the stock. You can also issue stock to your employees, which is often included in the onboarding benefits package.
What is the Issuance of Debt?
Issuing debt is the act of selling bonds. Debt issuance can help you grow your company, but it also comes with risks. Stocks are the selling of equity and bonds are the taking on of debt. It may sound less advantageous than issuing stock, but there are benefits to debt issuance:
- It positively affects your taxes because the interest on bonds is recorded as an expense.
- It does not affect your shareholder position. This is particularly important for smaller, private companies, who likely do not want to give up control of the business.
- Issuing stock carries more risks and is more costly because investors expect a return on shares of equity.
- The interest rates on bonds are typically lower than the interest rates on traditional bank loans.
- Investors like bonds because they are more predictable. A quality bond is a recognizably more stable investment, which is why most investors have a balance of stocks and bonds.
- The terms of a bond include fixed rates and longer periods than you would get through a bank.
The process is also significantly easier. Debt issuance requires you to draw up a single loan agreement that applies to every bond issued. You do not negotiate with each individual buyer. They simply read the agreement and decide whether or not they agree.
Deciding on capital funding solutions in the form of stock or debt issuance is a matter of preference and determining what works best for your company. If your business is privately owned, you may find it more beneficial to retain complete or at least majority ownership of the company. A larger corporation typically benefits from a balance of equity and debt issuing.