How to Evaluate a Financing Model for Your Business
It’s no secret that many businesses these days have financial difficulties. Operating in a highly competitive market is not an easy task no matter how great your business idea or its products and services may be. In order to grow and develop further, many businesses seek external financing that will help them raise capital for future endeavors.
A good example popular among startups and SMBs is Revenue-Based Financing where borrowed capital is paid back through a percentage of sales. However, there are many different financing models and not all of them are suitable for every situation.
That’s why it’s of the utmost importance for companies to evaluate each model accordingly so they can decide which approach is most suitable for their business goals and objectives. With that in mind, here are a few tips on how to evaluate a financing model for your business.
Comparing different types of financing models for your business
As mentioned before, there are plenty of different financing models for your business and you should evaluate each one the right way. Each option has its own advantages and disadvantages, so it’s important to compare them carefully before making a decision. Nowadays, businesses can choose financing option ranging from crowdsourcing to venture capital depending on the nature of their business and it’s current, as well as future performance.
As you may already know, each financing model is a type of loan. The only difference in financing models is how you pay that loan back. For example venture capital investments ask for your company shares in return for the financial support, while angel investments usually involve 25% ROI. Also, revenue-based financing comes down to paying back the loan through a percentage of sales made until the loan is paid back in full.
Therefore, each financing model gets you the capital you need for business growth or other endeavors but they all have different ways of collection on the capital they borrowed you. It’s up to you to decide which of the financing models is best suited for your business, as well as whether or not your company is eligible for a certain type of financing.
Evaluating the risk factors associated with different financing options
Every external financing option has its own risks involved, especially since large quantities of borrowed money is involved. That’s why you should always consider both short and long-term implications of each financing model you might opt for.
For example, a bank loan may have a lower interest rate in the short term but could become more expensive over time due to compounding interest. On the other hand, an equity investment may be more expensive upfront but could provide greater returns in the long run.
Furthermore, crowdsourcing sounds very appealing as you rely on your target audience to donate and finance your business endeavor. However, you have a specific deadline for which the funds need to be collected or the project shuts down for good and you’re left stranded. That being said, risk assessment is an essential aspect of evaluating different financing models for your business.
Identifying your business’s financial goals to guide your evaluation
Having a clear understanding of your financial goals is essential for evaluating a potential financing model for your company. Everything comes down to determining what you want to do with your business.
For example, if you wish to develop a new product or service feature, then a bank loan may be a more suitable option since such endeavors don’t require a lot of capital, to begin with. On the other hand, if you’re looking to expand to the international market and develop a bunch of new products or services, then you’d need much more capital than a bank could or would want to lend you.
In that case, you will have to consider alternative financing models. Therefore, make sure you have a detailed business plan for what you want to achieve in the foreseeable future. This will help you determine approximately how much capital you’ll need to achieve your business goals so that you can choose an appropriate financing model to make those goals a reality.
To evaluate a financing model for your business, you should consider the cost of capital, projected cash flows, tax implications and both short and long-term financial goals. This will help you choose the best possible financing model for your business.