This blog was last updated on January 2, 2021.
Slow cash flow is no stranger to most businesses, as the busy season comes and goes and your finances fluctuate. Taking advantage of business capital sources can help alleviate some of the stress. Venture capital and business loans are two common funding sources, but how do you decide which type is right for your business? Here’s a close look at the benefits and disadvantages of venture capital vs. business loans to help you decide:
Venture capital can be a great option for many businesses. This financing option is typically geared toward businesses with an unpredictable cash flow and not much brand presence yet. In other words, it’s commonly used by brand-new businesses that are still in the opportunity stage.
However, suppose you have an established business, and you’re looking to fund day-to-day expenses such as purchase orders, equipment purchases, and staff payroll. In that case, venture capital lending might not be the best solution for you. Venture capitalists typically look to fund startups that have the potential for long-term growth.
Advantages of Venture Capital
You don’t technically have debt with a venture capital loan.
With a venture capital funding source, you’re not expected to repay the funds you receive. Instead, you give equity to your venture capitalist partner, so it’s essentially a trade or a transaction that’s settled upon receiving the funds and assigning equity.
An existing business presence is not needed.
In fact, venture capitalists look for businesses that are still in the planning stages or otherwise still early in their brand history. Since venture capitalists end up with a share in the company, it’s often important for them to feel they can have a say in the decision-making process. This type of financing is ideal for businesses with less than two years of business history, and the younger, the better.
You gain business expertise from your venture capitalist partner.
Many venture capitalists consider themselves business people and may have experience in the industry they’re looking to fund. As your company’s partner, your venture capitalist becomes a valuable source of expertise and advice as your company grows.
Disadvantages of Venture Capital
You’ll likely need a high business valuation.
Venture capitalists want a positive return on their investment, even if it’s not in the form of traditional loan repayment. You need to prove a high company valuation in the early stages of your business, which can be a real challenge when you haven’t gotten off the ground yet.
In general, early equity investors look for a gross internal return rate of about 30%, meaning you need to prove that your company’s likely to succeed enough to make that return happen.
A venture capitalist will typically take some portion of equity.
When partnering with a venture capitalist, you typically sign away some equity to your company in exchange for the venture partner’s investment. For startups, venture capitalists sometimes take nearly 50% ownership.
If you become a minority stakeholder in your own business, that means that you don’t have as much freedom to exchange equity for capital later in your business’ history.
Some venture capitalists can be more selective than others.
Venture capitalists tend to be selective, often making a small number of deals per year. In some industries, the market is even more challenging because venture capitalists typically seek business opportunities that will likely yield a higher return on their investment, such as large technology companies or healthcare-related businesses. That means you need to have an extremely solid pitch, and even then, you can’t count on getting a deal.
Business loan alternatives can be a suitable funding option for businesses that already have a presence established. Like any funding, it’s situational depending on your financial needs. Still, business loans often have more flexibility than venture capital, so they’re more likely to be a useful choice for your business.
Advantages of Business Loans
You have more loan options to choose from.
With a traditional or alternative business loan, you can often find options where you aren’t limited to a single type of loan. Working capital loans and business lines of credit are two common sources of business funding.
There’s more flexibility for how you choose to use the loan.
With many business loan options, you can spend the funds on any business-related expense with no limitations. Whether you need to order products, pay vendors, get ahead on payroll, increase your marketing budget–it’s all the same to the lender.
You can retain your business equity.
With a business loan, the lender expects interest as repayment, which means you aren’t giving up valuable equity in your company. When you’re an established company already and may have given up some equity in the past, it’s important to keep a majority stake.
Disadvantages of Business Loans
You may be subject to a credit check.
Many large, traditional banks require a credit check and may have rigorous credit standards, requiring a high personal or business credit score before they’ll agree to lending.
Your business’ track record will be considered.
For some business loans through larger, traditional banks, you may need to have an established track record which could include several years of successful operation. This can make it hard to get a loan if you’re a new business but don’t have the high valuation needed for venture capital.
These more stringent requirements may often be found with large, traditional banks, so you may want to consider some alternative funding options as well. Non-traditional business loans such as working capital loans and business lines of credit from private lenders can oftentimes offer more flexibility on terms and rates, allowing for more manageable payments, and with no collateral needed. There are typically also higher approval rates for young businesses or businesses with imperfect credit.
For many growing businesses, a non-traditional business loan can be a great option. Venture capital financing companies can be a good opportunity if the stars align, but be sure you weigh the costs and benefits of this option. With the right research about business loans, you can find a funding source that works for you.
At Mulligan Funding, your success is our success. A dedicated loan advisor will guide you through every step of our seamless application (with no cost or obligation). And, we don’t depend on an algorithm to determine your business’ worth – our team of in-house underwriters reviews each business application thoroughly1. If you would like to see what your business may qualify for, call us at 855-326-3564. We look forward to partnering with you and your business!
The information shared is intended to be used for informational purposes only and you should independently research and verify.
Note: Prior to January 23, 2020, Mulligan Funding operated solely as a direct lender, originating all of its own loans and Merchant Cash Advance contracts. From that date onwards, the majority of funding offered by Mulligan Funding will be by Loans originated by FinWise Bank, a Utah-chartered Bank, pursuant to a Loan Program conducted jointly by Mulligan Funding and FinWise Bank.