If you borrow
money by obtaining a loan, it is referred to as 'debt' capital. Another source
of finance for business is 'equity' capital. Although this is, in the strictest
sense of the word, not really borrowing, but exchanging rights to receive
certain financial benefits in exchange for providing capital.
Obtaining money
from a lender involves the necessity of repaying what has been borrowed, along
with an agreed amount of interest. So borrowing money in this way involves the
repayment of more than was borrowed. It costs you money to borrow money. You
must be sure that any money raised in this way can be used to produce enough of
an income which will be large enough to repay the principal, the interest and
give an overall, worthwhile profit in addition.
Equity money, on
the other hand is money that you can raise which does not need to be paid back.
It is essentially funding for which you pledge part of your companies assets in
exchange for.
The best way to
get equity capital is to go public. Form a public limited company and sell
shares to interested investors. Although you are technically 'selling'
something in return for this capital, you are not actually having to dispose of
any assets, so the money so obtained comes in without the need to give anything
up in return for it.
Of course you
must retain control of the company by ensuring that you keep ownership of at
least 51% of the shares issued. As the main owner you have the final say in how
the company is to be run.
So, when you
raise equity money, your company does not have to have made a sale of any
product. It can raise up to several millions of pounds operating capital
without having to dispose of either stock or assets. This capital can be used
for a multitude of purposes. You can use it to pay off debts, salaries, rent,
taxes, buy property and stock, pay for expenses and running costs and to launch
a new marketing campaign in your drive towards profitability.
Another method of
borrowing money which you can keep indefinitely is to take out loans to repay
existing loans. When the new loan needs to be repaid, take out a further loan
to repay it. This may sound somewhat strange as you will have to pay interest
on the money borrowed. However, if you need finance in the long term and can
use the money to produce enough profit to repay the interest but do not wish to
repay the capital, this is an excellent method of doing so.
What to do is to
apply for credit at twice the number of banks from which you would actually
accept loans. So, if you applied to a dozen banks for £5,000 from each one, and
accepted a loan from only half of them, you would raise £30,000. If you have
these loans for the short term, i.e. 60 days, you could then go to the
remaining six banks and accept the six £5,000 loans to pay off the original
ones. This process could be continued so that you are constantly paying back
loans with other loans.
This may seem
like an unsound way of financing business deals, but when you have access to
opportunities which produce sufficient profit to pay for the interest charges
and give you a good income also, it can be very useful in that you are not
burdened by the need to repay the principal sum borrowed. Or at least to not
repay it from your own pocket.
Although this
system can be employed to keep the borrowed money indefinitely, the idea is
that you should use it for investing in money-making deals which will tie up
the capital for the long term. After a prolonged period, and once you have made
sufficient profits, the business transactions in which you have taken part
should ultimately produce sufficient profits to repay the capital outright.
I have a friend
who borrows money using this method and buys property to furnish and let out to
tenants. The rental income is always sufficient to repay interest and leave him
with a good income. After a few years the property is usually resold to make a
capital gain, leaving him with funds to repay the capital borrowed with a tidy
sum left over as pure profit for future investment.
