Funding & Corporate Finance Lawyer for Startups

Do you really need a solicitor for financing your business? Our honest guide: Part 2 Article

16 mins read

Updated on 23 January 2024

Partner - Corporate

As your business evolves, securing the right financing becomes paramount. While setting up your company might seem straightforward, the complexities multiply significantly when you begin seeking investment. Understanding the various funding options and their implications is crucial for sustainable growth.

This article is for business owners, founders, and entrepreneurs looking to finance their ventures. You'll explore the fundamental differences between debt funding and equity financing, delve into a range of available options, from bootstrapping and personal savings to crowdfunding, angel investment, and venture capital, and understand the associated legal and tax considerations. We'll also highlight when and why seeking expert legal advice for each funding model is essential to protect your business.

Navigating the fundraising landscape can be complex, and ensuring your business is legally sound throughout the process is key. For comprehensive guidance tailored to your specific funding needs, our team of funding round lawyers are ready to assist you.

In this advice piece, you'll find out about the options and requirements for financing your business: The key differences between debt funding and equity financing There are two fundamental ways of securing financing for your business: debt and equity. Generally speaking, you will nearly always need a business solicitor for equity financing, but not always for debt funding. Although we would always advise that you seek legal advice before entering into any debt funding documents in order to ensure that you are fully informed on the risks involved and obligations on the company.

Debt funding Debt funding is when your business borrows money from a lender, which will then have to be repaid, usually with interest.

The advantages of debt funding are that:

• The business owner retains control and interest in the company, and so profits more from any future sale or profits of the company, without equity shareholders laying claim to it.
• The business owner also has control over how the debt funding is spent within the business. That said some debt funding is advanced for a specific purpose and the documents must be checked that there is no restriction on the use of the funds advanced.
• It's quick and relatively easy to get debt funding compared to equity funding.
• The debt repayments are usually a known amount over a fixed term, allowing budget planning, and may also be tax deductible.

The disadvantages are:

• The debt must obviously be repaid and relies on sufficient cashflow to do so.
• In addition, debt may restrict a company's financial activities, increase its risk portfolio in the eyes of other lenders or investors, and may require company assets to be pledged as security for the loan.

Equity funding Equity funding is when you sell an interest (usually shares) in your business. The company's value must be known, which is much more complex with start-ups, as there are often challenges in agreeing a valuation of the shares given that the company may not have anything tangible or a proven track record, other than a business concept.

The advantages of equity financing are that:

• There are no monthly loan repayments to be made from your cashflow, freeing up profits to be used elsewhere.
• For early-stage businesses, equity investment typically comes in much larger amounts than that available via debt financing.
• With equity funding, it's more of a relationship than a simple transaction, so your business could benefit from mentoring, experience and business contacts, rather than just the cash.

The disadvantages are that:

• It takes more effort and time to raise capital than debt financing.
• You'll also be sharing ownership (and potentially decision making and thus control) with equity investors.
• There is a greater administrative and reporting burden with equity finance to provide regular updates to investors, hold shareholders meetings and voting on certain company actions.

The options available for funding and financing your business Let's start with the simplest and most straightforward sources for financing a business, progressing onto more complex business finance sources.

• Bootstrapping - organic growth
  This can be difficult unless your business is a type which receives payment before it buys stock to fulfil orders, or deliver any goods or services. Quite simply, you start your business, and the profit you make on the first payment you receive can then be put straight back into the business for the next transaction. It's slow going, but there is little to no risk and you won't be paying anyone back for it.
• Your savings
  Of course, the simplest way to finance your new business is to put your personal savings into it. But you may still need supplementary funding if your savings aren't enough and your savings are not necessarily protected against any losses that may arise as a result of the failure of your business. As with organic growth, it may be a harder and slower route, but it doesn't involve debt or issuing equity in your business.
• Family
  If you have generous family, or even friends, willing to finance your new business, then this can be a great option. Money from family can take the form of either debt or equity financing. The interest on any such loan will likely be lower, and the terms less demanding, than a traditional source of funding such as a bank loan. Or, if you have set up a limited company, such family and friends may be willing to invest in your business in exchange for shares in your company, rather than provide funds by way of a loan. As with any investment, any investor should be made aware of the risk associated with the investment.
• Personal credit: overdrafts and credit cards
  It's risky, but it can be done - and has been done by many an entrepreneur. Using your overdraft or credit card is ok if you need a reasonably small amount of money for a short period of time. Of course, it's not a good idea if you think you will be late with payments or may miss them: the interest is high as a medium to long term borrowing option and missing payments can affect your personal credit rating.
• Crowdfunding or crowdsourcing
  Crowdfunding platforms have become very popular in the UK and there is now a broad range of platforms on which to raise funding, from simple donations to equity investment. Popular crowdfunding sites have included Crowdfunder, Crowdcube, Seedrs, Kickstarter, GoFundMe, and Just Giving. While social media can blow up any projects which capture the public's heart, be aware that sometimes crowdfunding can raise all or nothing - with up to 80% of businesses being withdrawn from a platform after failing to raise their target amount. Further crowdfunding platforms will have an investment criteria that will need to be satisfied before the investment proceeds and can include detailed reporting requirements.
• Grants and community schemes
  Often administered by local authorities, and sometimes region or industry specific, grants can give a useful financial bonus to businesses with a social or community benefit. They often come with access to business advisors and mentors, helping to foster regional economic growth with rounded support rather than just the cash. The selection process is rigorous though, as it is often 'giving away' public money as grants rather than loans to be paid back. Technically it is neither debt nor equity financing and can require some matched investment in order for the grant to be released.
• Bank financing
  The most conventional way of financing your new business, a bank loan can be a simple way of getting together the money you need to get started and begin your first phases of growth. You're not giving away shares in your business, but you are taking on debt, against which either your personal or business assets may be secured, and you may be required to provide a personal guarantee. However, the terms and payments will be clear from the outset, allowing you to budget and plan consistently.
• Peer lending
  Peer to peer lending (P2P lending) is a form of debt financing. It uses the internet to match up borrowers with people or organisations who have money to lend - some of the most well known platforms are FundingCircle, Zopa, Money & Co., and RateSetter. The benefit for the lender is the high interest rate (often better than traditional savings options), but with the risk of losing their money, if it isn't paid back by the borrower. As a funding option for businesses, peer lending is useful if you don't have access to traditional sources of funding - but the interest repayments could be higher.
• Joint ventures
  Incredibly popular in property development, finding a joint venture partner can be a useful way to raise finance if one party already has the cash. It'll usually be a form of equity finance, with a partner putting up the money in exchange for shares in the new joint business. You both get to maintain your existing business entities while you agree to work together for a certain project or period of time - and leverage each party's skills or assets to get the joint business off the ground and achieve growth. As with other funding options that pair your business with an investment partner, it can take time and effort to source the right joint venture partner with capital, and draw up the most beneficial type of agreement.
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