If you are a business owner, the one thing on top of your wishlist would be the plan to grow and expand your business. Growth isn’t just an aspiration; it is a necessity. A business’s growth positively impacts the workforce’s motivation and improves the organization’s stand in the market. However, the truth is that even if a business is booming, entrepreneurs often lack the necessary capital to expand their business further. If you’re looking for funding options to grow your business, this blog post is for you.
What Is Growth Capital?
Imagine this: You run a business with a promising clientele and are seeing sizable profits year-on-year (YoY). You now want to expand by doubling the size of your business. To do this, your team has decided to open a new branch in a different city. However, in the current economic climate, you cannot afford to expand without external help. In such situations, growth capital is the solution. Growth capital, as the name suggests, is the capital that is raised to help with the growth and expansion activities of a business. These could include:
- Producing new products
- Opening a new branch
- Expanding to a new geography
- Acquiring a new firm
- Purchasing new equipment, etc
To determine if you need growth capital, assess your current situation:
- Do you have a sure shot idea for expansion, but not enough resources?
- Do you want to acquire another company to expand your business?
If your answer to the above was a resounding “Yes!” then growth capital (also known as expansion capital) is an option you can explore.
How Does Growth Capital Work?
Growth capital can typically be categorized into two ways: Debt financing and Equity financing.
Debt financing: Debt financing is the form of financing where an organization borrows money from a lender and pays it back in regular installments with interest over a specified period of time. For example, if a business decides to apply for an expansion loan from a traditional bank, it would be debt financing. The business would then have to repay the loan every month. The one benefit of going for debt financing is that businesses do not have to dilute their equity. However, not many businesses choose debt financing as the monthly repayment can affect their cash flow.
Equity financing: Equity financing is the type of financing where businesses get capital from lenders in exchange for a part of their equity. These lenders could be friends and family, private equity firms, or even the public. The biggest drawback of equity financing is that with the equity being diluted, business owners will be forced to relinquish some of their profits and control over the company. Equity financing is preferred over debt financing by businesses as they get a lump sum in hand to work with without having to pay on a monthly basis.
Growth Capital Story: Early Salary
FinTech consumer lender EarlySalary raised $110 million in a Series D funding round recently. EarlySalary provides accessible financial lending solutions to working professionals and also offers buy now pay later (BNPL) services. The fresh capital is planned to be used for business expansion over the next 24 months. The startup currently operates in over 150 cities with approximately 1 million customers.
Growth Capital Vs. Venture Capital
When it comes to growth capital and venture capital, here’s what differentiates them:
- Growth Capital focuses on investing in mature companies, while venture capitalists focus on early-stage companies with high growth potential and limited historical financials.
- Venture capitalists invest in multiple startups, while growth capital investors invest in a market leader within an industry.
- When it comes to venture capital, future capital requirements are generally undefined. However, in the case of growth capital investors, they target companies with no or minimum future capital requirements.
Growth Capital Vs. Controlled Buyouts
When it comes to growth capital and controlled buyouts, here’s what differentiates them:
- Growth capital is typically invested to foster growth and reap benefits via dividends or stocks. In the case of controlled buyouts, the investors acquire ownership by buying a controlling interest in the organization.
- Controlled buyout investors invest in those companies that have free cash flow. Growth capital investments are made in companies with limited or no free cash flow.
- In controlled buyouts, debt financing is often employed to leverage the investment. However, in the case of growth capital investments, companies have minimum funded debt.
Advantages And Disadvantages Of Growth Capital
Like all types of funding, growth capital financing also has its advantages and disadvantages.
First, you get enough capital to expand your business. However, this can come at the cost of your authority in the company, depending on the lender you choose. While there are multiple sources for getting growth capital, they are mostly hard to find and convince. Additionally, the processing charges for growth capital can be hefty, depending on the lender.
Should You Take Growth Capital For Your Business? What is the best alternative?
Let’s face it: What works for one might not work for someone else. Hence, we recommend asking yourself a few questions to determine if growth capital is right for your business. These include:
- Is your business a high-growth, scalable business?
- Do you have predictable revenue streams?
- How much capital do you require?
- How much interest are you able to afford?
- When do you need the funds?
- When can you pay it back?
- Are you willing to give up shares in your business?
If your answer to a majority of the above questions is negative or unclear, we recommend going for revenue-based financing. Revenue-based funding is growing in popularity as the fastest and most flexible way to raise growth financing. This founder-friendly approach lets founders raise funds without diluting equity or providing collateral, and the repayments happen as a percentage of monthly revenue. You can learn more about revenue-based financing in our ultimate guide to revenue-based funding.
FAQs On Growth Capital
- What stage is growth capital?
Growth capital is ideally available to relatively mature companies that are at the scale-up stage and looking to expand further.
- What are the most common growth capital funding options?
If you’re looking to pursue either debt or equity growth financing, these are some solutions that you’re likely to come across: Revenue based financing, Invoice financing, Term loans, Merchant cash advance, Line of credit, equipment financing, etc.
- What are the eligibility criteria for getting growth capital?
Some of the factors that are considered by lenders are growth potential and scalability, residual value, business plan, gross margins, diverse customer base, etc.