Small Business Financial Article

Small businesses with ambitions of getting to the next level invariably need an infusion of capital to make it happen. For many, bank financing is the most ready and reliable source. But some small businesses don’t have an extensive enough credit history or sufficient collateral to qualify for a bank loan. The only option for many of these businesses is to seek capital through an investor or partner.

While investors and partners can be sources of substantial capital, they can also be a source of major headaches for business owners. Before going down that path, business owners should clearly understand the pros and cons of working with an investor or partner.

The Difference Between an Investor and Partner

Investors are individuals or entities who agree to invest capital in a business in exchange for a stake, future return, or both. Partners are individuals who can bring not only financial capital to the business but also intellectual capital. Partners take an active role in the business, while investors have an arm’s length relationship with the business.

Businesses that have an immediate need for a capital infusion to buy new equipment or facilities would benefit from a lump sum investment from an investor. The right partner can bring additional expertise and access to new markets in addition to capital.

Advantages and Disadvantages of an Investor

Wealthy individuals and private investment groups are increasingly looking at private investment in businesses as alternative investment opportunities. When seeking out investor capital, business owners should consider both the advantages and disadvantages in determining if it’s the right way to go.

Advantages of an Investor

• Business owners don’t have to relinquish control. Other than venture capitalists or private equity firms, investors aren’t necessarily looking to get involved in management decisions.
• Investment capital is not a loan. Outside capital from an investor is considered equity capital, not a loan that has to be repaid. Investors expect a return on investment realized through profits or the sale of the business to another private investor, or through an initial public offering.

Disadvantages of an Investor

• Some investors could seek control over or participation in management decisions. Some types of investors want a level of involvement commensurate with their stake in the business.
• Business owners will be under pressure to perform. Investing in private businesses comes with significant risks, so investors expect the business to perform at a high level.

Advantages and Disadvantages of a Partner

In some cases, a business needs an injection of new blood along with capital. That’s particularly true if the business wants to venture into new markets and needs additional expertise and guidance. Bringing on the right partner can add expertise and credibility to the business. However, choosing the right partner-one who shares the same vision and complements the skills and expertise of the business owner-is critical to the partnership’s success.

Advantages of a Partner

• Partners can share the responsibilities and burdens of management.
• Partners can increase access to capital.
• Partners can bring added capabilities and access to new markets.
• Lenders may look at the business more favorably.

Disadvantages of a Partner

• Failed partnerships are among the top reasons why businesses fail.
• The business and other partners can become liable for the debts and obligations of another partner.
• A partner can enter into legal agreements the other partner must legally uphold.
• Finding and choosing the right partner can be more difficult than selecting an investor because many factors must line up, including compatibility of work style, business philosophy, and vision.

Bottom Line

Growing businesses without access to bank financing can look to investors or partners for an infusion of capital. If you just need capital, seek out an investor. If you’re looking for additional expertise and capabilities to expand into new markets, a partner can also increase access to capital. Alternatively, you can build a relationship with a business banker who can work with you to become financially prepared to borrow. While you have to repay a loan, at least you will retain total control of your business.