After discussing crowdfunding, equity and debt financing throughout the month of February, let’s wrap up our Small Business Funding series with an examination of hybrid financing. Knowing your funding options is a must for all small business owners looking to cultivate and benefit from relationships with investors, and this mode of raising capital might very well help you to grow to your company.
What is Hybrid Financing?
As you may have guessed from the very nature of the term, hybrid financing is a combination of financing modes; namely equity and debt financing. Click here if you’d like a refresher on debt and equity financing or dive directly into our examination of some of the different modes of hybrid financing!
1) Convertible Debentures
To begin with, a regular debenture is a vehicle for debt financing. But unlike traditional loans, one is not lawfully bound to pay back the debt holder. In the case of debentures, debt is informally backed by the reputation and moral clout of the issuer. Likewise, convertible debentures are a form of loan from a company that is awarded to a holder. Unlike in the case of these regular debentures, convertible debenture holders have the unique ability to convert this form of a loan into stock… A debt-to-equity swap! Do note, however, that depending upon the given situation, the loan-issuing company may be able to convert the loan as well.
Convertible debentures may be a choice option for companies looking for a way to get capital to grow their business. As the company issuing convertible debentures is given the opportunity to borrow at a lower price (due to the convertibility aspect), this option holds notable appeal. Essentially, convertible debenture holders enjoy the benefit of regular payback and interest until they decide to switch to equity stocks in a suitable climate for this conversion. Both the holder and issuer can enjoy the perks of convertible debentures.
There is always the looming threat of dilution though, which is ‘the reduction of the participation percentage in a company following a share issuance in which a person did not participate in full’. See what Equidam‘s co-founder Daniel Faloppa has to say about Dilution here!
2) Warrants
A warrant gives the right to a purchaser to buy securities within a certain period at a given price from a company. The securities are usually equity in makeup, and are offered in a sort of package deal along with a new debt issuance. According to a finance-buff’s close friend Investopedia, warrants are there to sweeten the pot, and offer an additional good-faith incentive for future dealings.
3) Preference Shares/Preferred Stock
This option of hybrid financing has a more long-term orientation. Preferred stocks or preference shares are company stocks and dividends, paid out before common stock dividends. As the title alludes, in the event of bankruptcy, preferred stock holders also receive company assets before other common holders. Dividends accompanying preferred stocks are generally fixed; another differentiating characteristic.
There are four types of preferred stocks:
cumulative preferred, non-cumulative preferred, participating preferred and convertible. Check out a brief explanation of their differences!
We hope this examination of hybrid financing might be applied to your business! Are you partial to any other modes of hybrid financing? Do you have anything to add? Please comment below and share your thoughts with us here at Equidam!
Your business is generating enough revenue to sustain its own growth without additional outside funding. Investors have a chance to see how the management team has performed and whether the investment is worth it.