Equity business finance is the process of raising capital via the sale of shares. Companies borrow money because they might have a short-term need to pay bills or have a long-term goal and need funds to invest in their business growth. Selling shares is a company effectively selling ownership in their company in return for cash.

Equity financing comes from several sources: An entrepreneur's friends and investors, family, or an IPO (initial public offering). An IPO is a method that private companies undergo to offer shares of their business to the public in a new stock issuance. Public share issuance provides a company to raise capital from public investors. Industry giants, like Google and Facebook, raised billions in capital via IPOs.

While the word equity financing refers to the financing of public businesses listed on an exchange, the term also applies to private business financing.

How does Equity Financing work?

Equity financing involves selling common equity and other equity or quasi-equity instruments like convertible preferred stock, preferred stock, and equity units that include ordinary shares and warrants.

A startup that grows into a strong company will have many rounds of equity financing as it evolves. Since a startup mainly attracts investors at various stages of its evolution, it may use different equity instruments for its financing needs.

For example, angel investors and venture capitalists—generally the first investors in a startup—favour convertible preferred shares instead of common equity in exchange for funding new companies because the former has a more significant downside and upside potential protection. Once the business has grown large enough to consider going public, it may consider selling common equity to retail investors and institutional.

Also, if the company needs additional capital, it may choose secondary equity financing options, like a rights offering of equity units that include warrants as a sweetener.

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