Revenue-Based Financing: A Flexible Funding Solution.

Finding the right capital source for your business can be a challenge.

The debt financing of traditional loans can be a burden, particularly for businesses with variable revenues and equity financing can require the company to give up ownership and control.

Enter revenue-based financing (RBF), a flexible and innovative funding solution which is gaining in popularity with fast-growing businesses.

How does it work? Is it right for your company?

Let’s get started…

What is Revenue-Based Financing (RBF)?

Capital is given to businesses, in Revenue-Based Financing model, for an agreed percentage of future benefits.

Instead of repaying a fixed loan or sacrificing equity, businesses pay investors a small portion of their earnings each month or quarter until they reach a predetermined amount. This is typically a multiple the initial investment.

RBF is unique in that payments are directly linked to the performance of a business. As revenue grows, repayments also increase. Payments are smaller if revenue drops, which is a good option for businesses that have variable revenue.

How RBF Works?

This is a step by step breakdown of RBF:

1. Initial Investment

RBF providers (investors or specialized firms) offer capital to a business based on the company’s revenue potential.

This is common among companies that have a steady revenue stream, such as subscription-based businesses or ecommerce.

2. Revenue Sharing

The business will share a percentage of their revenue with the investor, usually between 2% to 10%. The repayment process continues until the investor receives the agreed-upon amount, which includes both the original investment and a multiple. (Usually between 1.2x to 3x).

For example, if a company receives $100,000 with a 1.5x multiple of repayment, then the total repayment over time will be $150,000. If the agreed-upon percentage of revenue is 5 percent, the company will pay the investor 5% of their monthly revenue until the $150,000 has been fully repaid.

3. Flexible Payments

RBF’s payments aren’t fixed, which is one of its most attractive features. If a company earns more money in a particular month, then the payment will be higher. Payments will also drop if revenues fall. This flexibility allows businesses to breathe during lean months.

4. End of Agreement

The financing agreement will be complete once the business has paid back the agreed upon multiple of its initial investment (e.g. $150,000 for a $100,000 investment). The business is in full control and ownership throughout the entire process. There are no further payments or obligations.

Why Choose Revenue-Based Financing?

RBF has several advantages for growing businesses compared to other traditional financing options.

1. No Equity Delution

RBF is different from venture capital and angel investment because it does not require you to give up ownership or control over your business. RBF allows you to retain full control over your business, which makes it a great option for entrepreneurs who want their company to grow without compromising their equity.

2. Flexible Repayment Structure

RBF aligns payments with revenue performance. You’ll be charged more if you have a good month. Your payments will decrease if you have a bad month. This flexibility can make it easier for businesses to manage their cash flow.

3. Faster Approval Process

RBF is faster than traditional loans. Traditional loans often require extensive documentation and a long approval process. Lenders are more focused on revenue trends, and this can speed up the approval process, especially for businesses with recurring revenue models.

Does RBF Work for Your Business?

Certain types of business are well-suited to revenue-based financing:

SaaS (Software-as-a-Service) companies: With recurring subscription revenue, SaaS companies are a natural fit for RBF.
Ecommerce Businesses: Businesses that have a consistent stream of online sales may benefit from RBF. They can use it to fund marketing or inventory, while receiving flexible payments based upon revenue.
Other businesses that have steady income: RBF can assist you in growing your business without having to pay fixed monthly or quarterly payments.

RBF is not the right option for all businesses. The repayment schedule could be longer than expected for companies with low or unpredictable revenue. This would make it more costly over time. RBF is less risky than equity, but the cost of capital may be higher due to the multiple.

The Pros and Cons of Revenue-Based Financing

Here’s a quick overview of RBF’s key benefits and disadvantages to help you decide whether it is right for your company:

Pros

No equity loss: You maintain full ownership and control over your business.
Flexible Payments: Payments are adjusted based on the revenue of your business, reducing financial stress during slow months.
Faster approval process: Easy to secure for business with stable revenue, compared to traditional loan.

Cons

Higher cost possible: The repayment multiplier (1.2x to three times) can make the loan more expensive, but the flexibility may justifies the cost.
Revenue Dependence: If you have a volatile revenue, it may take longer for the investment to be repaid, and if repayments are slow, they could result in higher financing costs.

Conclusion

Revenue-Based Financing is a flexible, founder-friendly method for companies to gain capital without having to give up ownership or take on fixed payments. It can be an effective tool to fuel growth for companies that have a steady or increasing revenue stream.

It’s important to know the repayment terms and cost structure before you commit. RBF is a great option if your business has the capacity to grow significantly and you require capital to move forward.

FAQs

1. What is the difference between revenue-based financing and a traditional loan or credit?

The repayment structure is what makes revenue-based financing (RBF) different from traditional loans. RBF repayments are based on a fixed percentage based on the company’s revenues, so the amount can vary depending on how the business performs. Payments will increase if revenue is high. If revenues drop, payments will decrease. While traditional loans have fixed repayments, regardless of the performance of your business, which can cause cash flow problems during slow periods. RBF does not require personal guarantees or collateral, as do some traditional loans.

What is the cost for revenue-based financing?

The repayment multiplier is usually agreed at the beginning. The multiple ranges between 1.2x and 3x the initial investment. If a company received $100,000 and a 1.5x multiplier, it would have to pay $150,000 total. RBF can be more costly than traditional loans, which often have lower rates of interest. However, the flexible payment structure could justify this higher cost.

Is it necessary to give up ownership and control in order to use revenue-based finance?

The answer is no, revenue-based financing does not require that business owners give up their equity. RBF does not involve equity or ownership, as with venture capital. The business retains complete control and ownership. Once the agreed-upon repayment is completed the financing relationship will end without any lingering owner obligations. RBF is therefore attractive for founders who are looking to retain control over their business, while also gaining growth capital.