Everything You Need to Know About Revenue-Based Financing

There are different ways you can obtain the capital you need for your business including debt financing, bank loans, and equity financing. The one that will be best for you will depend on your business model and revenue. If your business has consistent, monthly revenue streams, the best option for you will be revenue-based financing.

What Is Revenue-Based Financing?

Revenue-based financing, sometimes referred to as royalty-based financing, is a loan in which repayments are based on percentage of the borrower’s monthly revenue rather than a fixed amount. The payments depend on the financial performance of the borrower because they are not fixed each month, they go up when business revenue is strong and go down when its low.

Revenue-based loans start at around $50,000 and can go up to $3 million depending on the lender. Repayments are typically one to three times the amount that is borrowed which is agreed upon at signing.

How Revenue-Based Financing Works

Revenue-based financing is similar to equity financing because the capital that you receive comes from investors or a financing firm, like a venture capital firm, rather than a small business lender such as a bank. The difference is that investors that provide revenue-based financing do not have ownership in the business.

Revenue-based financing is also similar to debt financing because you are receiving an advance of capital that needs to be paid pack in a series of payments. The difference is that you do not pay interest on an outstanding balance or make fixed payments.

There are fewer regulations to revenue-based financing in comparison to traditional debt financing. Revenue-based financing does not require collateral or a personal guarantee.

Since the structure is flexible, payments are made until at least one of the following happens:

  • The lender receives a pre-determined multiple of the loan
  • The lender achieves a pre-determined internal rate of return
  • A terminal date is reached

Why Should You Consider Revenue-Based Financing?

If your business has high gross margins or is subscription-based or technology companies that have consistent revenue, revenue-based financing is best for you. Regardless of the industry you are in, it depends on your current situation.

The following are examples of the best fit for revenue-based financing:

  • Businesses with consistent revenue and sustainable model
  • Businesses who want to keep control of their business and do not want to give up equity stake
  • Businesses that do not qualify for a traditional working capital loan

Revenue-Based Financing Requirements

Just like with every loan, there are some requirements you need to understand so you can determine if you will be eligible for this type of funding. Each lender will have different requirements but typically will have the following:

  • An annual revenue of $200,000 or higher
  • Consistent revenue with high growth margins of at least 50%
  • Be profitable
  • Little or no existing debt obligations

Advantages of Revenue-Based Financing

There are several advantages to revenue-based financing such as:

  • Easy qualifications: other forms of financing have a list of requirements including your credit score, time in business and more. With revenue-based financing, all you need to qualify is your monthly revenue and potential growth.
  • Flexible repayments: there are no fixed payments for this loan. If your monthly revenue was high, your payment is high and if your revenue was low, your payment is low.
  • Fast funding: it can take just a few weeks to get the funding you need as opposed to traditional lenders that can take months to reach your account.
  • Large financing amounts: revenue-based financing offers a large sum of capital, up to $3 million or even more depending on the firm.

Disadvantages of Revenue-Based Financing

Although there are several advantages there are also drawbacks to this type of financing such as:

  • High cost of capital: the cost of capital is one of the highest in the industry which also means you will have longer terms and monthly payments, making it an expensive debt as interest accumulates.
  • No prepayment incentives: when you take on a large debt, other lenders give you prepayment incentives but not with revenue-based financing.
  • Must be able to repay: if your company is unable to repay the loan, it is best to not apply.

The Bottom Line

Revenue-based financing is appealing for startups, but you see that there are specific requirements you need in order to qualify for funding. Now that you have all the information you need you can determine whether this type of financing is going to be the best for your business.