Revenue Based Finance Is On The Rise: Here’s Our Quick Guide

Revenue Based Finance (RBF) is an innovative funding solution that offers a flexible alternative to traditional debt. In addition, since it does not require any equity, it can also serve as a viable alternative to venture capital. In this article, we explore the concept of Revenue Based Finance, how it works, its benefits, and real-life examples. Whether you’re a business owner looking for financing or an investor seeking new vehicles, understanding RBF can be a game-changer.

What is Revenue Based Finance?

Revenue Based Finance is a type of funding where investors provide capital to a business. In exchange, investors receive a percentage of the company’s gross revenues. Investors collect for a fixed period of time, until a certain amount is recouped, no matter how long it takes. RBF is particularly attractive for businesses with strong revenue streams but who prefer not to dilute ownership or don’t qualify with a bank.

How Does Revenue Based Finance Work?

Revenue Based Finance (RBF) operates on a simple yet effective principle. Here’s a step-by-step breakdown of how it works:

1. Purchase & Sale Agreement: The parties agree on the amount of capital to be provided and the percentage of future revenues to be “purchased”. This agreement also includes the remittance amount, which is the percentage of future sales remitted to the investor. Despite debt-like features, it’s generally structured as a purchase & sale agreement of future revenues.
2. Funding Amount: The amount of funding, as a general rule of thumb, is anywhere from 5-15% of trailing twelve-month sales. Alternatively, some lenders advance 80% to 150% of average monthly sales. Often times, the two calculations generate similar funding amounts.
3. Fast Funding: Once the terms are set, the investor provides the agreed-upon capital upfront in a matter of days. This immediate infusion of cash can be used for various purposes such as scaling operations, marketing, product development, inventory purchases, or general working capital.
4. Revenue Sharing: The business then pays a fixed percentage of its gross revenues to the investor until the agreed-upon return is achieved. These payments are made on a regular basis, often monthly or quarterly, depending on the terms of the agreement.
5. Reconciliation Protections: In the event the business experiences a decline in sales, they have the option to “reconcile” their payment downward with the lender. So for example (see more below), if a business has a 50% decline in sales, they can reduce their payment to the investor by 50%.

Example Calculation

Consider a company that generated $5,000,000 in the last 12 months. They can secure an average of $500,000 in Revenue Based Finance (i.e. 10% of trailing 12 months), and in exchange pay 10% of its monthly gross revenues until the investor receives $600,000. Because the payment is adjustable with revenues (i.e a fixed % and not $), then the term of the deal is unknown. If the company’s monthly gross revenue is $500,000, the monthly payment to the investor would be:

Monthly Payment = $500,000 x .10 revenue share = $50,000.

And the estimated term, assuming no growth or decline in sales, would be 10 months.

If the company’s revenue increases to $600,000 in a subsequent month, the payment would adjust accordingly:

Monthly Payment = 600,000 x 0.10 = $30,000

This would shorten the term, because the payment goes up. While this is an added benefit to the investor, since they get their money back sooner, many investors providing this type of financing have built in a very important protection.

Important Protections for the Business

Many times, investors “fix” the payment at the initial amount. So if the business generates more revenue than anticipated, then the payment remains the same. However, if the business experiences a decline in sales, then the payment goes down accordingly. This is a major protection for the business which does not come with traditional debt, because payments under traditional debt remain fixed in the event of a slowdown in sales.

In the example above, let’s assume the monthly sales fell to $100,000. The business would remit only $10,000. Because the payment goes down, the variable term of the deal lengthens: it will take a lot longer for the investor to collect the agreed upon amount of future revenues if they’re collecting $20,000 less per month ($30,000 original amount minus $10,000 new amount of payment). This is a major protection for businesses.

Benefits of Revenue Based Finance

Revenue Based Finance offers several unique benefits that make it an attractive option for many businesses:

1. Flexibility: Payments are tied to revenue, so they fluctuate with the business’s performance. During high-revenue periods, the business pays more, and during low-revenue periods, the payments decrease. This flexibility can be crucial for managing cash flow.
2. No Equity Dilution: Unlike equity, RBF does not require giving up ownership. Business owners can retain full control over their company, which is important to maintain decision-making power.
3. Aligned Interests: Investors benefit when the company grows, aligning their interests with those of the business. This alignment can lead to more supportive and collaborative relationships between investors and entrepreneurs.
4. Quick Access to Capital: The RBF process is often faster than traditional bank loans or venture capital funding. This speed can be a significant advantage for businesses needing rapid capital to seize growth opportunities or address urgent needs.
5. Predictable Costs: Unlike variable interest rates on loans, RBF agreements typically have fixed terms, making it easier for businesses to predict and plan for their financial obligations. The fixed cost of the deal remains the same, it’s just the term in which it is repaid is variable.

Real-Life Examples of Revenue Based Finance

Revenue Based Finance has been successfully utilized by various types of businesses across different industries. Here are some notable examples:

1. SaaS Companies: Many Software as a Service (SaaS) businesses use RBF to scale operations without diluting ownership. For instance, a SaaS company might use RBF to invest in product development, customer acquisition, or expanding their sales team. By tying repayments to revenue, these companies can manage their cash flow more effectively during periods of growth.
2. E-commerce: Online retailers leverage RBF to fund inventory purchases and marketing campaigns. An e-commerce business experiencing rapid growth might use RBF to purchase large quantities of inventory to meet increased demand. Since repayments are based on revenue, the business can avoid the cash flow challenges that often accompany rapid scaling.
3. Subscription Services: Subscription-based businesses, such as meal delivery services or subscription box companies, use RBF to expand their customer base and improve services. These companies often have predictable revenue streams, making them ideal candidates for RBF. The capital provided can be used to enhance product offerings, improve logistics, or increase marketing efforts.
4. Healthcare Practices: Some healthcare providers, such as dental or veterinary practices, use RBF to invest in new equipment or expand their facilities. This allows them to grow their practice without taking on the rigid repayment schedules associated with traditional loans.

Key Considerations for Businesses

While Revenue Based Finance offers many benefits, it’s important for businesses to carefully consider a few key factors before pursuing this type of funding:

1. Revenue Predictability: Businesses with highly variable or seasonal revenues need to assess whether their cash flow can support the revenue-sharing payments during low-revenue periods.
2. Cost of Capital: RBF can be more expensive than traditional debt in terms of the total cost of capital. Businesses should calculate the effective cost and compare it with other financing options.
3. Investor Relations: Maintaining transparent and positive relationships with investors is crucial, as their returns are directly tied to the company’s performance. Clear communication and regular updates can help align expectations and foster trust.
4. Inability to Qualify Elsewhere. Many new businesses, especially in SaaS and technology, don’t have a long business credit history. Therefore they do not qualify with banks or other traditional routes. However, with predictable cash flow, businesses with zero credit history can qualify.
5. Non-Dilutive to Owner Equity. If a business is rapidly growing and wants to preserve equity, this is a major justification for leveraging RBF.

Conclusion

Revenue Based Finance is a powerful tool for businesses seeking flexible, non-dilutive funding options. By tying repayments to revenue, it offers a risk-aligned solution that benefits both the company and the investor. Whether you are looking to grow your business or diversify your investment portfolio, understanding RBF can open up new opportunities.

Contact us today to explore Revenue Based Finance, either as a business or an investor. This innovative funding model is reshaping the landscape of business finance, offering a win-win solution for both entrepreneurs and investors.