Revenue Based Financing: The Ultimate Guide
Revenue-based financing is like a loan, but different. When using RBF, investors commit to providing a firm with capital in exchange for a predetermined share of the company’s ongoing gross revenues. It functions similarly to debt financing in that investors are repaid every month. When calculating repayments, a multiple is applied that ensures investors will receive a higher return than the amount they initially invested. For revenue-based funding, the company does not need to offer any collateral. In essence, its revenue is collateral.
How does revenue-based financing work?
The process of Revenue Based Financing can be broken down into three simple steps:
Register with an RBF supplier
To begin, you will need to join up with a supplier of revenue-based financing and connect the financial accounts associated with your company. This allows the supplier to review your company’s financial history and determine whether you are eligible.
You will be granted permission for an advance if the amount of money you anticipate earning in the future is sufficient. In most cases, you will be presented with various offerings with varying periods for payback.
Pick an offer
The service provider will charge a one-time, flat fee and agree to a percentage of the monthly revenue for their services. Take a look at the following example to get an idea of what it means:
● The total amount of funding: 20,000 pounds
● Revenue-share: per cent 10
● The estimated length of time needed to repay: one month
In this example, Company X receives a £20,000 loan on the condition that they repay 10% of their monthly profits until the loan is repaid. While revenue-based financing does not include traditional interest payments, financing businesses may charge a flat fee to be reimbursed over a certain period.
In the first month, company X earns a profit of £50,000, allowing it to repay £5,000 of the loan. In month two, they earn a profit of £85,000 and pay back £8,500; however, in month three, they earn a profit of £30,000 and pay back only £3,000.
Thus, it is evident that the company’s profits determine the loan period. If your profits decline, so does the amount of your debt. This is the most flexible aspect of revenue-based financing and a fairly cool method of conducting a company.
Pay back the advance.
The monthly payment amount is determined by a percentage of the revenue, which is subject to change regularly. When a corporation borrows more money, it can pay back the loan in a shorter amount of time.
In the meantime, slow months will slow down your payments, ensuring you never pay back more than you can afford.
Why use revenue-based financing instead of debt financing?
Debt funding methods (such as loans) necessitate the repayment of a specified sum plus interest over a predetermined period. In contrast to revenue-based financing, the monthly repayments are a fixed amount that must be paid in full. The amount is determined in advance.
When applying for loans, new businesses are frequently expected to offer a personal guarantee in case they cannot fulfil the terms of the loan. There are more types of debt models, such as venture debt, that have more complicated terms for repayment and procedures if payment is missed. If your turnover isn’t consistent or you’re selling in a market that’s seeing a lot of volatility, debt financing might be a handy way to acquire a substantial cash injection. On the other hand, it can also be a high risk for your business.
As a result of the fact that revenue-based financing does not call for a personal guarantee, multiple years’ worth of financial statements, or a significant amount of lead time, it is becoming an increasingly popular option for owners of businesses.
How much revenue-based financing can you secure?
The amount of money you can borrow will be determined by how much you regularly have. A company’s annual recurring revenue (ARR), or four to seven times its monthly recurring revenue (MRR), is usually the upper limit for a loan (MRR).
Repayment fees range from 6 to 12 per cent of sales, depending on whether you plan to use the funds in predictable revenue-generating activities like advertising or higher-risk operations like hiring.
The types of revenue-based finance
There are two primary varieties of agreements that are used for revenue-based financing:
Compared to the variable collection approach, funding through flat fees seems quite different. By accepting this funding, you are agreeing to pay a predetermined proportion of your future monthly revenues for up to five years, with the typical rate ranging from 1-3 per cent.
Although the monthly repayments are often far lower than those in the variable collection model, making it a reasonable option for some early-stage enterprises, you will wind up paying significantly more over the loan if you build and grow your business quickly.
The variable collection model is the most common form of the revenue-based funding structure. A percentage of a company’s monthly gross profits is deducted to pay back the loan it took out for a specified amount.
Revenue-based finance has a non-dilutive nature, allowing founders and directors to retain full control. This can relieve pressure on the overall operation while flexibly harnessing positive performance. Since revenue-based financing works on a profit-related model, loan repayments can be flexible about this. No pressure if you have a bad month or two; your loan repayment amount is on the same scale. This factor is especially useful for businesses with seasonal performance.