What is revenue-based funding?

Revenue-based funding or revenue-based financing is a flexible financing option that allows businesses to secure capital based on their projected future revenue. Unlike traditional loans, revenue-based funding does not impose monthly payments. Instead, repayments are tied to a percentage of the company’s revenue. This method of financing is becoming increasingly popular among small business owners looking for alternative funding sources that align with their cash flow needs.

In this article, we’ll understand how revenue-based financing works in more detail.

How Does Revenue-Based Funding Work?

Let’s take a look at the general steps involved in revenue-based financing:

1. Application Submission: The process begins when a business submits an application for revenue-based funding. This application outlines the company's revenue history, current financial needs, and growth projections.
2. Assessment by Lenders: Lenders then assess this application, focusing on revenue performance and potential growth. They evaluate metrics such as monthly revenues and revenue trends to determine eligibility.
3. Determining the Funding Amount: Based on the assessment, the lender decides the funding amount, typically ranging from 10% to 20% of the business's average monthly revenue. For example, if a business generates INR 10,00,000 per month, it could qualify for funding between INR 1,00,000 to INR 2,00,000.
4. Setting Repayment Terms: The repayment terms are established, indicating that repayments will be a fixed percentage of the monthly revenue, generally between 3% to 10%. For instance, if the agreed repayment rate is 5%, the business will repay INR 50,000 when it earns INR 10,00,000.
5. Establishing a Cap on Total Repayment: A cap is placed on total repayments, often set at 1.5 to 3 times the funded amount. For example, if a business receives INR 2,00,000, the maximum repayment could range from INR 3,00,000 to INR 6,00,000.
6. Repayment Execution: As the business generates revenue, it makes repayments based on the agreed percentage. For instance, if a retail store with INR 5,00,000 in revenue-based financing sees its monthly revenue drop to INR 3,00,000, the payment would adjust from INR 25,000 to INR 15,000.
7. Conclusion of Agreement: Once the total repayment amount is reached, or after a specified term, the funding agreement concludes. The business retains full ownership and control, having met its capital needs without equity dilution.

Benefits of Revenue-Based Funding

Revenue-based funding offers several advantages that make it an appealing option for businesses seeking financial support. These include:

• No Equity Dilution: Revenue-based financing does not require equity dilution. Unlike traditional equity financing, which involves giving away a portion of ownership, RBF allows business owners to retain full control. This is particularly beneficial for entrepreneurs who wish to maintain their vision and decision-making power without external interference.
• Flexible Repayments: RBF aligns repayments with cash flow. Since repayments are based on a percentage of revenue, businesses can avoid financial strain during slower months. For instance, if a business experiences a dip in sales, the repayment amount decreases, allowing it to manage its finances more effectively.
• Quick Access to Capital: RBF typically has a faster approval process than traditional loans, allowing businesses to seize opportunities quickly. For example, a small business needing to invest in a new product line can secure funding rapidly without extensive delays.
• No Collateral Requirement: Many RBF providers do not require personal guarantees or collateral, making it accessible for newer businesses without substantial assets.
• Encourages Growth: Since repayments are tied to revenue, businesses are incentivised to grow their sales.
• Easy Accessibility: RBF is often accessible to a wider range of businesses, including those that may struggle to secure traditional loans due to a lack of collateral or credit history. This inclusivity can empower startups and small businesses to thrive.
• Aligned Interests: Investors in revenue-based financing receive a portion of the revenue, aligning their interests with the success of the business. This structure motivates investors to actively support the company’s growth, often providing valuable guidance and resources to help increase revenue.

How Can Businesses Raise Revenue-Based Funding?

Businesses can seek revenue-based funding through specialised lenders who focus on this financing model. These lenders evaluate the company’s revenue history and growth potential to determine eligibility and set the terms of the funding.

Difference Between Revenue-Based and Equity-Based Funding

Revenue-based funding and equity-based funding serve distinct purposes and have different implications for businesses.

With RBF, companies secure capital by pledging a percentage of future revenue, allowing repayments to adjust based on sales performance. This structure enables founders to maintain full ownership and control without diluting equity.

In contrast, equity-based funding involves selling shares of the company to investors, which can lead to significant ownership dilution. Investors typically expect a return on their investment through company growth and profits, which may include dividends or capital appreciation.

One key point in revenue-based financing vs equity financing is the repayment structure. The former requires repayments based on revenue, whereas the latter involves no repayment; returns are dependent on the company’s growth, sale, or IPO.

Investors in RBF share the business risk, as their returns are tied to revenue performance, making the likelihood of default lower. Conversely, equity investors assume the risk of business failure, which can adversely affect their returns.

Before You Go

If you want to maintain control over your operations, revenue-based funding can be an appealing alternative, especially for startups.

If you’re exploring funding options, consider a collateral-free business loan from SMFG India Credit. You can access substantial funds of up to INR 1 crore* without diluting company ownership. Apply online now to avail of competitive interest rates, subject to eligibility.