Revenue Based Financing: Here’s What You Need to Know
August 10, 2022
You need capital to grow your business, but securing funding is notoriously difficult. With different financing options available, finding the best match for your business can seem like a daunting challenge.
Revenue-based financing is an option worth exploring. It’s a common way for businesses to secure funding, after it gained popularity over the last few years, and is particularly attractive for small to medium businesses. If you’re turning over good figures but need a cash injection to move up to the next level, revenue-based financing may be right for you. Read on to learn more about this funding option.
What is Revenue-Based Financing?
Revenue-based finance (RBF) is when a business receives capital from a lender and pays back an agreed percentage of sales until the loan is repaid in full. In other words, a business gets capital, which it repays in installments based on monthly profits.
This means that if your business has a better performing month than expected, your loan repayment will be higher that month. However, if your business performs badly the next month, the loan repayment will be lower.
For example, let’s say an eCommerce business needs $100,000 for supply chain costs. With revenue-based financing, the business owner gets $100,000 in funding, and agrees to pay back 5% of monthly revenue until the loan has been repaid.
If the business makes $20,000 in the first month, they are required to pay back 5% of their revenue, or $1,000. The following month, the business does particularly well, bringing in $30,000. They again must repay 5% of the loan, or $1,500. If the next month is not as profitable, with revenue totaling $10,000, the loan repayment will only be $500.
Each month, the eCommerce business makes a payment toward the loan based on how well the business has performed that month. This continues until the loan is paid off.
How Does Revenue-Based Financing Work?
Unlike other funding sources, revenue-based finance lenders don’t usually require a credit check, business plan, or sales pitch. RBF providers simply look at the financial history of your business. They decide on an amount of money they are comfortable lending you based on your past profits.
The lender may connect to your business platform in order to view your business’ performance and forecast future sales. This speeds up the funding process. RBF lenders can make a decision in a day or two, rather than keeping you waiting for months while they consider your pitch and business plan.
The entire funding process can be completed in as little as three steps.
Step 1: Connect with a revenue-based finance provider
Choose an RBF lender that offers conditions that work for your business. Then, sign-up and connect your financial accounts. This gives them the ability to check out your financial history and the current state of your business. The provider will use this information to make a funding decision. If you are eligible, the provider will likely give you a few different funding options to choose from.
Step 2: Accept a funding offer and receive capital
Select one of the offers from the RBF lender. Offers may vary in terms of funding amount as well as repayment schedule. It’s worth taking a bit of time to consider your offers. Make sure you get the funding you need and that the monthly repayment rate and terms are realistic and comfortable.
Step 3: Repay the loan
Pay back the agreed percentage of monthly revenue to your lender. If you make more money than expected, the repayment will be higher that month. If you have a particularly bad month, the loan repayment will be lower. The more good months you have, the more quickly you’ll be able to pay the loan back.
How Much Money Can You Secure With Revenue-Based Financing?
The amount of money each RBF lender is willing to offer varies depending on their terms and eligibility criteria. As a general rule, most revenue-based finance providers will provide up to a third of your business’ annual recurring revenue (ARR) or up to seven times your monthly recurring revenue (MRR).
Repayment percentages also vary from lender to lender. It’s usually sensible to expect to pay between 6% – 12% of your gross profits each month.
How Is Revenue-Based Finance Different From Other Funding Options?
In addition to revenue-based financing, there are two main funding options for your business: debt financing and equity financing.
Understanding the difference between these options will help you make the right funding decisions for you and your business.
Debt financing is when your business borrows money from a funder and agrees to pay it back with interest at a future date. Bank loans and credit cards are examples of debt financing. The amount you pay each month is fixed and does not change based on your business’ sales that month. No matter the current financial state of your business, the agreed repayments must be paid in full every month for the duration of the loan.
This type of financing can require collateral, or an asset that you offer as payment should you fail to repay the loan. Collateral can take the form of a cash account, personal real estate, or another expensive asset. This personal risk is too much of a commitment for some eCommerce sellers, so they turn to other forms of financing.
Revenue-based financing is different from debt financing because you don’t have to pay a set amount of money each month. Instead, you agree to pay a percentage of your gross profits until you pay back the entire sum. This flexibility can greatly benefit your business as you won’t have to struggle to pay back a large repayment fee during lower-performing months.
Collateral is also not required for revenue-based finance, either. The whole process is usually much faster, easier, and requires less personal commitment than debt financing. It can be a great way of getting growth funding for your business.
Equity financing is an attractive funding option for many business owners because it involves lower risk than debt financing. However, if you do choose equity financing, you will have to give up a percentage of business ownership to the lender. You get the money you need to grow your business in exchange for equity, or a share in the business. The lender then uses their share to make their money back in the long term.
For some business owners, this is a great arrangement. Others, however, prefer to keep full ownership of their business. After all, if business owners give away too much equity, they can even lose deciding authority of the business they created.
With revenue-based financing, on the other hand, you hold onto all equity in your business. You don’t have to give anything up – you simply pay back a percentage of your profits until your loan is paid back. You still have full ownership of your business and can continue to operate as you did before you received the funding.
Who Is A Good Fit For Revenue-Based Financing?
Many businesses can benefit from revenue-based finance, but it is best-suited to eCommerce businesses and those whose performance changes seasonally.
Revenue-based financing is great for eCommerce sellers because it gives them quick access to the capital they need to invest in supply chain expenses like inventory or marketing. When it comes to inventory, in particular, being able to stock up and quickly adapt your product range to keep up with demand can be the difference between success and failure.
Businesses that have seasonal performance changes can also greatly benefit from revenue-based finance. Their revenue fluctuates throughout the year, so it’s better for them to have the flexibility to make payments that reflect their profits. They can make larger repayments when sales are higher and lower repayments when profits fall.
For example, a business that sells outdoor furniture will have greater profits leading up to the summer months. In the winter, however, demand for outdoor furniture falls. With RBF, the business pays back more of the loan when sales are higher. When sales are lower, the loan repayments will be lower as well. The business won’t have to struggle to scrape together the cash for fixed repayments.
Seasonal businesses also may need a big increase in inventory right before their busy period. With revenue-based financing, the business can get access to the capital they need in a very short period of time. The business owner can use this money to purchase inventory for the busy time ahead.
If you own a business that needs funding but you don’t want to dilute your equity or put up personal guarantees, revenue-based financing might be right for you. You just need to prove that your business has the monthly revenue to make loan repayments.
Advantages Of Revenue-Based Financing
One of the biggest advantages of revenue-based finance is that the repayments are flexible and match the performance of your business. If your business has lower sales one month, your loan repayment will be lower. When you achieve high sales figures the next month, your loan repayment will increase, too. This can go a long way in reducing the stress business owners feel regarding monthly loan repayments. Since payments are always proportional to your sales for the month, it is a more affordable funding option for many.
Another advantage of revenue-based financing is that if your business suddenly grows rapidly, you can pay your loan back more quickly. Then, you can acquire more funding to grow your business even more. This type of funding adapts to your business performance and gives you a lot of flexibility when it comes to paying your loan back.
With revenue-based financing, you don’t have to dilute your equity to get your hands on some money, either. You still own 100% of your business and have full decision-making power with revenue-based funding. No equity is required, so the business remains yours and yours only.
No collateral or personal guarantees required
Less personal risk is involved too, as no collateral is needed to secure funding. Putting your house or other assets on the line to fund your business can be scary, and too risky for some business owners. Revenue-based financing takes the need for guarantees out of the equation. Instead, funding is purely based on the performance of your business.
Revenue-based financing is also fast. Sometimes, business owners need a cash injection fast to help them stay ahead of their competitors. With revenue-based financing, loans can be paid out within a day or two, which is much quicker than other financing options. Waiting months for a loan to come through can set your business back and make it difficult to continue operations. With minimal time needed to secure funds, revenue-based finance can get a business growing quickly.
Disadvantages Of Revenue-Based Financing
Established sales history required
One of the biggest disadvantages of revenue-based financing is that your business needs to clearly demonstrate its ability to generate revenue. If you’re in the process of starting a business, or if your business has an inconsistent financial history, you may find it challenging to secure the funds you need.
Less capital available
Another disadvantage of revenue-based financing is that most lenders limit the amount of money they lend based on your business’s monthly recurring revenue (MRR). If you’re running a small business with a relatively low MRR, you may not be able to borrow as much money as you might like. As your business grows and your MRR increases however, revenue-based finance could become a better option for you.
Short repayment period
Revenue-based financing may not be the best choice if you want to stretch your repayment period out to more than a year. This type of funding is best suited to short-term requirements where you need a quick cash injection for your business. RBF repayment periods tend to be relatively short. If you want to take out a loan and pay it back over a longer period of time, then other funding options might be a better fit.
ECommerce Funding That Works For You
Revenue-based financing is a great option for businesses with an established sales history that need a quick cash injection. The flexible repayment option makes them a great choice for eCommerce businesses that have variable sales each month.
If you’re looking for eCommerce funding, 8fig can help. Unlike revenue-based financing which injects a one-time sum of money into your business, 8fig offers continuous capital, infused into your business as you need it. It’s flexible, adaptable, and your remittance schedule is based on your real-time sales.
Sign up for your customized 8fig Growth Plan and learn more about 8fig’s unique eCommerce growth solution.
Rebecca is an eCommerce writer at 8fig. She strives to provide sellers with the information and support they need to succeed in the ever changing eCommerce space.