Revenue-Based Financing by Adam Hayes

TL;DR - Definition and explanation of revenue-based financing

Helpfulness - 4

Tags - revenue-based financing, royalty-based financing, financing, startups

Questions answered:

  • What is revenue-based financing?
  • How does revenue-based financing work?
  • How is revenue-based financing different from debt financing and equity financing?
  • What types of companies use revenue-based financing?

Summary:

  • Revenue-based financing (also known as royalty-based financing) is a method of raising capital for a business from investors who receive a percentage of the business’s future ongoing gross revenues until a predetermined amount (typically a multiple of the principal investment - usually between 3 to 5 times) has been paid.
  • Revenue-based financing is often considered as a hybrid between debt financing and equity financing.
    • Unlike debt financing, interest is not paid on an outstanding balance and there are no fixed payments.
      • Payments to investors vary based on the level of the business’s income.
    • Unlike equity financing, investors do not have direct ownership in the business.
  • Revenue-based financing is most often used by small to mid-sized companies who otherwise cannot obtain more traditional forms of capital.
  • The transaction costs for revenue-based financing can be considerably more than those for a conventional loan since investors become something of a business partner.
  • Many VCs are getting more creative with revenue-based financing methods for businesses in the Software-as-a-Service (SaaS) industry.

Follow up links: