What is revenue-based funding?

Revenue-based funding, also known as revenue-based financing (RBF), is a form of financing where a business receives capital from an investor in exchange for a percentage of its future revenue until a predetermined amount is repaid, along with a multiple of the investment. It is different from equity-based funding, where investors receive the company's equity in exchange for their investment.

Are you confused about how they work? So, if you want to know more, this article on revenue-based funding is for you.

How does revenue based funding work?

Let us look at the different steps involved in revenue-based funding:

Investment: The investor provides capital to the business in exchange for a share of its future revenue.

Repayment: The business regularly repays the investor a predetermined percentage of its revenue. The percentage is agreed upon beforehand and is usually based on the business's projected revenue. Please note that it is debt from taking debt, though the model appears similar. The repayment amount is not fixed and varies based on the company's topline.

Cap and Multiple: There is often a cap on the total amount the investor can receive, ensuring that the repayment doesn't exceed a certain threshold. Additionally, there might be a multiple set. It tells how much the investor will receive over and above the initial investment once the cap is reached.

Term: The duration varies but is typical until the investor receives the predetermined multiple of their investment or until a certain time frame has passed.

Exit: Unlike traditional equity financing, revenue-based funding doesn't usually involve giving up ownership or control of the business. Once the agreed-upon amount is repaid, the arrangement typically ends. After that, the business retains full ownership.

Examples of startups raising revenue-based funding

Above, we have covered the theory part of the funding, which may not give you a clear picture. Let us take an example and make you understand RBF.

Let us understand a company, BR Technology, that wants to raise funds via revenue-based funding to scale its operation and expand its customer base. They have steady monthly revenue from their software subscriptions, so this form of funding works for them. Let us say BR Technology secures revenue-based funding from an investor who offers Rs 1,00,000 with the following terms:

• Repayment Percentage: BR Technology agrees to repay 5% of its monthly revenue to the investor.
• Cap: The total amount to be repaid is capped at 3x the initial investment.
• Term: The agreement is for 36 months.

Now let us see how this plays out over three years:

Year 1: BR Technology generates Rs 1,00,000 in monthly revenue, so they repay the investor 5%. It is Rs 5,000. Over the year, they repay a total of Rs 60,000.

Year 2: BR Solutions continues to grow. Their monthly revenue increases to Rs 3,00,000. They repay the investor 5%, which is Rs 15,000 per month. Over the year, they repay a total of Rs 1,80,000.

Year 3: The company sees even more growth, with monthly revenue reaching Rs 4,00,000. They repay the investor 5%, which is Rs 20,000 per month. However, because they are close to reaching the cap, their repayments are adjusted so that they repay a total of Rs 60,000 over the year.

So, in this scenario, the investor has received a return of 3 times their initial investment over the three years, while BR Technology has been able to access the capital it needed for growth without giving up equity or collateral.

Benefits of revenue-based funding

You can easily understand the benefits of revenue-based funding. Let us look at some of them both for investors and business:

• Flexible Repayment: Repayments are based on a percentage of revenue, making them more manageable during periods of fluctuating cash flow. Unlike fixed monthly payments associated with traditional loans, repayments adjust with the business's performance.
• No Equity Dilution: Unlike equity financing, revenue-based funding does not require giving up ownership or control of the business. Founders maintain full ownership and decision-making authority.
• Aligns Incentives: Since investors receive a portion of the revenue, their interests are aligned with the business's success. Investors benefit from the business's growth, encouraging them to provide support and guidance to maximize revenue.
• Fast and accessible funding: Revenue-based funding process is relatively shorter compared to traditional loans, which involve lengthy application processes. This speed is crucial for businesses in need of immediate capital to overcome financial challenges or seize growth opportunities.
• Less Risk for Startups: Since repayments are based on revenue, businesses can run the business without the burden of fixed debt obligations during lean periods. It reduces the risk of default and bankruptcy, which allows startups to focus on growth without the pressure of debt repayment.
• Scalability: As the business grows and generates more revenue, the amount repaid to investors increases accordingly. It makes revenue-based funding suitable for businesses with high growth potential.
• Shorter Timeframe: Unlike equity financing, which may involve a long-term partnership with investors, revenue-based funding typically has a defined repayment period. Once the agreed-upon amount is repaid, the arrangement ends. It gives the business more flexibility in the long run. 

How can businesses raise revenue-based funding?

Revenue-based funding is becoming popular in India. One of the easiest ways to raise funding via this option is to look at different platforms like GetVantage, Velocity, and Klub. These platforms primarily focus on this funding form.

Difference between revenue-based and equity-based funding

For better understanding, before we end our discussion, let us compare revenue based with equity funding:

Before you go

Overall, revenue-based funding offers a balanced approach to financing, providing capital to businesses while minimizing the drawbacks associated with debt or equity financing. It's a valuable option for businesses seeking capital to fuel growth without sacrificing ownership or taking on excessive debt.