Written by Assel Beglinova. photo by Lidia Vijga
Over the past decade, revenue-based financing has gained popularity among startups and e-commerce businesses, primarily because it offers a more flexible alternative to traditional debt and equity financing. Revenue-based financing is especially attractive to companies with strong revenue growth and high gross margins, as these businesses can quickly repay the investment and avoid long-term debt.
If you’re running an e-commerce business or provide software as a service and want to expand and grow faster without giving up equity, revenue-based financing (RBF) may be the answer you’re looking for. This comprehensive guide will walk you through the ins and outs of RBF, show you how to qualify for this type of financing, and how to make the most of this capital.
What is revenue-based financing (RBF)?
Revenue-based financing is a funding method where lenders provide capital to a company in exchange for a percentage of its future revenues until a predetermined amount has been paid. This percentage, often called the “remittance rate” usually ranges from 3% to 20% of monthly revenues. Unlike more traditional forms of equity or debt financing, RBF allows companies to access funds without giving up ownership or incurring fixed repayment terms.
How revenue-based financing works
Currently, Paperstack serves e-commerce stores across the US and Canada as one of the Clearco alternatives. Below is a straightforward 3-step process that demonstrates how revenue-based financing operates.
Step 1. Qualify for RBF
In order to be eligible for revenue-based financing, your net monthly revenue for the last 12 months must be more than $25,000. Additionally, you must have a point-of-sale system like Shopify, WooCommerce, Amazon, or similar POS systems. Access to a bank account may also be required.
Your net monthly revenue is calculated by subtracting all discounts, returns, and charges from your gross sale revenue.
Step 2. Discuss the terms
It is advisable to have a conversation about the specifics of an offer, including remittance and fixed fee, before accepting it. A typical point of discussion is the balance between remittance and fixed fee, wherein an increase in the remittance rate often results in a decrease in the fixed fee, and vice versa.
To manage finances effectively, it is crucial to comprehend the impact of the remittance rate on the cash flow. This is because the rate is typically withdrawn from the merchant’s bank account daily.
For instance, if you agree to a 10% remittance rate, it implies that 10% of your daily net sales will be subtracted until the full amount is repaid.
Step 3. Repay the capital
Since the revenue-based financing option is not a fixed-term loan, it does not have a specific maturity date for the capital advance. However, it is typically expected that the capital will be paid back within 4-9 months. The revenue-based solution is an appealing option because repayments are based on your daily net sales, rather than requiring fixed weekly or monthly payments.
Current regulatory framework for revenue-based financiers
As the RBF market grows, regulators are paying closer attention to this funding method. Currently, RBF is subject to existing securities laws and lending regulations. However, individual enforcement actions and litigation could shape the future of RBF regulation. Both lenders and borrowers should stay informed about any regulatory changes that may impact their agreements.
Who can benefit from revenue-based financing?
When compared to equity financing, RBF allows business owners to retain ownership stake and control. But it might not be suitable for companies with low revenue growth or thin profit margins, as these businesses might struggle to have steady recurring revenue to repay the investment within the typical timeframe. Revenue-based financing is particularly well-suited for businesses with :
- Predictable revenue growth: Companies with predictable and strong revenue growth can benefit from RBF, as they can repay the investment faster and minimize the cost of capital.
- High gross margins: Since repayment is based on a percentage of revenues, businesses with high gross margins can repay the investment more quickly.
- Limited access to traditional financing: Startups, SaaS companies or eCommerce businesses without a strong credit history or sufficient collateral may find RBF an attractive alternative to traditional loans.
- High ROAS: Companies that consistently achieve high returns on their advertising spending are said to have high ROAS.
Advantages of revenue-based financing
Think of RBF as the brave knight who saves the day without asking for anything in return (except a bit of your future revenues, of course).
- No Equity Dilution: Unlike equity financing, RBF doesn’t require giving up ownership in your company.
- Flexible Repayments: Repayments are flexible, tied to your business’s revenue, making it easier to manage cash flow. So, if you’re having a slow month, you’ll pay back less.
- No Personal Guarantees: RBF doesn’t usually require personal guarantees, and you don’t need to put your personal assets on the line or offer up any collateral.
- Quick Access to Capital: RBF deals can often be closed within weeks, providing fast access to funding. Paperstack provides non-dilutive funding of $10,000 to $500,000. The whole process takes less than 48 hours.
How much revenue-based funding can you secure?
Merchants and small business owners can receive non-dilutive funding ranging from $10,000 to $500,000, depending on the lender. The maximum advance amount is typically equivalent to approximately 20% of the merchant’s net sales over the past year.
How to maximize your chances to qualify for revenue-based financing
To increase your chances of qualifying for RBF, it’s essential to have a few key criteria.
- Maintaining a consistently positive cash balance.
- Generating monthly sales over $25,000.
- Consistently grow your revenue YoY.
- Proven track record of previous repayment history with revenue-based capital providers or other lenders.
How to leverage revenue-based financing
Since Paperstack provides unrestricted capital, meaning that the funds get deposited to merchant accounts directly, we have seen our customers leverage funding in several ways.
Purchase of large volume of inventory
By placing a larger order, merchants often avoid supply chain issues and prepare ahead for the busy season. Additionally, this allows them to negotiate better pricing with suppliers and increase their margins.
Diversify revenue channels
Since merchants purchase a larger amount of inventory, they can now pursue and diversify their revenue channels by approaching retailers, or by selling through various B2B channels.
Fuel marketing budget
Merchants who experience a high return on ad spend (ROAS), can leverage additional capital to increase their advertising budget with channels such as Facebook, Instagram, Pinterest, Amazon, or others that have a proven track record of delivering predictable results.
Increase the quality of the product
When used strategically, revenue-based financing can be a powerful tool for merchants looking to improve their product offerings and take their business to the next level.
Launch a new product or limited editions
Revenue-based financing provides a flexible and cost-effective way of raising capital to finance new product launches or limited editions, and ultimately grow and innovate in the respective markets. Take, for instance, the case of Cinnamon and orange-scented candles for Christmas. Merchants can tap into the high demand for seasonal goods, without risking their working capital or taking on debt.
Improve packaging to achieve branding goals
Merchants can access the capital to redesign packaging that enhances the customer experience and creates a more cohesive brand image. With the help of revenue-based financing, merchants can invest in high-quality materials, innovative design elements, and other packaging enhancements to differentiate themselves in an increasingly crowded marketplace.
Why revenue-based financing is the best option for e-commerce businesses
E-commerce merchants are increasingly turning from angel investors and venture capitalists to revenue-based financing providers as a way of meeting their unique financial needs. This funding option is attractive due to its powerful emphasis on growth, flexibility, and the potential for success in this rapidly expanding industry. Here’s why so many e-commerce businesses have chosen this path for investing in the future of their ventures.
Full control and ownership
To reiterate, revenue-based financing is a non-dilutive capital option and it does not require borrowers to give up ownership of their company. You get capital injection you need without having to sell a part of your company to private equity investments. This means that e-commerce merchants can maintain full control over their businesses and make decisions without being influenced by external shareholders.
Revenue-based financing is advantageous for e-commerce businesses as they repay the capital based on a percentage of their revenue. This payment structure enables them to pay back the funds in accordance with their sales performance and growth rate, providing flexibility that is particularly useful for e-commerce businesses experiencing seasonal fluctuations in sales.
Revenue-based financing provides e-commerce businesses with the necessary funds to rapidly scale up and capitalize on new market opportunities. Merchants can allocate these funds toward marketing initiatives, inventory, technology investments, and overall business growth. This type of financing model is ideal for online sellers looking to increase their business reach and unlock their full potential for rapid growth.
Speed and simplicity
Unlike bank loans or venture capital, revenue-based financing offers a quicker and more straightforward application and approval process. This allows businesses to access the funds they need to support their growth and operations promptly, without the lengthy process of working with traditional lenders.
Alignment of interests
Because repayments are based on a percentage of revenue, RBF providers are incentivized to help their portfolio companies grow and succeed. This alignment of interests can lead to a more supportive and collaborative relationship between the financing provider and the e-commerce business.
”Paperstack has been a lifeline for us for the last year, we have been growing 15% month over month since we started and we’re really excited to grow with them together.”
Walid Abdul-Wahab, Founder of Desert Farms
In conclusion, revenue-based financing (RBF) stands out as a practical, flexible, and growth-focused financing option for e-commerce businesses. It allows startups and e-commerce companies to raise necessary capital without surrendering ownership or taking on rigid debt obligations. The repayment model, where a certain percentage of revenues is remitted, offers adaptability and aligns with the financial ebbs and flows inherent to many e-commerce operations.
E-commerce businesses should consider RBF as a potential lifeline to fund inventory purchases, diversify revenue channels, enhance marketing efforts, and improve product quality. Furthermore, the RBF application process is fast and straightforward, which lets companies seize growth opportunities promptly in today’s fast-paced commercial landscape.
About the Author
Assel Beglinova is a CEO and Co-founder at Paperstack, a platform that provides working capital for e-commerce sellers. With her expertise in revenue-based financing, Assel helps merchants achieve their growth goals and thrive in the competitive world of e-commerce.