Revenue-Based Financing
What Is Revenue-Based Financing?
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 enterprise's continuous gross revenues in exchange for the money they invested.
In a revenue-based financing investment, investors receive a regular share of the businesses income until a foreordained amount has been paid. Typically, this foreordained amount is a various of the principal investment and usually ranges between three to five times the original amount invested.
How Revenue-Based Financing Works
Although an enterprise that raises capital through revenue-based financing will be required to make regular payments to pay down an investor's principal, it is distinct from debt financing for a number of reasons. Interest isn't paid on an outstanding balance, and there are no fixed payments.
Payments to an investor have a directly proportional relationship to how well the firm is doing. This is because payments vary based on the level of the business' income. Assuming sales fall off in one month, an investor will see their royalty payment diminished. Moreover, assuming the sales in the next month increase, payments to the investor for that month will also increase.
Revenue-based financing also contrasts from equity financing as the investor doesn't have direct ownership in the business. To this end revenue-based financing is many times considered as a hybrid between debt financing and equity financing.
Here and there, revenue-based financing is similar to accounts receivables-based financing, a type of asset-financing arrangement in which a company utilizes its receivables — outstanding solicitations or money owed by clients — to receive financing. The company receives an amount that is equal to a diminished value of the receivables pledged. The receivables' age largely impacts the amount of financing the company receives.
Revenue-Based Financing and Revenue Bonds
Although separate forms of financing and different in their technical details, revenue-based financing is similar to the cash flow structures common to revenue bonds. Instead of utilizing general obligation (GO) bonds, many municipal projects will issue revenue bonds to finance specific projects, like infrastructure. An expressway would be a genuine example. These projects retire debt obligations with secured income generated by the project or asset. Thus the name revenue bond.
Revenue-based financing is most frequently utilized by small to fair sized businesses who in any case cannot obtain more traditional forms of capital. Because the wellsprings of revenue-based financing become something of a business partner, the transaction costs can be considerably in excess of a conventional loan. Increasingly, many venture capitalists are getting more creative with revenue-based financing methods for businesses in the Software-as-a-Service (SaaS) space.
Features
- A portion of revenues will be paid to investors at a pre-established percentage until a certain various of the original investment has been repaid.
- Revenue-based financing is usually viewed as distinct from both debt and equity-based funding.
- Municipal bonds are a hybrid example of revenue-based debt financing.
- Revenue-based financing is a way that firms can raise capital by pledging a percentage of future continuous revenues in exchange for money invested.
