At Choco Up, we provide revenue-based financing (RBF) for businesses. But we don’t only talk about what’s good about it. We want to be transparent about its limitations too.
If you’re exploring funding options for your company, you’re in the right place.
In this article, you’ll find the pros and cons of revenue-based financing, as well as considerations to help you decide whether RBF is right for you. Let’s begin!
In the world today, there are many sources of business funding. Bank lenders, venture capital (VC), angel investors, you name it.
The major advantage of revenue-based financing lies in how it eliminates the disadvantages of other financing options. Here is how.
Collateral is a common requirement in business loans.
You’ll be asked to provide tangible assets, such as cars, equipment or property to secure a loan. If you default on the loan, the pledged assets will be sold by the creditor to recoup its loss.
Yet, many new-age businesses adopt a digital-first, asset-light business model. This poses difficulties when lenders ask for assets to collateralize a loan.
Revenue-based financing removes a major obstacle to financing as it does not require any collateral.
You can also be assured that your assets won’t be sold by the financier in case your business has trouble with repayment.
In this day and age, opportunities come and go like shooting stars. Trends move quickly, too.
Agility is therefore a key to business success. You don’t want to be the first to identify an opportunity, but the last to act on it due to financial constraints.
To this end, revenue-based financing is a source of quick capital.
While loans take weeks or months to approve, RBF funding could be available in days. Choco Up, for example, gives you access to funding in as soon as 48 hours.
This is because we adopt a data-driven approach in funding businesses.
On Choco Up’s proprietary data integration platform, you can quickly and securely connect your sales and marketing systems, such as Stripe, Google Analytics or WooCommerce.
Upon making that connection, our fintech platform will work its magic and return with a preliminary offer for you.
Click here to try it out yourself! It’s free and takes only a few minutes.
When it comes to business financing, flexibility is like air — you don’t feel its importance until you really need it.
Take term loans, for example.
Loans come with repayment obligations that must be fulfilled. There are fixed dates by which you must repay certain amounts of money. They restrict your spending in other areas of your business. The same burden follows through the high and low seasons alike.
Now think about it — how will you repay a loan when you don’t have much revenue during the slow months? The lack of flexibility in debt arrangements could kill your company.
Repayment of RBF funding, on the other hand, is tailored to your revenue cycle.
RBF platforms share a fixed percentage of your monthly revenue. Your monthly repayment increases as your revenue climbs, and decreases as your revenue drops.
There is ample flexibility by allowing you to repay less during the low seasons. You will only pay back what you can afford, so that you don’t have to worry about keeping up with repayments ever again.
Venture capital firms get 60% of their return on investment from 6% of the companies they invest in, Benedict Evans from a16z told us.
Digging into the 6%, it was found that all those deals generated >10X return.
It means that for every dollar invested in your company, investors could leave with $10, sometimes even more.
Multiply that number by a million or so, the cost of venture capital would be exorbitantly high.
You could be getting $1M funding today, but the value of your investors’ share of equity would rise to $10M in the future, so that you are effectively paying $9M for the venture funding.
This would not happen with revenue-based financing.
Instead of getting ownership stakes in your company, RBF platforms take only a flat fee for providing funding to you (e.g. 8% of the funding amount).
The cost of capital is only a small percentage of, not a multiple of your funding. And the fee certainly does not go up as your company scales.
This way, you will not only know the entire cost of capital upfront, but can also be assured that getting early-stage growth capital does not become a sting in the tail.
Along with ownership stakes in your company, equity investors like to take some control over your business too. A typical example is an investor sitting on your board of directors.
The situation is akin to driving a cab with a talkative passenger in the backseat. You are the car driver, but the passenger certainly has a say in the route you take (i.e. how you run your business).
Revenue-based financing is one way to avoid this situation.
RBF platforms don’t get control of your company in any form. There will be no one in the backseat to dictate or question your decisions. This is one of the reasons why many founders choose to work with RBF platforms.
Revenue-based financing is a flexible, inexpensive and non-dilutive financing solution. That being said, it has some limitations.
In this section, we discuss the disadvantages of revenue-based financing to give you a complete picture of it.
To begin, your company must be generating revenue in order to use revenue-based financing. In other words, RBF funding is not available for pre-revenue businesses.
In fact, most revenue-based financing companies have minimum monthly recurring revenue (MRR) and operating history requirements.
For instance, Choco Up only funds businesses that have operated for at least 6 months with an MRR of more than US$10K.
While angel investors and venture capital firms may invest millions of dollars in pre-revenue companies, the size of RBF funding is limited by your company’s revenue.
Generally, you’ll be able to get 3X to 4X of your company’s MRR in one tranche of RBF funding.
But many RBF platforms are happy to offer recurring funding for your business. You can always talk to your funding partner to see what they can offer.
At Choco Up, we are more than happy to provide recurring funding to client companies. In fact, 90% of them receive more than one tranche of funding from Choco Up.
RBF funding is repaid through revenue-sharing. You’ll share a small percentage of your revenue with the RBF platform until the agreed-upon amount is paid back.
It means that RBF funding needs to be repaid in money. It’s not like angel investments and venture capital, where investors get equity from your company instead.
Choosing the right financing solution for your business could be confusing and overwhelming.
We hear you, and so we have drawn up the profiles of companies that would really benefit from revenue-based financing.
As you have to repay RBF funding through revenue-sharing, it is crucial that your business has stable recurring revenue (even better if you have high gross margins).
Predictability of revenue is also important so that the RBF platform can accurately assess and forecast your company’s financial performance. This is to your benefit as it enables your funding partner to offer repayment terms that work well with your business’s revenue cycle.
Oftentimes, you need to spend money in order to make money. To give a few examples, inventory, ad spend and staff are cost items which could bring new money into your business.
If growth capital is what you need, revenue-based financing is a great option to supercharge your company’s growth trajectory. Here are the reasons why.
One of the biggest myths around revenue-based financing is this. Is it compatible with equity financing?
The short answer is yes. Going a little deeper on the topic, we would say that revenue-based financing is suitable for both pre-VC and post-VC companies.
For companies that are yet to raise venture capital funds, revenue-based financing could help scale your business and increase the valuation of your company. You’ll be able to do so while preserving equity for future fundraising rounds.
Revenue-based financing also suits post-VC companies. For instance, it could be used to extend your cash runway prior to the next funding round.
The concept of revenue-based financing isn’t exactly new. It is widely adopted in the West, and has gained significant traction in Asia in recent years.
We hope this article has cleared up some concepts about revenue-based financing, especially the pros and cons, and how to determine whether it is right for your business.
About Choco Up
Founded in 2018, Choco Up is the leading revenue-based financing platform in Asia Pacific, offering non-dilutive growth capital to fast-growing companies.
Currently covering more than 10 markets and 10 sectors, Choco Up has helped hundreds of businesses capture growth while protecting equity upside.
Click here to apply for RBF funding!