Simply put, revenue-based financing works much like other commercial loans except that it is based on revenue fluctuations, thereby making it easier for you to keep up with payments when things tend to be a little slower. So rather than have a preset payment schedule, the lender will base payment amounts on your company's monthly revenue. If one month is better than another, payments may be more, and vice versa.
Generally speaking, you can find revenue-based loans ranging from 50k to 3 million depending on the lender. And instead of having an interest rate accruing, you will be charged a fixed fee—this again ranges and can be 1 to up to 3 times the amount borrowed. You will agree upon terms at the beginning of the process, and each month, the lender will make a payment that is somewhere in the vicinity of 3-7 percent of your income.
Should You Explore A Revenue Based Loan?
Because these loans align with how successful and/or unsuccessful your business may be, your growth rate will determine how quickly you can pay it off. During great months, the payments will be larger, so be prepared for this. However, on the flip side, when things aren't going so well, you will pay less.
Traditionally, revenue-based loans work best for companies who have high gross margins or those with subscriptions based services who have a pretty good grip on their month to month. More especially some of the types of firms who might consider revenue-based financing, include:
Businesses Venture Capitalists May Overlook
If you are a fairly small business, a venture capitalist may simply overlook you. With revenue lending, however, they don't need to see huge revenues coming in, like what a venture capitalist favors. Instead, they're more concerned with a business model that is scalable and consistent with a growth pattern.
Business Owners Who Want Control
Even if your company garners the attention of a venture capitalist, you may not be willing to give up that much control. It's your vision, after all, this is your baby; having someone come in and try and negotiate things, just doesn't sit well with many entrepreneurs.
With a revenue-based loan, you are working strictly with a lending institution so you are not in any way shape or form giving up equity in your company.
Businesses Who Otherwise Can't Find Financing
For whatever reason, let's say low credit score, not enough years in business or no collateral, you have been turned down by traditional lenders. Looking for an alternative lender and a revenue financing model could be exactly what you need.
Some Benefits of Revenue-Based Financing
As with most things, there is a good and bad side to this type of funding. Some advantages are:
Qualifying is Easy - Again, you don't necessarily need a stellar credit score or a huge deposit down for this type of loan. Because it is based on your monthly revenue, the lenders are predominantly concerned with what you're currently bringing in and if your business is consistent as far as its growth patterns.
Flexibility - This is perhaps the greatest benefit, as when you are having a slower month and sales are down, you don't pay as much back as you will when sales are up. This gives you some definite breathing room during difficult times. And more money won't be leaving than is coming in.
Fast - Traditional loans can take forever; the paperwork, the meetings, the waiting. With this type of financing and by working with an online or alternative lender, you can make it happen within a couple of weeks, if not in some cases, a few days.
Disadvantages of Revenue-Based Financing
Higher Costs - Because of the circumstances involved, the set amount required by the lender is going to be higher. As mentioned, you could have to repay up to three times what was borrowed. This should certainly be a consideration in evaluating whether or not revenue-based financing is a viable option for your business.
Uncertain Repayment - As there is no set schedule, you're sort of in limbo as far as knowing when the loan will finally be paid back in full. If your business is doing well, this could be a short period; if not though, it could take a while.
Applying for a Revenue-Based Loan
Generally, you will need to work with alternative lenders versus more traditional banks and credit unions. It is important to do your homework first and proceed carefully.
The Right Lender - You can start looking online for lenders that do offer revenue-based financing. They shouldn't be hard to locate and from there it is a matter of studying the company and asking the right questions.
The Application - The great thing about the process is how streamlined it truly is. The online application is relatively simple to fill out. From there they will most likely ask to see things such as balance sheets, p&l statements, and tax returns. The lender will probably want access to your bank accounts to be able to determine what type of loan amount you can handle and what sort of repayment terms will be involved.
Show Your Potential - With these loans, lenders like to see a gross profit margin of fifty percent or more. Put together a business plan if you don't already have one in which you show a growth strategy and a plan for paying back the money.
How Will You Use Funding - The more details provided the better your chances of procuring the money. Explain how you'll use the funds; show them how it will enable you to grow even more, and utilize marketing and sales information to demonstrate where you might conceivably go from here.
Getting That Loan!
First off, as we mentioned, do your homework as far as lenders willing to offer this type of financing. Then, of course, start gathering all of the essential documents together so that they are ready to go.
If you're not sure about whether your company can handle this type of loan, then perhaps you should hold off until you feel comfortable with the firm's trajectory and overall growth. You do not want to put yourself in a hole by taking out a loan you're not prepared for.
Here at First Union, we offer many financing options. Call today to speak to one of our agents!