Advantages and disadvantages of revenue-based financing

Nearly two-thirds of eCommerce founders wish they had better access to growth capital.

For growth focused businesses, revenue-based finance helps founders get the cash they need without the downside of other finance options, such as giving up equity to venture capitalists.

But while revenue-based finance (RBF) is a great option for some businesses, it’s not for everyone.

In this article, we provide an honest take on the advantages and disadvantages of revenue-based financing so you can decide whether or not it’s the best finance option for your business.

What is Revenue-Based Financing?

Revenue-based finance enables a business to get funding from a provider in exchange for a percentage of its future gross revenue.

Consider this scenario:

An eComm company needs funds to invest in inventory and marketing campaigns to take advantage of a seasonal boost in sales.

They approach a finance company (like Stenn), and after passing risk and compliance checks, agree to provide $100,000.

As a cost for the $100,000, Comm Ltd agrees to pay the original funding amount plus a $20,000 fee.

The payments will be made monthly at a rate of 10% of eComm Ltd’s gross revenue.

For example, the first three months of the agreement could be as follows:

• Month one: Revenue is $200,000 and payment of $20,000
• Month two: Revenue is $300,000 and payment of $30,000
• Month three: Revenue is $150,000 and payment of $15,000

Once the final payment has been made, eComm Ltd could then apply for further revenue-based finance, if needed.

Depending on your business type, there are many advantages to using revenue-based finance rather than venture capital or traditional bank finance.

Advantages of Revenue-Based Financing

Revenue-based financing can be appealing for many high growth businesses—particularly eCommerce and SaaS businesses—because it offers fast cash, without the drawbacks of other options.

1. Flexible payment terms based on revenue

Because revenue-based finance payments are based on a percentage of your gross revenue, your payments will fluctuate in line with that revenue.

As you’ve seen in the example above, when your revenue is up, your payments increase.

When your revenue dips, your payments go down.

This can be particularly beneficial for businesses with fluctuating, but consistent, revenue throughout the year (like eCommerce businesses that make more money during seasonal peaks, such as Christmas).

It can be a better option than traditional bank loans, which typically come with fixed payments regardless of your revenue.

“Revenue-based financing offers a unique advantage for startups and businesses with fluctuating revenue—its flexibility. I've seen tech startups in Silicon Valley, which I've consulted for, benefit from this model as it aligns repayments with their cash flow. This ensures that during lean periods, they aren't burdened with fixed debts, allowing for sustained operations and growth.”

- Nischay Rawal, Co Partner & CPA at NR Tax & Consulting

“One of the advantages of revenue-based financing in my experience as the owner of an eCommerce business, is that it allows for growth flexibility. Unlike traditional loans, payments fluctuate with our business revenue, providing financial breathing space during slower periods. For instance, during the initial phase of the pandemic when sales were unpredictable, our payments adjusted downward, which effectively cushioned the financial impact.”

- Forrest Webber, Founder at TheTableTrade.com

2. You don’t have to sacrifice equity

Venture capitalists are rife in the SaaS and high growth eCommerce space.

In the US alone it’s estimated around $170bn in venture capital is invested in the economy (which is half that invested in 2021).

But while venture capital can be a good idea, the main downside is you have to sacrifice equity in your company.

It’s estimated the average VC equity deal is around 20% in early funding rounds, although it can be much higher depending on the perceived risk of the investment.

With revenue-based finance you don’t dilute your equity because payments are linked to future revenue, rather than a piece of the business.

“An obvious advantage of RBF lies in its non-dilutive nature, allowing entrepreneurs to acquire needed capital without relinquishing equity. At LLC Attorney, we've facilitated this approach for clients desiring financial growth while retaining ownership.”

- Andrew Pierce, CEO at LLC Attorney

3. Faster finance to traditional bank loans

Speed kills for fast growth businesses and you can’t afford to wait around weeks or months to get the money you need.

Traditional bank finance requires detailed financial checks, which can extend the application process.

SBA loans for small businesses can, for example, take between 30-90 days to get the funds.

Revenue-based finance on the other hand is straightforward.

The finance company will likely want to review:

• Financial history
• Risk
• Compliance

But after that it only requires the borrowing business and lender to agree on:

• The funding amount
• The return on investment amount
• The % fee or discount fee

This means you can usually be funded within 24 hours of being approved.

4. Typically no fixed interest rates or collateral requirements

Fixed interest rates are a huge risk for businesses with unpredictable revenue as they can easily become an anchor during quieter periods when your payments remain the same.

The average business loan interest rate ranges between 6.42% and 12.41% depending on the bank (while online loans can have even higher interest rates).

And remember, this interest rate is applied to the amount of finance you take out and remains in place at a fixed rate until the loan is repaid.

All it would take is a few bad months for you to find the loan suddenly unaffordable.

Even if you can manage the payments, it’s potentially capital that could have been used in other areas of the business to boost growth.

Another option could potentially be banks asking for collateral as protection against you being unable to make repayments.

Revenue-based finance avoids these problems, because the payments are always a percentage of future revenue and fluctuate in line with your revenue.

Disadvantages of Revenue-Based Financing

There will never be a one size fits all option for business finance, and while there are plenty of advantages, there are also drawbacks to revenue-based financing.

1. Payments are growth based

Although revenue-based finance payments are linked to revenue, it does mean that if you grow quickly, your payments will grow too.

And it means you’ll be paying cash to your investor every month until the finance is repaid.

This can be similar to a bank loan (where you pay a percentage of your loan back each month to the bank).

But it’s potentially less appealing than venture capital if you’d rather give away equity instead of paying cash back monthly.

“A disadvantage of revenue-based financing is its potential high payments. If your company experiences high growth, the financing payments can become higher than traditional forms of debt. For example, as our revenue increased exponentially at Eyeglasses.com, it became evident that we could've had smaller repayments under a different financing structure.”

- Mark Agnew, Founder & CEO at Eyeglasses.com

2. It isn’t available for low revenue businesses

Depending on the amount of funding you need, revenue-based finance may not be enough to get what you need.

Revenue-based finance usually caps at around 1.5x your monthly at one time, so if you have low revenues, your finance amount will be low.

For example if you have MRR of $20,000 you’d usually be capped at $30,000 in one draw of revenue-based finance (although recurring funding can usually be obtained as each amount is paid off).

Compare this to venture capitalists who can offer millions at a time in return for equity and a bigger future payout, or banks, which may be able to offer higher amounts if you have enough collateral.

3. RBF can be difficult to access

Although revenue-based finance can be easier to get than a bank loan from a speed of application point, it can be more difficult to access as it’s typically only available for certain types of businesses (or businesses in certain phases of growth).

Pre-revenue businesses, for example, can’t access revenue-based finance, because they have no future revenue from which to calculate payments.

Many RBF providers also operate on minimum monthly payment terms, meaning you’ll need to apply for a particular level of finance in order to access it.

4. Payment terms can be unpredictable in length

Revenue-based finance payments are made every month until the full amount has been repaid.

But because payments are linked to revenue, and can rise or fall accordingly, it can make the terms of finance more unpredictable than bank loans (which typically come with fixed payment terms).

There is no set term with revenue-based finance, if you do well and grow, your payments will increase and the finance is paid off sooner. However if sales decline, you’ll repay less each month and terms could increase.

This creates the potential for cash flow pressure if you grow quicker than you expected and your payments go up.

Similarly, if your revenue goes down and your payment terms increase, it could put pressure on your finances for an extended period.

“An overlooked downside is the potential for revenue volatility to extend repayment periods unpredictably. I've observed businesses with variable earnings, end up with extended payback periods, which can impact long-term financial planning. Utilizing revenue-based financing requires strategic forecasting, ensuring that while you scale, you don't compromise future cash flow flexibility.”

- Russel Rosario, CFO & CPA at Profit Leap

Is Revenue-Based Financing Right for Your Business?

Revenue-based finance can be an attractive way of securing funding for ambitious, high growth businesses, providing it aligns with your goals and business model.

If you’re deciding whether revenue-based financing is a good option for you, here are a few things to consider:

Boost your growth with revenue-based finance

For high-growth businesses in need of short-term cash flow support, revenue-based finance can be the ideal product for funding their next business phase.

By removing the need for collateral or sacrificing equity, revenue-based finance allows business owners to retain complete control over their business while accessing much needed cash.

And with payments flexible and linked to revenue rather than fixed amounts over set periods, revenue-based finance removes the risk to your short-term balance sheet while providing the money you need to hit your goals and objectives.

If you want to know more about revenue-based finance and how it can help, read our in-depth guide to revenue-based finance.