Business Loans

What is Revenue-Based Financing?

Nov 01, 2023 • 9 min read
Woman takes care of purchase order financing sheet.
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      New small business owners often need funding to meet their goals. However, they frequently struggle to qualify for debt and equity financing because of a bad credit score or a limited operating history.

      Revenue-based financing is an alternative method of raising capital that’s often more accessible. If you’re interested in the arrangement, here’s what you should know before you apply, including how it works and when it’s worth using.

      What is revenue-based financing?

      Revenue-based financing is another name for a business cash advance. Like a business loan, it provides a lump sum you can use to grow your company. You then repay the original amount plus a fee with daily or weekly bank account withdrawals based on a percentage of your monthly deposits.

      Revenue-based financing arrangements are relatively accessible and can provide funding quickly, but they’re also expensive. As a result, they’re usually best for business owners who can’t access traditional sources of capital.

      How does revenue-based financing work?

      Revenue-based financing arrangements serve a similar purpose to business loans, but their structure and terms are significantly different. Here’s how they work.

      Qualification requirements

      Revenue-based financing is much easier to access than traditional forms of business funding. You typically only need to meet minimal personal credit score, time-in-business, and monthly bank deposit requirements to qualify for an account.

      For example, Credibly’s business cash advance has the following eligibility criteria:

      • 550+ personal credit score
      • 6+ months in business
      • $20,000+ average monthly bank deposits

      Applying for revenue-based financing is also much faster than requesting other forms of funding. You can often complete your application in minutes, receive a response within a day, and have your funds in around 48 hours.

      Financing terms

      Terms vary between providers, but revenue-based financing can generate significant capital. Your proceeds primarily depend on your average monthly deposits. The more you earn, the more you can borrow. 

      For example, Kapitus offers advances between $10,000 and $750,000, and Backd may offer up to $2 million. Your actual amount is typically between three and six times your gross monthly revenue.

      Despite the high borrowing potential, revenue-based financing follows a much shorter repayment term than a small business loan. Most arrangements are between 3 and 18 months, though some can be as long as 36 months.

      Meanwhile, financing charges are usually higher than with traditional funding options. In addition, they’re presented as a factor rate rather than an interest rate, and you can expect them to range from around 1.2 to 1.5.

      In other words, if you borrow $100,000, you’ll usually repay between $120,000 and $150,000.

      Repayment process

      Another notable difference between revenue-based financing and a business loan is the repayment process. Instead of making fixed monthly principal and interest payments, you let your funder take a portion of your sales.

      Typically, they’ll withdraw a fixed percentage of your average monthly revenue directly from your bank account, either daily or weekly.

      For example, your business earns $30,000 monthly, and you take out a $100,000 business cash advance. Your funder takes 10% per month, which equals $3,000. Assuming each month has 20 business days, they withdraw $150 daily.

      When is revenue-based financing worth using?

      Revenue-based financing is worth considering when traditional business financing options are unsuitable for your situation. Typically, that’s because you can’t qualify for them due to your credit scores or time in business.

      New small business owners and startup founders often face this issue because traditional financial institutions usually want to see at least two years of business history. They may check your business credit score too, which also takes time to establish.

      As a result, a business cash advance is often an attractive funding option in the early years. However, because revenue-based financing is expensive, consider all your other options first.

      If you can’t get a business loan from a bank or credit union, an online lender may still be willing to work with you. They have less rigorous qualification requirements that are closer to those of revenue-based funders.

      Alternatively, you can consider equity financing options, such as angel investors and venture capitalists. These require that you give up a portion of your company ownership, but they also provide you with valuable allies who can help you grow.

      Pros and cons of revenue-based financing

      Like all financing options, revenue-based financing comes with its own set of advantages and disadvantages. Understanding these can help you make a more informed decision about whether it’s the right choice for your business.

      Pros of revenue-based financing

      1. Easy to Qualify: One of the major advantages of revenue-based financing is its low qualification requirements. New businesses or those with poor credit scores can easily qualify for this type of financing as the primary focus is on the business’s revenues and not its credit history.
      2. Quick Funding: Businesses can apply and get approved for revenue-based financing within a matter of days. This speed can be crucial for businesses needing to address urgent cash flow needs.
      3. Flexible Repayment: The repayment plan is proportional to your income. This means in slower months, you’ll pay less, and in more profitable months, you’ll contribute more, ensuring the repayment does not strain your business cash flow.

      Cons of revenue-based financing

      1. High Cost: The convenience and accessibility of revenue-based financing come at a price. The factor rates can be significantly higher than conventional financing options, making it a more expensive choice in the long run.
      2. Shorter Repayment Term: While the repayment amount is flexible, the term is not. Most revenue-based financing options require full repayment within 18 months, which can be a challenge for businesses with inconsistent revenues.
      3. Regular Withdrawals: The lender will make daily or weekly withdrawals from your bank account, which could potentially disrupt your cash flow if not properly managed.

      Comparing financing options.

      When it comes to raising capital, business owners have a plethora of options, each with its own merits and demerits. Here, we’ll delve into a comparison of revenue-based financing, debt financing, and equity financing.

      Revenue-based financing

      As discussed, revenue-based financing is a method where business owners receive an upfront capital injection, repaying with a percentage of future revenues. It’s relatively accessible, quick to secure, and provides flexible repayment terms correlated with your sales. However, it’s often a steeply-priced option with short repayment terms and regular withdrawals that may disrupt cash flow.

      Debt financing

      Debt financing involves borrowing money, typically from a lender such as a bank, with an agreement to repay the principal along with interest over a predetermined timeframe. The advantage of debt financing is that you maintain total ownership of your business. However, it requires a good credit score, stable business history, and collateral, making it less accessible for new or struggling businesses. You’re also obligated to repay the loan regardless of whether your business is profitable or not.

      Equity financing

      Equity financing includes raising capital by selling shares of your company to investors, like angel investors and venture capitalists. The primary advantage is that there’s no obligation to repay investors; they make money when the company is successful. Furthermore, you can benefit from their expertise and networks. On the downside, you will have to share your profits with your investors and may lose some control over the business as they will have voting rights.

      When choosing a financing option, it’s crucial to carefully consider your business’s financial situation, growth stage, and long-term goals.

      Explore your options with Lendio.

      Revenue-based financing can be an effective alternative to traditional debt and equity options, especially for new small business owners with bad credit scores. You can quickly access a significant amount of capital and use it to grow your business.If you’re a good fit for revenue-based financing, use Lendio to find the best cash advance provider for your needs. Sign up to compare offers from multiple funders and apply for financing today!

      Quickly compare loan offers from multiple lenders.

      Applying is free and won’t impact your credit.

      About the author
      Nick Gallo, CPA

      Nick Gallo is a Certified Public Accountant and content marketer for the financial industry. He has been an auditor of international companies and a tax strategist for real estate investors. He now writes articles on personal and corporate finance, accounting and tax matters, and entrepreneurship.

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