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Finance your acquisition: Revenue Based Financing

Revenue-based financing is a phenomenon that has blown over from the United States in recent years, where a large industry has grown up around this new method of financing. Although initially intended as growth capital for young businesses, takeovers of (growing) businesses are now also being financed using revenue-based financing.

Various forms of financing are possible for a company takeover. In practice, it can be seen that not all methods are equally obvious when acquiring an online business. For example, banks are reluctant to provide a regular bank loan to finance the acquired goodwill. And the average webstore takeover consists largely of goodwill! Buyers therefore often look at the available financing alternatives, including revenue-based financing. This article explains exactly what revenue-based financing is, what the advantages and disadvantages are and what the options are for acquisitions.

What is revenue-based financing? 

Revenue-based financing is a form of loan whose amount is based on revenue. In this structure, the amount borrowed is repaid in monthly payments based on an agreed percentage of the cash flow received each month.  These repayments move with the amount of cash received and are therefore variable. Less cash income in a month, therefore, means a lower payment in that month. But beware: the interest on the total sum will, of course, increase. These variable monthly payments continue until the agreed sum is paid off.

The faster a company grows, the sooner the loan will be paid off. Revenue based financing (RBF) was therefore originally used mainly in the start-up world, where growth capital is needed, and high growth rates are in the offing. Nowadays RBF is also used to finance company takeovers – more on this later.

The characteristics of revenue-based financing

In order to make use of revenue-based financing, a number of things must be considered. Not every webstore and not every acquisition will be suitable. In any event, take the following into account:

  • Revenue-based financing involves limited amounts: think of 4 times the monthly turnover or 1/3 of the gross margin per year.
  • The sum to be repaid (also called the ‘repayment cap’) depends on the risks and the agreed monthly repayment percentage. Please note that it can be 1.5 to 2 times the borrowed amount, calculated over the entire term including all interest payments.
  • As with other loans, the interest costs are tax deductible.
  • Personal guarantees are not required, and the revenue-based financing loan is subordinated to the bank.
  • In general, full repayment is expected in 4860 months.
  • Whether your business (to be taken over) will qualify is determined by the current and expected future cash flows: there must of course be room to make the monthly payments.

What are the advantages of revenue-based financing? 

The biggest advantage of revenue-based financing is that it is a loan (loan capital), which behaves like equity as far as the repayments are concerned: after all, the repayments vary with the cash income of the company, but it is still included on the balance sheet as loan capital. As a result, the return on equity becomes relatively higher (as does the risk, incidentally). This phenomenon is also called ‘leverage’.

Other advantages are that a loan according to the revenue-based financing principle is offered by parties who can usually switch quickly (within two weeks) and provide an offer (or rejection). The structure is also flexible in terms of repayments and the interests of the ‘investor’ (the provider of the RBF loan) are aligned: both want the company to grow quickly so that the loan can be repaid quickly. And the faster this happens, the higher the value creation for the entrepreneur.

In addition, the provider of an RBF loan does not ask for personal guarantees, whereas a bank, for example, does. If your company goes bankrupt, you will also suffer privately. This is not the case with revenue-based financing.

What are the disadvantages of revenue-based financing? 

Compared to a regular bank loan (if such a loan can be obtained), the relatively high costs are particularly striking. The provider of revenue-based financing takes a risk and naturally wants to see this reflected in the interest payments. Assuming a repayment cap of 1.5 – 2 times the principal, you can expect an effective interest rate that quickly rises to 15%. For a company that is indeed growing as fast as expected, this will be manageable (because the total sum is limited to 4 times a historic monthly turnover), but for companies that do not meet the growth expectations, this can be hefty.

Revenue-based financing for a business acquisition 

Although revenue-based financing is primarily used as growth capital for start-ups, this method of financing is also offered for company takeovers, including online business takeovers. Do bear in mind that your company and the webstore to be acquired will be put through the wringer (due diligence) by the provider and that an investment of time will certainly be expected on your part. But bear in mind that the result of this (positive or negative) will be instructive in both cases: in the event of a rejection, the pain points of the company to be taken over will also become clear.

Is RBF the right choice? 

As long as the acquired webstore lives up to its growth expectations, revenue-based financing seems an interesting way of financing a webstore acquisition: compared to investors (who expect a share in the equity) it is cheaper, there is no dilution of shares and there is less pressure regarding an expected exit. But a bank loan is cheaper. So, if the web shop to be taken over is not a fast-growing company, but a stable company with a steady cash flow, you may still be able to approach the bank. Consider that the personal guarantee will require a longer processing time for the application.

Do you have a financing requirement of your own and does revenue-based financing appeal to you? Then please contact us. We will support you in this process free of charge and we are in contact with several providers.

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