Business and startup owners in today’s challenging VC funding environment often must choose between debt & equity when opting for capital sources. However, in most cases, founders are hesitant about diluting themselves and their key employees via equity or even pledging personal collateral for a loan.
To address this, lenders & fintech across the globe have introduced a new form of capital – aptly titled – recurring revenue financing. Specifically designed for businesses operating on a subscription-based revenue model, this instrument arrives with the flexibility of instant capital without the hassle of traditional debt & equity options.
However, before you fill out your application, it is important to understand this funding instrument in detail, weigh its pros & cons, & most importantly, decide if this is the right option for your business. Let’s help you do just that.
What Is Recurring Revenue Financing?
Simply put, recurring revenue financing is a type of funding wherein the lender analyzes your past revenue sources & considers forecasts of future revenue to underwrite a capital amount for your business. Most lenders analyze your business’s churn, client & revenue growth rates to accurately process your application.
Exclusively designed for subscription-based businesses such as – gyms, FMCG subscriptions, consulting businesses, SaaS & media companies – this funding tool empowers founders to instantly access capital, skipping the hassle of traditional instruments – giving you time to focus on your business.
Alternatively known as revenue-based financing, one of its unique advantages is the flexible repayment system.
Instead of repaying a fixed monthly instalment, founders are encouraged to pay back a share of the revenue generated every month, for example, 6%. Thus, during months with higher revenues, borrowers can make greater repayments & vice versa.
Along with this, unlike traditional business loans, which often require extensive paperwork, business plans & pitch deck, in this case, the lender simply connects with your business’s back-end accounting or ERP system & banking channel (including digital wallets & payment accounts like Stripe and PayPal) to analyze previous revenue cycles & forecast future ones. This ensures that the lender can arrive at a business decision within minutes, granting borrowers instant access to their funds.
Types of Recurring Revenue Financing
Recurring revenue financing models can be broadly classified into two types based on the repayment agreement.
1. Flat Fee
In this case, you agree to pay back the lender a fixed percentage of your monthly revenue for a mutually decided tenure. This is a good option if you want to keep your monthly repayment amount to a minimum & spread it over several years.
However, this might be a challenging option for you in case you are an early-stage startup which is growing rapidly, as a flat fee will cost you more in the long run.
To understand this better, let’s take the help of an example. Suppose you run a web hosting business & have 100 customers paying you $5 per month for hosting services. Thus, your monthly revenue is $500. Now, to expand your business you apply for a recurring revenue finance & are approved for $10,000 capital with 5% interest rate. You agree to repay $188 every month such that your total due ($10,000 + 5% interest) is paid off in 5 years.
In this case, no matter how your business performs every month, you need to pay the lender $188 every month, as otherwise you will negatively affect your creditworthiness.
2.Variable Collection
Another option extended by most providers is a variable repayment system wherein businesses can pay back a certain amount based on their monthly gross profits. This option gives you the flexibility of choosing your repayment amount as well as allows for a shorter repayment tenure.
Extending the above example, instead of a fixed monthly repayment, you agree to share 25% of your monthly revenue with the lender. Thus, in months where business is steady, you pay the lender $125, & for other months you pay less or more. This way, not only do you reduce your financial strain, as how much you repay is directly linked to your business performance but can also avail a shorter tenure.
In this example, if you pay $125 for 24 months (when your business is steady), $110 for 12 months (when business is slow) & $450 for 14 months (when business is doing incredibly well), you can easily pay off the total amount well before 5 years, without any additional financial stress.
This is the advantage of a variable pay system over fixed payment.
Pros & Cons of Recurring Revenue Financing
Outlined below are the most significant pros & cons of this funding instrument.
| Pros | Cons |
| Non-dilutiveBy leveraging a recurring revenue financing model, founders & directors can maintain full control over their company. This is particularly essential for early-stage companies where motivated leaders and employees are a crucial component of rapid growth. | Revenue Is a MustAs the name suggests, to get approved, having a steady source of revenue is a must. Thus, an early-stage business which is yet to generate revenue might not get approved along with those with inconsistent financial histories. |
| No CollateralFounders don’t need to pledge personal collaterals as guarantees for this loan, making this a less risky proposition as compared to traditional options. | Small Loan AmountMost revenue-based financing companies will cap the loan amount as per your MRR (Monthly Recurring Revenue). Thus, if your business has just started generating revenue, your approved capital might be less compared to those offered by traditional instruments. However, the good part is that as your revenue increases, you can secure follow-on financing. |
Flexible RepaymentsWith flexible repayments, you are in full control. When you make more, you pay more & vice versa. This takes the financial strain off your shoulders & helps you focus on what matters – your growth. |
Not Ideal for Longer TenuresRevenue-based financing is best suited for short-term initiatives as if the repayment tenure stretches over a year; traditional financing options become more economical. Thus, these loans are best suited for scenarios wherein you need an immediate influx of cash into the business. |
Affordable & Quicker In most cases, recurring revenue financing is cheaper compared to debt & equity financing due to its competitive interest rates. Along with this, with less financial stress, you are primed to grow faster, meaning you will settle your loan quicker. |
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Collaborative & InstantRevenue-based financing empowers you to chase other funding opportunities head-on, & as you preserve complete equity – it gives you the option to raise funds consistently. What’s more – you can get approved for this in under 24 hours. |
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Conclusion – Is This the Right Option for Your Business?
Although the use cases of the loan amount might differ, recurring revenue financing is best suited for certain business models. For example, eCommerce establishments, SaaS & other subscription businesses, & companies with seasonal performance.
Simply put, recurring revenue financing will be best suited for you when you need urgent access to capital & you are planning for a short repayment tenure. Along with this, it is also ideal for founders who want to preserve their equity & not explore debt financing plans.
CrediLinq is a market leader in recurring revenue financing. Powered by our proprietary artificial intelligence & machine learning algorithms, we underwrite loans for a wide catalogue of businesses using our alternate scoring model.
