There are several markers that show how our startup ecosystem is developing, but one of the most notable is the new types of start up business funding. Although equity capital for nascent, pre-revenue firms may today appear routine in India, it was once groundbreaking.
New types of finance have emerged as the Indian startup environment continues to flourish. A recent intriguing one for business owners and investors is Revenue-Based Financing.
Increasingly popular in developed economies like the US, Revenue-Based Financing (RBF) is a new asset class in India, where investors are only now starting to test the market. RBF would be categorized as debt funding for start up businesses with capital that is repaid through a share of your monthly revenues. Some details about RBF:
- Investors receive a predetermined monthly percentage of the company’s sales. Therefore, the investor receives a larger percentage of the return if a firm has a bigger revenue month. This payback includes the principle as well as a chosen return on the investment.
- Usually, this is done to satisfy the need for operating/working capital. Because the founders don’t have to dilute their stock, which makes it appealing for them, there is a ready market for potential loans.The funding has a higher risk than secured loans since there is no concrete collateral or guarantee behind it. RBF grants a right to the startup’s intellectual property and/or moveable assets whenever it is practical, in addition to the risk reduction and control methods accessible to lenders.
This kind of alternative financing is a very pleasing option for businesses that can predictably forecast their cash inflows. Online firms worldwide, and SaaS organizations in particular, are increasingly using RBF because of this. Even though they may not be successful, many firms do have a consistent source of income. The benefits to the entrepreneur are obvious—they do not need to saturate their equity, and there is no requirement for collateral. Additionally, because the payment is connected to income, payback does not become difficult.
What’s in it for investors?
It’s great for small business investors to have a clear asset allocation that includes debt, alternative assets, private equity, and public markets. However, a lot of you are seeking ways to better balance or diversify your portfolio within each asset class, and RBF provides a solution. RBF does not take the place of your portfolio’s venture or equity investments. The fundamental tenet of RBF is that the business you are funding must have strong revenue and high-quality revenue. Here, the relationship between return and a company’s sales during the next two to four years is crucial.
As an alternative, it usually takes eight to ten years for VC investments to pay off. RBF gives the chance to increase the total yield of an investor’s debt portfolio, which is always excellent news, with predicted returns of 20% or more. Aside from this, very few businesses get venture capital investment, and of those, very few will result in the 50x return necessary for a successful exit. There are many more startups that generate income. Not all of them are fantastic from a VC standpoint but are excellent from an RBF standpoint. The fact that there is a broader pool of prospective investee firms is a huge benefit for both the investor and the entrepreneurs.