Reinventing business capital: revenue-based financing
Venture capital funding has grown massively in recent years. Over $500B was invested in startups globally in 2022, more than 10x the $47B in 2010.
VC funding has also expanded its geographic scope. In 2010 more than 70% of all VC funding was invested in the US. This has now decreased to 50%, with emerging economies rising to more than 20%.
However, VC funding is not suitable and accessible for most companies. Less than 1% of the new companies created ever raise venture capital funding. Some fail before raising, and some have to find other ways to grow. In particular, there are thousands of growing or profitable small businesses which could benefit from accessing growth capital. Other times VC funding is just not the best option possible.
This is where revenue-based financing comes in.
A breed of new startups is offering an alternative to private equity and early-stage venture investments or debt, allowing startups and SMEs to get financing without giving up equity or the burden of inflexible debt conditions. The money is repaid as a percentage of future revenues, which means that if sales struggle, the company will have more time to pay. Otherwise, it will repay the debt quickly.
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We identified 50+ revenue-based financing startups, which raised $1.8B in equity and debt across 32 rounds in 2021, up 7x vs. last year.
Comparison with venture capital and venture debt
But how does revenue-based financing (RBF) actually compare with venture capital and venture debt?
Revenue-based financing is accessible only to revenue-generating startups which need capital to accelerate their growth. So it is definitely not an option for a deep tech pre-revenue startup, but works well for e-commerce and SaaS businesses, both startups and SMEs. The funding amount usually ranges from $10k to $10M, with a fixed flat rate of 6-12%, independently of the repayment time. Furthermore, the financing approval is data-driven and takes 1-3 days, compared to the months needed to raise VC funding.
Where are the active players?
North American startups such as the Canadian Clearco and the US-based Pipe, Jeeves, Settle and Kapitus, raised half of the RBF funding this year. Europe comes shortly after with Spanish Capchase, UK-Polish Uncapped, Irish Wayflier, UK Outfund, as well as newcomers which came out-of-stealth this year such as the Italian Viceversa, Dutch Requr, German Re:Cap and UK Forward Advances.
The model has also quickly expanded in emerging markets, especially India with Velocity, Club and GetAdvantage raising funding lately, but also South America, Singapore and Australia.
The biggest players are expanding into new regions after consolidating their position in the home markets. For instance, Clearco recently landed in Europe starting from the Netherlands, Wayflyer is expanding into Spain and the Netherlands, while players like Jeeves are expanding in emerging markets.
Global funding (equity and debt) of RBF startups
Marketplace or direct lending model
The business model of RBF startups can be mostly divided into two main categories: marketplace model and balance sheet lending (direct lending).
Startups adopting the marketplace model include Pipe, Re:cap, Velocity. Pipe for instance aims to be the “Nasdaq of revenue” where SaaS can get their revenue upfront by pairing them with investors that pay a discounted rate for the annual value of those contracts. This model has the clear advantage of being less capital intensive but is most suited for SaaS companies.
The majority of the players, including Clearco, Capchase, Wayflyer, Viceversa, Uncapped, Jeeves and Outfund, adopted a balance sheet lending approach and therefore raised considerable debt to finance their loans. This model is more capital intensive but brings several other advantages such as: more privacy (founders can be cautious about sharing their data in a marketplace model), the ability to make quicker decisions and more flexibility with new products and special situations.
Making money: improving the core service or expanding to additional services
The big question is: can you make money just with RBF? Let’s focus on the balance sheet lending model and let’s take the example of Clearco, one of the leading players that lent $1.6B+ to 5,500+ businesses. Clearco takes a 6% fee repayment, which means it generates just $60M revenues on $1B lent. If we add to this the cost of capital and more than a bit of default rate, it becomes clear why Clearco was still unprofitable earlier this year.
However, it all depends on how fast the capital is circulating. Let’s assume a player’s average repayment time to be 6 months. In that case, a 6% fixed rate translates into a 12% APY, which already starts to leave a good margin for the company. If the repayment goes down to 4 months, we are looking at a very high 18% APY. You got the point.
Revenue-based financing startups are however gathering a lot of info on the businesses they fund, which they use to improve their risk-scoring algorithm, but also to offer services on top of the financing. Two strategies then come out: maximize the speed and accuracy of capital deployment or focus on added services.
Players like Wayflyer and Viceversa are focusing on deploying capital above all else.
Clearco is instead choosing the second with the long-term vision to provide data-driven solutions for founders, moving from just being a capital provider and to using their data, guidance and network to being a long-term partner. Clearco has expanded since October 2020 into inventory financing, in June it launched a new partnership recommendation service that analyzes its users’ businesses and connects them with potential strategic partners to help fuel their growth and in September partnered with MicroAcquire to facilitate M&A of its companies.
Others are expanding towards B2B banking for the startups. For instance, Berlin-based Reimagine started by offering revenue-based financing for founders and evolved to become the “world’s first purpose-driven B2B digital banking platform”. Uncapped launched its business banking offering and even hired Revolut’s head of business banking to expand it globally.
Europe’s biggest player Capchase announced this month “Capchase Earn”, a deposit account designed for startups that provides a 3% return on idle cash, much higher than existing accounts in the market.
Time will tell which strategy will win, focusing on the core or expanding to adjacent services.
The market for revenue-based financing is huge and as players scale, they will be able to improve their decision making and expand their add-on offerings. With interest rates likely to remain low for the foreseeable future, investors are clearly bullish on the sector.
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