Venture capital investing decreased by approximately 30% from 2011 to 2012.
This left many companies unable to secure funding. So, where do companies go when VCs say no?
We all know about crowd funding, but there are several sources of capital that are rarely discussed: revenue-based loans and asset-based loans. Both types of loans are similar to venture capital in that they work best with companies that have demonstrated potential for strong future growth.
Revenue-based loans have been around for decades, under the name royalty-based loans. Recently, this type of capital was reintroduced through Lighter Capital, a fund run by serial entrepreneur Andy Sack.
Revenue-based loans work well for companies that have solid revenue and healthy margins, as the loan is repaid as a percentage of future revenue. Unlike a bank loan, the revenue-based loan sets the monthly payment as a percentage of monthly revenue. This is ideal for companies who may not have smooth revenue streams. If they make zero revenue in any given month, their monthly payment is zero.
Arctaris Income Fund offers a hybrid version of the revenue-based loan in addition to the standard revenue-based loan. Companies are able to pay monthly payments of principal and interest, plus a small royalty on revenue
Asset-based loans have also been around for decades and have a wide variety of offerings. The one thing all asset-based loans have in common is the underlying need for collateral (read: assets).
The most commonly used asset-based loan is factoring, which is the exchange of invoices to allow for better cash flow. For example, if you manufacture clothing but need capital to produce the line, you may be a candidate for factoring.
Rosenthal and Rosenthal is a commonly used firm in the fashion industry. They purchase invoices from customers who need capital to manufacture merchandise that has already been ordered and invoiced. Once the companies deliver the merchandise and receive payment from their client, they repay their loan.
Of course, there are fees involved. A revenue-based loan ranges from 20% to 40% per annum and an asset-based loan ranges from 2% to 10% of the invoice amount. These fees may seem high, but keep in mind that you have not diluted your company’s equity as you would have by giving equity to a venture capital fund.
Most companies use revenue-based and asset-based loans as a short term financing strategy. It allows them to grow their companies without diluting or giving away control of the company.
Have you used either source of capital? Let me know in the comments.
I recently created a workbook and spreadsheet tutorial titled, Master the Finance Game: A Guide to Building Financial Models, Valuing Companies, and Raising the Right Type of Capital, which focuses on selecting the right type of capital. You can read more about it at www.atelieradvisors.com/growth