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Revenue Finance as an Alternative to Down Rounds


A blog image showing two paths for an entrepreneur to choose either a down round or revenue finance

As we complete the first quarter of 2024, the market is still shaky, and the Fed continues to push out the timeline on when it will reduce interest rates.  How does this affect start-ups and other companies that need to raise funds for growth this year?


For those companies that have been able to do at least two of the following over the past year:

  • Recognized growth of over 50% 

  • Retained your customer base with low churn 

  • Reached or maintained breakeven on a Net Income or EBITDA basis

  • Avoided taking on Merchant Cash Advances (MCAs) or other short-term debt 

  • Established a diversified customer base (i.e. reached product market fit) 


Fundraising should be possible, although it may take a while. Angels and VCs are cautiously returning to investing, but definitely not at the torrid pace we experienced in the years leading up to the 2023 freeze.  


For companies who haven’t achieved these things and need to raise funds, your experiences are probably going to be quite difficult, and you might even be facing the dreaded ‘down round’.


What is a down round?

A down round is when a company takes an equity investment at a lower valuation than it commanded in past rounds (i.e. your Series A valued the business at $10M but the Series A2 is only valuing the business at $8M). This means that the new equity is going to be even more dilutive than the previous round. Here is an example of the impact: 


An example of shareholder dilution after a down round


As you can see, the impact of a down round can be incredibly detrimental to Founders’ and previous equity investors’ ownership. That is one of the reasons why most Founders and early investors work hard to avoid them.


 

What are alternatives to down rounds?

There are several options for avoiding down rounds, but each has its tradeoffs. First and foremost, it’s a good idea to assess your business and figure out what is the bare minimum needed to achieve some of the milestones mentioned earlier: high growth rate, profitability, lack of customer churn, etc. 


Some companies may be able to get there with ‘friends and family’ round, if you have a close group of individuals with the capacity, inclination and willingness to invest at terms favorable to you. If you have assets and some measure of profitability you may qualify for an SBA loan, but keep in mind that will come with personal guarantees and encumber your assets. Local bank loans may be an option if you are profitable. Or maybe it’s time to consider revenue financing. 


What is revenue financing?

Revenue Financing (RF), or also known as revenue based financing, might be a good choice if you are facing a down round and know how much money it will take to get to profitability or to meet the other metrics that will allow you to raise your next round at a favorable valuation. 


In order to qualify for RF, you need to have demonstrated traction, such as product market fit, recurring revenues or repeat customers. You also cannot have a lot of debt – especially from MCAs – on your balance sheet.  RF financiers generally do not finance declining revenue businesses, but they are willing to look at flat to slightly growing ones. If you have a sense of what you need to do and how much funding it would take to increase your growth, Revenue Finance might be an option for you.


The key benefits of Sage’s Revenue Finance for entrepreneurs is that it is non-dilutive, doesn’t require personal guarantees, has flexible payments and is perfect for interim or bridge funding. If we bring back our previous example where a Founder decides to take RF instead of a down round, the effect is that the entrepreneur and other shareholders can preserve their equity ownership until that next capital event (i.e. priced round, exit, etc.).



An example showing the benefit of revenue finance in terms of being non-dilutive.

If you want to learn more about RF and what it entails please read our blog “RBF Basics: Sage -Flavored”. If you think revenue-financing might be a fit for you, please contact us today!


About Sage Growth Capital

Sage Growth Capital makes revenue-financed investments in companies at any stage who need growth capital. It is our mission to provide a more flexible funding option to growing companies who do not fit traditional equity or lending models. To learn more about Sage Growth Capital or to apply for funding visit: www.sagegrowthcapital.com.

 

About Revenue-Financed Capital

Revenue-financed capital (RFC), also referred to as royalty financing, revenue share or revenue-based financing (RBF), is a non-dilutive form of growth capital where investors receive a percentage of monthly revenues until a set amount has been paid. RFC differs from equity financing as the investor does not obtain ownership of the company and it differs from debt financing as there is no collateral required and payments are variable. RFC is designed to empower entrepreneurs to grow their businesses with non-dilutive capital that aligns with their sales cycles.


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