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Revenue-Based Financing: What It Is and How It Works

Raising capital is one of startups’ biggest challenges. There’s no shortage of funding options, but the labyrinth of opportunities makes it all the more difficult to navigate.

Traditional methods (like equity and debt financing) often involve substantial trade-offs that can slow your startup’s growth and long-term vision.

Equity financing requires giving up a portion of your company’s ownership, while debt financing can strain your cash flow and limit your financial flexibility—and you might not want either of those consequences.

That’s where revenue-based financing can help.

Revenue-based financing offers a straightforward, accessible alternative that doesn’t require giving up startup equity or taking on demanding loans. Below, we’ll walk you through everything you need to know about revenue-based financing to understand what it is, how it works, and if it’s the right fit for your startup.

What is revenue-based financing?

Revenue-based financing (RBF) is a type of funding where investors provide capital to your business in exchange for a percentage of the company’s future revenue. Unlike traditional loans, there are no fixed monthly payments or interest rates. Instead, repayments are directly linked to your startup’s revenue performance.

How revenue-based financing works

Revenue-based financing is fairly straightforward. Here’s a step-by-step look at the process:

  1. Funding agreement: Your startup and the investor agree on the amount of capital and the percentage of future revenues to be shared. This percentage (known as the “revenue share”) is typically agreed upon upfront.

  2. Capital injection: Once the agreement is in place, the investor provides your startup with the capital. You can use these funds for scaling operations, marketing ideas, product development, or other growth initiatives.

  3. Revenue sharing: As your startup generates revenue, you’ll pay the investor back a predetermined percentage of the monthly or quarterly income. The amount paid each period fluctuates with your company’s monthly revenue to align repayments with the business’s performance. This guarantees lower revenue periods won’t financially strain your business.

  4. Repayment cap: The total repayment is usually capped at a multiple of the original investment. For example, if your startup receives $100,000 with a 1.5x cap, the total amount to be repaid would be $150,000. Once this cap is reached, the obligation to share revenue ends.

Revenue-based funding aligns the interests of both the startup and the investor. Investors are motivated to support the growth of the business because their returns are directly tied to the company’s success. For startups, this means access to capital without the pressure of fixed debt repayments or equity dilution.

Revenue-based financing vs. traditional financing

Traditional financing typically includes debt financing and equity financing.

Equity financing vs. RBF

In equity financing, startups raise venture capital by selling a portion of their ownership to investors. While venture capitalists (VCs) can provide significant initial investment, it comes with the trade-off of equity dilution. VC funding means giving up a share of your company’s ownership, which can lead to reduced control over business decisions and future profits.

Additionally, bringing on equity investors often involves accommodating their input and aligning with their expectations—and that might not always align with your vision.

Unlike equity financing, revenue-based financing doesn’t require giving up any ownership stake. Instead, it involves sharing a percentage of future revenues with investors. This arrangement allows founders to retain complete control over their company while accessing the necessary capital for growth.

Debt financing vs. RBF

Traditional debt financing involves borrowing money that must be repaid with interest over a fixed period. A fixed monthly payment (regardless of revenue performance) can strain your startup’s cash flow management—especially during periods of low revenue. This can limit your company’s financial flexibility and increase the risk of defaulting on bank loans (which could risk your personal assets).

Revenue-based financing offers a more flexible repayment structure. Instead of fixed monthly payments, repayments in RBF are a percentage of the company’s revenue. This means that during months of high revenue, repayments are higher, but during slower periods, repayments decrease accordingly.

Feature Equity Financing Debt Financing Revenue-Based Financing
Ownership Dilutes equity No dilution No dilution
Repayment No repayment Fixed repayments with interest Flexible repayments based on revenue
Control Investors may gain decision influence Full control remains with the founder Full control remains with the founder
Risk Shared with investors Risk of default Revenue-dependent risk
Cash Flow Impact N/A Potential strain during low revenue Adaptive to revenue performance

Pros and cons of revenue-based financing

Revenue-based financing provides plenty of benefits, but it’s not a one-size-fits-all funding solution for every startup. There are a few drawbacks you’ll need to keep in mind.

Benefits of revenue-based financing:

  • No equity dilution: Business owner preserves ownership and control without giving up any equity.

  • Flexible repayments: Payments fluctuate with revenue, easing cash flow management during low-revenue periods.

  • Faster approval process: Quick and less stringent approval compared to traditional loans, focusing on revenue potential.

  • Aligned incentives: Investors are motivated to support business growth as their returns depend on your success.

Drawbacks of revenue-based financing:

  • Higher Cost: Total repayment may be higher than traditional loans due to revenue share agreements.

  • Revenue Dependency: Payments during low-revenue periods can still impact cash flow.

  • Limited Suitability: Best for businesses with predictable, recurring revenue—less ideal for those with variable income.

How to know if revenue-based financing is right for you

Revenue-based financing is well-suited for startups with predictable, recurring revenue streams. This includes subscription-based services, SaaS companies, and businesses with steady cash flow patterns.

Example companies:

  • SaaS Startup: A SaaS company providing project management tools used RBF to scale its marketing efforts. With predictable monthly recurring revenue, the startup easily managed flexible repayments and achieved a 200% increase in customer acquisition within a year.

  • E-commerce business: An online retailer with a subscription box model used RBF to expand its product line. The additional capital allowed for bulk purchasing and email marketing campaigns, significantly boosting monthly subscriptions and overall revenue growth.

  • Healthcare service provider: A health-tech startup offering subscription-based wellness plans leveraged RBF to invest in technology improvements and customer support. The improved service quality attracted more customers, increased revenue, and allowed smooth repayments.

How to get started with revenue-based financing

Revenue-based financing isn’t as popular as other forms of startup financing, but it can be a great alternative if you have predictable income streams to justify it. If you’re a good fit for RBF, here’s how to start the process:

1. Find the right providers

Not every investor or venture capitalist will be the right partner for revenue-based financing. Remember, this approach requires more alignment between investors and your startup, and not every partner will have the interest (or capacity) to provide mentorship, connections, and resources.

Start by researching and identifying reputable revenue-based financing providers. These can include specialized RBF firms, venture capital firms offering RBF options, and alternative financing platforms.

2. Prepare your financials

Investors will need to verify your income streams before they agree to revenue-based financing. They’ll want to know they can trust your revenue sources and future estimates.

Double-check your financial records and prepare the necessary financial statements. Providers will evaluate your monthly recurring revenue, growth potential, and overall financial health. Be prepared to present detailed revenue projections and historical performance data.

3. Start the application process

Submit an application to your chosen provider. This typically involves sharing financial statements, revenue projections, and a business plan. Some providers may also require a startup pitch deck presentation or interview to better understand your startup business model and growth strategy.

4. Negotiate favorable terms

Once approved, negotiate the terms of the financing agreement. This includes the amount of capital to be provided, the revenue share percentage, and the repayment cap. Confirm that the terms align with your business’s cash flow patterns and growth plans.

5. Use your funding wisely

After securing the funds, use them strategically to drive growth. Focus on areas that will generate the highest returns, such as marketing, product development, or scaling operations. You want to start growing revenue as quickly as possible to make repayments more manageable and pay off the financing sooner rather than later.

6. Maintain transparency

Revenue-based financing creates a partnership between your startup and investors. Keep the lines of communication open and transparent. Provide regular investor updates on your business performance and revenue projections. You never know when you’ll need additional financing, and maintaining a solid relationship can be an easy path to more capital.

Make (and keep) more revenue with DigitalOcean

Revenue-based financing offers a flexible and founder-friendly way to fund and grow your startup. It aligns repayments with your revenue to support sustainable growth without diluting equity or taking on cumbersome debt obligations.

That’s just the beginning, though.

To maximize your startup’s growth and earnings potential, you’ll need to pair your smart financing with smart infrastructure—and that’s where we can help.

DigitalOcean provides the cloud solutions you need to focus on building and growing your business. With predictable pricing, scalable resources, and world-class support, DigitalOcean empowers you to make the most of your revenue.

Whether you’re launching a new app, expanding your services, or optimizing your operations, DigitalOcean’s platform offers the simplicity and performance your startup needs. Start making and keeping more revenue by leveraging the power of DigitalOcean’s cloud solutions.

Ready to get started? Sign up for a free account to see everything DigitalOcean has to offer.

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