ABC Technologies has a business that has done $500k in Trailing Twelve Months (TTM) Revenue. They believe that they have proven the business model, found product/market fit and are ready to scale.
ABC Technologies believe that with a capital infusion of $100k, the company can grow revenues steadily to $2.5MM per year within the next 36 months. ($1MM in year one, $1.5MM in year two and $2.5MM in year three)
ABC tech is offered $100k from an Angel Investor in for 33% of the business.
ABC tech is also offered $100k in the form of a Royalty/Revenue Based Loan. The loan is paid back via Royalty Payments equal to 4% of top line revenue per month for 36 months. The total payback on the Royalty Based Loan is $200k.
If you were ABC Tech…What would you do?
Very straight forward, not on the hook for any payments…hopefully the new partner brings some expertise to the table in helping ABC Tech grow.
ABC tech has been diluted by 33%, has a new partner, and may lose majority control if they need to raise another round. The company was valued at $300k. Let’s say it sells for $3MM within the next couple of years. That $100k just became $990k for the investor.
2. RBF Loan
No dilution. The payment is tied to monthly revenue meaning if the revenue is higher, you can pay it down quickly and if the revenue is lower the payment is lower. It’s also a fixed payback amount. Another pro is that payments are tax deductive. The lender may be able to add strategic value. If ABC Tech sells in a couple of years for $3MM, ABC tech keeps it all.
Your business is on the hook for the payments. Typically, the lender will put a blanket UCC on the business, so if you default the lender can foreclose on the business.