Revenue-Based Financing: How it Works

Revenue-based financing (RBF), also known as Revenue Share Investment, is gaining traction across Africa, offering startups and SMEs a flexible, non-dilutive way to access capital.

This article covers how RBF works, which businesses it may be suitable for, examples of terms, pros and cons for business owners and investors and examples of these types of deals in Africa.

What Is Revenue Share Investment?

Revenue share investment is an increasingly popular alternative to traditional venture capital, offering startups a way to access growth capital without diluting equity or committing to rigid debt repayments.

A revenue share investment involves an investor providing capital to a business in exchange for a percentage of the company's future revenue, rather than equity or fixed debt repayments. This model allows the business to repay the investment based on its income flow, making it particularly flexible for companies with variable or growing revenues.

How Is It Different To Traditional Venture Capital Investment?

Unlike VC, which focuses on high-risk, high-reward returns through equity stakes, revenue share aligns investor returns with business performance, providing flexibility and mitigating risk. This model has gained traction globally.

RBF in Africa

For African markets, RBF has exciting potential where traditional financing options often exclude early-stage or asset-light businesses.

RBF aligns with the continent’s growing SME sector, for instance, which often struggles to access traditional VC funding due to its risk profile. And for startups that struggle to meet VC’s stringent growth, timeline and exit expectations revenue share offers a more market-suitable and adaptable solution.

Its emphasis on cash flow rather than equity makes it particularly suitable for sectors like health tech, where scalability is critical, but growth trajectories may be slower or less predictable than the exit timelines VCs typical operate to. RBF provides a practical alternative to scarce VC funding for both startups and small and medium enterprises (SMEs).

One notable example of a health tech company in Africa leveraging innovative financing is Ilara Health, based in Kenya. Ilara provides diagnostic equipment to small clinics and pharmacies in underserved areas. To overcome the high upfront costs of these devices, the company introduced a revenue-based financing model. Clinics make a small initial payment, with the remainder paid over time through a portion of their revenues. This flexible payment structure is critical for cash-strapped facilities, ensuring they can access life-saving diagnostic tools without resorting to expensive traditional loans or equity dilution.

The model also helps these facilities increase their own revenue streams, creating a sustainable growth cycle.

How Revenue Share Investment Works in Practice

Capital Injection

An investor provides a lump sum of capital to the health tech startup to fund growth activities like product development, hiring, or marketing.

Revenue Sharing Agreement

The startup agrees to pay the investor a set percentage of its monthly or quarterly revenue until a predetermined amount (the original investment plus a premium) is repaid.

Repayment Terms

Example:

• A subscription-based health tech startup in Kenya with growing but variable revenue signs a revenue share deal with an impact investment fund focusing on digital health in Africa.

• The fund provides $200,000, and the startup agrees to pay 8% of monthly revenue until 1.8x ($360,000) is repaid.

• In the first six months, the startup averages $50,000 in monthly revenue. It pays the investor $4,000 per month during this period. In subsequent months, revenue grows to $100,000, and payments increase to $8,000 monthly.

• Payments fluctuate with revenue, so in slower months, the repayment amount is smaller, alleviating cash flow pressures on the startup.

• The ideal outcome is that the startup completes its repayment in three years without sacrificing equity or locking in high fixed repayments during its early growth stage.

Types of Revenue-Share Investors

Private Investors

These could be high-net-worth individuals (HNWIs) or angel investors seeking returns with less risk than equity.

Revenue-Based Financing Firms

Globally, specialized firms and funds offer these types of financing arrangements, including:

• Clearco

• Wayflyer

• 8fig

• Shopify

• PayPal

• Uncapped often provide this kind of investment to startups.

Several key players are advancing this model on the African continent.

Linea Capital, based in South Africa, is another significant player, focusing on small and growing businesses (SGBs). Their revenue-share approach aligns repayment terms with the company’s cash flow, targeting sectors such as education and agri-processing.

Additionally, Uncap has launched a €30 million fund, Unconventional Capital, to support African startups using revenue-based financing. This model caters to sectors like agriculture and financial inclusion, providing a flexible alternative to equity-based investments.

Development Finance Institutions (DFIs)

In Africa, DFIs and impact investors might use revenue share models to support startups in sectors like health tech without diluting founder ownership.

Corporate Venture Programs

Large companies investing strategically in startups to foster innovation in their industry may prefer this model.

Who Is Revenue Based Financing Suitable For?

Businesses with Predictable Revenue

As seen with Ilara Health, health tech companies with subscription models or recurring service revenues (e.g., diagnostics, telemedicine) can leverage RBF to finance growth without upfront capital strain.

Startups Wary of Equity Dilution

Founders who want to retain control over their company can benefit from revenue share investments.

High-Growth Startups in Need of Flexible Financing

Startups scaling rapidly but not yet profitable can use revenue share to access capital without overburdening cash flow.

Businesses with unpredictable or highly seasonal revenues (e.g., project-based) may struggle with RBF as their cash flow would not support regular repayments. These examples highlight how RBF can be a strategic tool for companies with recurring or predictable revenues across diverse industries, including health and care innovation.

Common Terms and Variations

Revenue Share Percentage

This typically ranges from 3% to 10%, depending on the amount of capital and the perceived risk.

Repayment Cap

The total repayment is usually a multiple of the original investment (e.g., 1.5x to 2x).

Repayment Period

There may be a timeline or milestone target for completing repayment, such as within 5 years.

Deferred Payments

Some agreements allow deferral during periods of low or no revenue, offering flexibility during economic downturns or seasonal dips.

Revenue Floor/Threshold

Some contracts specify a minimum revenue level before repayments kick in, allowing the startup to stabilize before starting payments.

Pros and Cons for Founders and Business Owners

“RBF offers a middle ground between debt and equity, enabling founders to scale sustainably while retaining full ownership and control of their business.” — Miguel Fernandez, Capchase.

Pros

1. Non-Dilutive Capital

   • Founders retain full ownership and control of their company, avoiding the dilution that comes with equity financing.

2. Flexible Repayments

   • Repayments adjust with the company’s revenue. During slower periods, payments decrease, easing cash flow pressure compared to fixed loan repayments.

3. Faster and Easier Access to Capital

   • RBF often requires less stringent due diligence than equity or bank loans, leading to faster funding, particularly for revenue-generating startups.

4. Aligned Incentives

   • Since repayments depend on revenue, investors are incentivized to support the company's growth, creating a partnership dynamic without equity involvement.

5. Predictable Financial Obligation

   • Founders know the total repayment amount upfront, offering clarity compared to variable equity valuations or interest-bearing loans.

Cons

1. Pressure on Cash Flow

   • Although flexible, repayments reduce the business's available revenue each month, which could limit reinvestment in growth.

2. Capped Upside for Investors

   • Once the repayment cap is reached, the company must still continue growing independently without the additional financial backing or equity-based incentives from investors.

3. Limited Suitability

   • Businesses with low or inconsistent revenue streams, such as R&D-intensive or pre-revenue startups, may find RBF unsuitable.

4. Higher Costs Over Time

   • The total repayment amount (often a multiple of the original investment) can exceed traditional loan interest, particularly for fast-growing businesses that repay quickly.

5. No Equity Expertise

   • Unlike equity investors who may provide strategic guidance and industry connections, RBF investors focus primarily on revenue performance, potentially limiting non-financial support.

The non-dilutive nature of RBF is appealing to founders who value ownership, while flexible repayments align with market realities like fluctuating revenue. However, founders must balance the need for growth capital against the potential strain on cash flow and long-term costs.

When considering revenue-based financing (RBF), entrepreneurs should be cautious about several key aspects. First, while RBF offers flexibility, the repayment structure—typically a percentage of monthly revenue—means that businesses may face variable cash flow demands. If revenue dips unexpectedly, even the relatively small repayment percentage could strain the business's finances. Additionally, RBF agreements often come with a "cap" or limit on repayments, which can sometimes exceed the initial amount borrowed. Entrepreneurs should carefully evaluate these repayment terms, ensuring they have a realistic revenue projection to manage the commitment effectively.

Pros and Cons for Investors

Pros

1. Steady Cash Flow

   • RBF provides a predictable income stream, as repayments are tied to the company's revenue. This can be attractive for investors seeking regular returns without waiting for a large exit event like in venture capital.

2. Lower Risk

   • Since repayments are linked to revenue rather than fixed installments, the risk of default is reduced. If the company experiences a downturn, repayments decrease proportionally.

3. Non-Dilutive

   • Unlike equity investments, RBF doesn’t require ownership stakes, preserving the company’s cap table while still enabling the investor to earn returns.

4. Scalable Returns

   • If a company grows rapidly, investors may see quicker and larger repayments, offering potentially high returns depending on the revenue share agreement.

5. Broader Investment Opportunities

   • RBF allows investors to tap into sectors or businesses that may not traditionally fit VC profiles, such as cash-flow-positive SMEs or businesses in underserved markets.

Cons

1. Limited Upside Potential

   • Unlike equity investments, RBF doesn’t offer unlimited upside. Once the agreed multiple or repayment cap is reached, the investor no longer earns from the company's revenue growth.

2. Dependence on Cash Flow

   • If a company underperforms or has inconsistent revenue, repayments slow, delaying investor returns. This can lengthen the time to reach the repayment cap.

3. Complex Due Diligence

   • Investors must thoroughly assess the company’s revenue predictability and cash flow health. This requires significant time and effort, especially in volatile markets or early-stage businesses.

4. Illiquidity

   • RBF investments are typically not easily tradable or liquid. Investors must wait for repayment over time, lacking the flexibility to sell their stake as they might in public markets or some equity funds.

5. Market Limitations

   • RBF works best in sectors with predictable, recurring revenue streams. Investors may face limited opportunities in industries with less consistent income or longer revenue cycles, such as advanced R&D or large-scale manufacturing.

Investors in this space benefit from steady cash flow and lower exposure to the risks of equity dilution in volatile markets. However, the relative illiquidity and capped returns may deter those seeking high-risk, high-reward opportunities.

A Cautionary Tale

In 2023 Untapped Global announced its decision to completely stop offering Revenue Based Finance (RBF) to its clients, switching instead to purely offering loans with fixed repayment schedules.

The firm had previously used its Smart Asset Financing model to provide upfront funding to asset-heavy businesses, with repayments tied to revenue streams, active in sectors like agriculture, logistics, and solar energy, particularly in Kenya and South Africa.

Revenue-based loans were the original idea behind Uncapped and, at first, the team described them as a win-win option. Despite this, they explained the decision to replace RBF with fixed term debt financing as based on simplicity, certainty and fariness:

"The best clients kept growing fast...which meant they repaid loans much sooner than expected. On the other hand, worse quality clients didn’t see revenues materialising, and repayments took much longer time...what it meant was that loans were cheaper for lower quality businesses who experienced sales struggles, while the best companies were penalised for repaying their loans quicker and charged a very high cost of debt."

RBF in Africa

Revenue-based financing (RBF) presents a compelling alternative for African entrepreneurs seeking growth capital without the traditional equity dilution or debt burdens, as one of a set of diverse financing tools available to consider. By aligning repayment with revenue performance, RBF offers a flexible, founder-friendly approach that adapts to business cycles and market fluctuations. As African markets continue to expand, particularly in sectors like tech, agriculture, and healthcare, RBF can play a transformative role in fueling scalable growth and unlocking opportunities particularly for small and medium-sized enterprises across the continent. With more investors and financial institutions recognising its potential, RBF could become a key financial instrument for Africa’s next generation of innovative and resilient businesses.

However, it’s crucial to assess if RBF aligns with the business model; not all revenue streams or profit margins are suited for this form of financing. Clear planning and a cautious approach can help ensure RBF serves as a growth enabler rather than a burden.

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