Legal Guide to Revenue Loans Presentation

MLCE Revenue Loans © COPYRIGHT 2016
Revenue Loans:
The Legal
Fundamentals
Joe Wallin
wallin@carneylaw.com
206.607.4157

Overview
› What is a revenue loan?
› How does it differ from other loans or sources of capital?
› What kinds of companies can borrow via a revenue loan?
› Key terms of revenue loan agreements

Revenue Loan Overview
3

What is a Revenue Loan?
› A form of revenue-based financing
› Lender loans funds to a business and receives payments
based on a percentage of their ongoing gross revenue
› Loan proceeds are used for long-term growth capital
› Borrower’s payment amounts vary over time, increasing
or decreasing according to business revenue

How do Revenue Loans differ
from other loans or sources of
capital?
5

Revenue Loan vs. Bank Loan
Revenue Loan Bank Loan
Credit More focused on business than
personal credit
Requires borrowers to have good
credit ratings
Assets Intended for asset-light
companies. Typically secured
only against company assets.
Borrower does not need to have
hard assets or physical inventory
(a benefit for tech companies).
Typically requires hard assets as
collateral
Guarantees No personal guarantees May require personal guarantees,
so the founder’s own assets are
on the line
Interest Full repayment amount set up
front
Uses fixed interest rate and may
impose prepayment penalty
Repayment Monthly payments adjust to
revenue cycles
Typically requires fixed monthly
payments that don’t adjust for the
borrower’s ability to pay
6

Revenue Loan vs. Equity Financing
Revenue Loan Equity Financing
Founder
Ownership
No dilution of founder ownership Angel investment or venture capital
investors buy equity in the
company, which dilutes company
ownership
Control Lender does not take a board seat
or control company decisions
Investors may require a seat on the
board of directors
Investors control some business
decisions
Valuation Not required Requires a valuation of the
company
Exit No pressure to sell the company—
lender does not depend on sale or
IPO to receive return
Exit required
Legal Cost Small legal cost for the loan
administration
May require substantial legal fees
Level of Effort
& Time
Funding can occur in as little as
one month
Usually a 3-6 month process
7

Recap: Advantages of Revenue Loans
› Interests of borrower and lender are aligned
› Monthly payments adjust to revenue cycles
› Typically secured only against company assets
› No personal guarantees
› Borrower does not need to have hard assets or physical inventory (a benefit for
tech companies)
› Does not dilute founder ownership
› Lender does not take board seat or control business decisions
› Quicker source of funding
› Can repay loan early as revenue growth allows—if the borrower
grows quickly, the loan will be paid back more quickly
› No pressure to sell the company—the lender does not depend on the
sale or IPO of the company to receive return

Borrower Information
9

Borrower Eligibility Requirements
› To obtain a revenue loan, the business must generate
revenue
› Recurring revenue streams from subscriptions and
contracts are a plus
› Must have strong gross margins to not overly tax the cash
flows of a company
› Profitability is not required, but a path to profitability is
› Ideally suited to technology companies, SaaS and
software

Revenue Loan Agreements
11

Revenue Loan Agreements
› Description of the
amount of the loan
› Closing Conditions
› Repayment Terms
› Maturity Date
› Grant of a Security Interest
› Representations & Warranties
› Covenants (positive and
negative)
› Events of Default
› Remedies
› Venue/Jurisdiction/Dispute
Resolution terms
Revenue Loan agreements include many of the same
terms as traditional loan agreements.

Terms Unique to Revenue Loan
› Repayment terms are different from typical bank loans
› Monthly payment amounts are a percentage of the prior
month’s “Net Revenue” until a “Return Cap” is reached
› The “Return Cap” is usually a multiple of the amount loaned
(e.g., 1.5x)
› Thus, the definition of “Net Revenue” is important in a revenue
loan
› Because monthly payments vary, interest is also
calculated differently
› Sometimes there is a success fee if the company is sold
within a certain period of time
› Terms may include an early buyout option (voluntary)

How Monthly Payments Are
Determined
› Monthly repayment amount is determined by reference to the
borrower’s revenues
› Usually revenues in the month immediately preceding the month in
which payment is due
› Similar to royalty-based financing because the repayment
schedule is similar to how a royalty payment would be
calculated
› For example, the term sheet might describe loan repayment terms as:
“___ % of the borrower’s preceding month’s net revenue, due and
payable on the 5th day of each month.”
› Percentage of revenue might vary throughout the year
› For example, initially at 8% until the lender has received a certain
amount of repayment that year, then decline to a lower percentage for
the remainder of the year

How to Define Net Revenue
› Typically akin to gross revenue
› Think about how a royalty would be calculated
› When you move from gross to net, you are not typically
netting a lot of items
› For example, you might net out the following items:
› Customer returns
› Shipping charges
› Net revenue is the cash that shows up in the bank (vs.
anything accrued)
› This can vary based on the deal

What is the Return Cap?
› Revenue Loans have a return cap or a repayment amount
› It is a multiple of the amount borrowed—typically 1.3-2.2x
the amount borrowed
› For example, the loan amount is $200,000, and the loan
will not be paid in full until the borrower has paid the
lender 2x the loan amount

Maturity Date
› A revenue loan will have a maturity date
› The loan term is usually 3-5 years
› It may be earlier if the lender has received the return cap
› If the company has not paid back all amounts borrowed
before the maturity date, the remaining amounts will
become due and will be owed on that date via a balloon
payment

How Does Interest Work?
› No predetermined interest rate or payment
› Each payment is allocated between principal and interest
› The amortization is generally like a traditional loan, but is
adjusted based on how much principal has been repaid to
date

Usury Limitations
› Some states have usury limitations
› Interest rate can’t exceed maximum rate allowed under
state law
› The interest rate calculation can only be done at the end
of the term vs. at origination
› Some states have case law precedence for this
› Some states exclude a profit share from the definition of
interest (see, e.g., Texas)
› Choice of law and the physical location of the lender and
borrower also impact whether usury restrictions apply

Success Fee
› A revenue loan may include a success fee
› What is a success fee?
› A success fee is a payment due to the lender on the sale of the
company
› Success fees can live beyond the term of the loan
› For example, they might continue until the later of (i) two years past the
loan termination date or (ii) the fifth anniversary of the making of the
loan

Early Buy-Out Option
› Sometimes a borrower can pay off a revenue loan early,
for less than the return cap
› A typical formulation might look like:
“In the event the borrower consummates a Qualified Equity
Financing within 24 months of the closing date, the borrower may
repay the loan by exercising the early buy-out option.”
› Define a Qualified Equity Financing
› Ex: $1 million new money
› The borrower pays the lender an amount of cash and/or
equity issued on same terms as in Qualified Equity
Financing

Security & Subordination
› The revenue loan lender will take security interest in all of
the company’s assets
› But, the lender may subordinate to bank loans, and
security interests relating to equipment and other hard
assets
› Revenue loan agreement may only allow certain
“permitted liens” on the company or its assets

Revenue Audits
› Lenders will want the right to check on a borrower’s level
of revenues
› Lender reviews financial statements
› Lender may obtain the right to view the borrower’s bank
accounts in real time

Restrictive Covenants
› The lender may impose some restrictions intended to
protect the revenue stream
› For example, the borrower may not take on additional
debt or liens, loan its own capital, or dispose of material
assets without the lender’s consent

Questions?
25

Questions?
Contact:
Joe Wallin
wallin@carneylaw.com
206.607.4157

Legal Guide to Revenue Loans Presentation

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