As we like to remind people, “equity” crowdfunding is a misnomer. The word suggests issuing stock, but businesses raising money through investment crowdfunding may also issue debt—through convertible notes, standard loans or a variation called a revenue share agreement. In these deals, investors extend money to a business, and are paid back through a share of the business’ revenues, usually on a quarterly or annual basis, until the loan plus an agreed upon premium is paid off. For established companies that are generating revenue, it’s a good option to consider. And for investors, these deals can be less risky than equity and, as new data from Crowdfund Capital Advisors shows, lucrative, too.
As of June 30th, of the 134 companies that successfully closed and funded Regulation Crowdfunding campaigns, a small but significant group – 13% (18 companies) – have chosen to issue investor securities in the form of Revenue Share. This group of companies raised $5.4 million in total (an average of $298,000 each) from an engaged an audience base of over 3,300 investors, many of which are now customers with a vested interest in the success of that business. Since these investors can benefit from an immediate ROI (as the companies repay their investors from the company’s revenues), there is incentive for investors to be marketing ambassadors for the business.
The yield on these securities appears to be greater than traditional investments (and the instruments have shorter terms), so there is benefit for investors. Yet these potential returns do not come without risk. Not all the companies that are offering Revenue Share are producing income at the time of the sale of the securities, so it is best to do your research and give more consideration to those that are producing current revenues, which may increase the chance of repayment.
So what is Revenue Share?
Revenue Share means that a company will pay back its investors a percent of gross revenues each month until a stated return is made. This return could be within a specific time window or until the stated return is met. Revenue Share is like debt in the sense that individuals are investing money in companies, but rather than receiving interest and principal payments, they receive their pro-rata share of the percent of gross revenue repayment.
Revenue Share is particularly beneficial for companies that experience seasonality in their cash flows. During months with higher revenues, they can repay more of their debt. On the flip side, when sales are slower, their repayment would be less. This eases a business’s cash burn concern.
When looking at the industries of the 18 companies that offered Revenue Share terms, most were restaurants or craft breweries/distilleries. All of them have current (or future) customers and hence cash flow. These 18 companies had over 3,300 investors who now have a vested interest in the success of these businesses and will most likely be bringing their friends, family and community to their “investment.” Outside of capital, this becomes another benefit to crowdfunding – engaging a community.
Digging deeper into the data, we find 2 key variables:
1. Return on Investment: On average, companies offered a 1.56 multiple; meaning an issuer pledges to pay investors back 1.56 times their money—a $56 return for every $100 dollars initially invested.
2. Investment Period: Specified maturity periods—a defined period within which the business will repay the investor capital—are averaging about 46 months (about 3 years and 3 quarters).
In breakdown terms, the companies with specified maturity periods average a 56% return over 3.83 years – equal to a projected 14.6% return a year. This provides a possibly attractive investment alternative for investors, given that annual compound interest returns on bonds average 2% and stocks about 6%.
These companies raised on average $298,494. It would seem this would be enough capital to achieve their anticipated outcomes as they are not high-tech, high-cash burn entities. However, only 4 of the 18 companies were showing revenue in their Annual Report, meaning only these select few could start repayments. A notable risk for investors.
More than half (56%) of these companies stipulate maturity periods. The others have chosen “until,” which means that they will continue to repay the investor capital until the multiple is achieved, however long that takes. The longer the repayment period, the lower the yield becomes for investors. Understandably, companies are hesitant to issue a definitive timeline for investors’ return on investment out of financial concern that if projected revenues do not come into fruition, then the company is still obligated to pay out.
Although it is too soon to tell actual revenue trends, what can be observed is the small pool companies participating in Revenue Shares show a promised return on investors’ investment well above the normal rate of return for traditional investing. In addition, over 50% prove to be confident enough to hold themselves accountable to their own measures of success as well as their investors by committing a ROI deadline for their investors.
For investors, the take-away should be that Revenue Share could be an attractive diversification strategy for your portfolio. However, it’s important to consider if the company is generating revenue to minimize your risk of not getting paid back and maximize your expected return.
This post was written and originally published by Crowdfund Capital Advisors, a crowdfunding research and advisory firm founded by Jason Best and Woodie Neiss.