I just answered this question on quora -- please vote it up here.
I absolutely think that royalty and revenue based finance should be considered by angels and funds. Ok -- I'm biased. I'm so convinced that revenue based finance is important that I started a company called RevenueLoan in addition to my equity orient Seattle based angel fund Founder's Co-op to pursue this model. Why? Because I think that there are lots of instances and lots of companies where this model is preferable for the entrepreneur than straight equity. Let me explain, revenue based investments have the following benefits when compared to straight equity:
- Generally, revenue based investments are cheaper for the entrepreneur than straight equity. Often, significantly cheaper. If you think about selling equity -- often that's for 20% of the company. One can think of that equity sale as a 20% perpetual royalty.
- Revenue based investments don't involve significant control provisions. Entrepreneurs who don't want the hassle of dealing with investors on the board of directors are attracted to royalty based finance.
- Revenue based investment align entrepreneur and investor incentives in growing revenues and growing the revenue line and thus, growing the business. This is GOOD! And the right focus. When the entrepreneur and business increase sales, the entrepreneur wins and the investor wins. When growing sales takes longer, the entrepreneur isn't punished. This is GOOD!
- The main objection to revenue based investments in my opinion revolve around the precious commodity of cash and not profit. It's true, revenue based investment require the company to have sufficient margin to pay them off and they take precious cash out of the company. That said, no investment is free and the benefits of revenue based investments far out weigh the costs.
In short, in my opinion, royalty and revenue based investments are a great tool for angels to have in their tool chest.
