The small business landscape is drastically different than it was a decade or two ago—a huge reason for this being the rise of e-commerce. E-commerce platforms, like Shopify and BigCommerce, have democratized online entrepreneurship and introduced a new class of founder. Like all founders, these new-age entrepreneurs require funding to grow; however, the financial world hasn’t evolved to meet their needs.
“I think the traditional model that financial institutions use to assess risk is based on risk factors that were developed 20-30 years ago. We do business so differently in 2019; we have such different indicators for success, like online sales or ad performance.” – Erin Bury, Co-Founder of Willful
To understand why this is happening; let’s take a step back and look at the state of startups as a whole. We know that just over 50% of startups survive their first 5 years (and that number decreases to 30% after 10 years). One of the main reasons startups fail is cash flow problems.
So, wait a second. Let’s review. There are more startups than ever before yet more than half of them have a 5-6-year expiry date. Why is there such a disconnect and why aren’t we doing a better job of setting new businesses up for success?
Lack of access to capital is a major barrier for entrepreneurs
The majority of small and medium-sized businesses are debt-financed. At the same time, 81% of American entrepreneurs do not have access to debt or equity financing since it requires significant collateral that many of these businesses don’t have. This becomes an even bigger struggle for online businesses with fewer hard assets.
How did we get here?
The rise of e-commerce
The e-commerce market has grown and evolved over the past decade, and there are no signs of it slowing down any time soon. In 2017, online retail sales were in the ballpark of $468 billion. It’s projected it will reach over 735 billion U.S dollars by 2023. Yet e-commerce is a subset of SMBs that remains underserved.
“We talked to banks and they all wanted to know what our receivables look like? We’re direct-to-consumer so we don’t have receivables. We talked to other banks and they offered loans with 50%-70% interest rates? There’s no way we’re going to do that, that’s crazy! ” -Kristoffer Quiaoit, Founder of NUI
Historically, banks lend money based on things like hard assets. With the rise of asset-light online businesses, traditional banking options don’t make sense anymore. These new companies simply don’t fit the banks’ traditional underwriting models.
Not only is it difficult for online businesses to get the funding they need to grow, but their options are shrinking as well. As the banks become bigger through expansion and consolidation, small and medium-sized banks are disappearing. This creates a gap in banking solutions for newer companies.
The reality is big banks that don’t want to assume the risk of lending to newer businesses. They also aren’t incentivized to give smaller loans to this growing segment of brands because they don’t represent the most profitable opportunities.
VC funding is for the 1%
Venture capital gets a lot of publicity as a source of funding for transformational startups. But it’s really only accessible and worthwhile to a very small cohort of businesses. It’s focused on a small percentage of businesses with the potential for high growth and major disruption of entire industries. It’s also a biased source of funding and the numbers reflect this:
- Less than 1 percent of venture capital dollars went to rural areas
- Only 3% of venture financing went to female founders in 2018
- Only 1.8% went to Latino founders
- Women of color CEOs get less than 1% of funding each year
So, for a small portion of emerging businesses, VC funding makes sense. Where does that leave the other 99%?
Alternative funding structures are desperately needed
The nature of business is undergoing a digital transformation. E-commerce sales represented more than half of all retail sales growth in 2018.
With online businesses being so crucial to the economy, it’s high time we offer e-commerce funding alternatives that empower these businesses to grow and thrive.
The good news is, they do exist!
Revenue-based financing is the future of e-commerce funding
Revenue-based (or revenue-share) financing is a form of financing that has the best parts of equity and debt while avoiding the downsides of each. It is funding in exchange for a certain percentage of future revenues. Unlike VC funding, it doesn’t require founders to give up equity in their business and unlike bank loans, it doesn’t require a risky personal guarantee.
Revenue-based financing is the new face of e-commerce funding. It’s a viable option for fast-growing businesses because of the massive shift in the landscape of products and services accessible to internet-enabled companies of all shapes and sizes. It makes more sense now than ever because of the availability and adoption of business tools that provide standardized data sets, like Shopify and BigCommerce. This makes it possible to analyze and provide financing on personalized terms, at scale, and free from bias.
You can look at revenue-share financing as a hybrid of debt and venture capital. Though it has been around for a while in mining, pharma, and film industries, it’s now picked up steam in the world of tech startups and bootstrapped companies. Reason being that the coveted “big exit” is very rare for this group. And while some circumstances are best suited for venture capital, others are more suited for other types of funding. A revenue share model aligns incentives for investors and founders for DTC, e-commerce, and subscription-based products where cash is king.
Over the course of 2018, Village Capital and Kauffman Foundation interviewed more than 200 investors and asset managers about alternative funding mechanisms and learned that 63% of them were willing to explore or co-create a revenue-based financing structure.
Founders, we’re here for you. Got 20 minutes?
Here at Clearbanc, we are relentlessly striving to help founders overcome these financial hurdles and help them win. We offer a revenue-share e-commerce funding model that provides founder-friendly capital to help online businesses grow responsibly. To find out if you’re qualified for Clearbanc funding, complete the 20-min term sheet.