More and more special situations investors are looking at growth investment opportunities. As part of that strategy, recurring revenue financings should be considered. These are financings to businesses – typically in the technology sector or which have a SaaS business model – but where significant growth expenditures can result in low or negative EBITDA.
The terms of recurring revenue financings generally converge on the same central thesis – an acknowledgment that a borrower in this type of financing is likely generating a de minimis amount of positive cash flow while in growth mode, in exchange for an acknowledgment by the borrower that these types of financings create more credit risk than a traditional cash flow financing.
In a recurring revenue financing, for a period of time after the closing date, a borrower will be subject to financial covenants based on recurring revenue and liquidity, and less stringent debt service requirements, in exchange for higher pricing. After one to three years, a borrower will be expected to have achieved positive EBITDA. At that time, the terms of the financing will 'flip' into more customary terms, including a total debt to EBITDA leverage covenant and a pricing stepdown.
Ropes & Gray – in both the US and Europe – has experience in these types of investments and we have prepared a primer which describes the key provisions of a recurring revenue financing for those exploring these opportunities. Please click here if you’d like more information.
As M&A activity in the technology space continues to grow, an increasing number of private equity sponsors are utilizing recurring revenue financings to partly finance these types of acquisitions.