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A Looming Crisis: Selling MRR Contracts to Fund Long-Term Cash Burn
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A Looming Crisis: Selling MRR Contracts to Fund Long-Term Cash Burn

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Mike Walkinshaw
CEO & Director
Photo by Diego Jimenez on Unsplash

Short-term finance like MRR to ARR loans can be a great solution for funding short-term operational or seasonal needs. However, if these loans are used to address long-term cash burn, they can create a precarious financial situation for SaaS businesses.

This blog post examines when MRR to ARR loans may make sense and when to avoid them.

In the past month, we’ve shared a few articles about the increase in short-term loans that promise to convert a SaaS company’s MRR to ARR.

In the examples we have seen, the debt provider offers to pay ten months of MRR today in exchange for collecting 12 months of MRR directly into their own account. We calculated the actual cost of these loans by working out the actual amortized interest rate here. While the cost is concerning, the bigger problem is how the loans are used.

Using short-term loans to finance long-term cash burn is unsustainable and creates additional transaction costs due to the need to frequently refinance.

When to Choose MRR to ARR Loans

Companies like Clearbanc, Stripe Capital, Pipe, and FounderPath offer short-term MRR to ARR loans.

MRR to ARR loans are similar to a well-known form of finance called Accounts Receivable Factoring. This financing model is common in manufacturing and other capital-heavy businesses to help manage month-to-month cash flow.

For example, a manufacturing business may sell, or factor, a receivable due in 60 days in exchange for cash now in order to facilitate the purchase of inventory to keep manufacturing going at full speed. Manufacturing businesses often have a 120 to 180-day lag between when they spend money on raw materials and when they collect from customers. This gap between cash out and cash in is called working capital.  

When used to fund a short-term need that will result in more inbound cash in the near future, accounts receivable factoring is a useful but expensive tool. It is not considered the best option to fund working capital, but it is considered a viable option when cheaper options are unavailable. 

The software equivalent of accounts receivable factoring is an MRR to ARR loan. Instead of using the loan to fund inventory, companies can use it to fund a marketing or sales program that has a proven success rate and rapid customer adoption cycles. Exchanging a small percentage of your 12-month MRR contracts for cash to invest in a proven revenue-generating program that can deliver more new customers with low churn rates adds value to your company.

However, this is not what we see happening in the market. Instead, companies are:

  1. Selling a large portion of their MRR contracts
  2. Funding larger cash burns, including product development and general and administrative costs
  3. Relying on sales and marketing programs that are not yet mature enough to deliver proven results

In effect, companies are funding product development and general and administrative costs by selling their near-term MRR contracts. Product development and general and administrative expenses will not directly create new MRR contracts in the near future. 

The best use of TIMIA Capital’s products is to directly fund marketing expenditure. We often caution against using our capital to fund product development. Funding product development costs with very short-term MRR loans is even more ill-suited. 

Why Does This Matter?  

If a company converted 50% of its MRR contracts to cash with an MRR to ARR loan to fund three months of cash burn, where is the funding for the rest of the year coming from?  

Few technology lenders would lend to a company that has adopted that financing model since technology lenders view revenue as their security. The bottom line is that factored revenue can not be used as security. New equity investors would sense a bargain if they were interested at all.    

Success with MRR to ARR loans is dependent on several major factors:

  1. You are delivering a product or service with good margins
  2. You don’t have high churn
  3. You see a direct correlation between marketing spend and new MRR
  4. The amount of the MRR to ARR loan is small and in proportion to the online marketing spend
  5. Your business keeps growing and there is no economic downturn

If any of these factors are missing, MRR to ARR loans will make your cash flow situation much more difficult.

Capital for Long-Term Growth

Long-term debt like TIMIA Capital’s offerings makes a lot more sense for growing SaaS and software-enabled companies. 

Unlike MRR to ARR loans, TIMIA’s growth capital is transparent and supports sustainable growth. Come talk to us if you’re a growing SaaS or software-enabled services business with between $2 and $20 million ARR.

Looking for non-dilutive capital?

TIMIA Capital works with recurring revenue technology
businesses between $2 – $20 million ARR.

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Mike Walkinshaw
CEO & Director

Mike joined TIMIA as the CEO in August 2015. He is experienced in revenue financing, venture debt and venture capital investing. Previous to TIMIA, he was the Co-Founder and Managing Partner of Fronterra Capital, as well as Managing Partner, CFO at Chrysalix Energy. Before working on the finance side, Mike worked in the technology manufacturing sector in product and program management, strategy and planning.

Mike has a Bachelor of Commerce from University of BC, and a formal CPA designation.