ComparisonsEntrepreneurship

Are Revenue-Sharing Financing Companies like Clearbanc or SMELoans Islamic?

Clearbanc is probably the most well-known of a new breed of SME finance companies emerging in the venture capital world: the revenue-sharers or “merchant cash advance” companies.

They proudly declare that what they are offering is not equity or a loan. It is something else.

They offer businesses with large cash flow needs (e.g. an Amazon business that needs to buy lots of stock to sell it on) a predictable way of injecting their business with some capital.

We think what they are doing clearly has a market and is a better way to do things than a traditional loan that compounds and must be paid back according to a fixed schedule.

However ultimately we conclude the Clearbanc and other revenue-sharing models are not sharia-compliant in their current guise. We also briefly discuss SMEloans below. In brief, they are not sharia-compliant either. Finally, we share an alternative sharia-compliant SME financing startup that have just started up but we have high hopes for.

How it works

Clearbanc’s data analysis engine looks through your company’s track record and cash flows and decides that you should be given £10,000 at a 10% fixed fee.

You will pay back in total £11,000. Clearbanc will extract this by taking 10% (this number varies from company to company) of your revenue until all £11,000 is paid up.

The innovation here is:

  1. In the ability of the Clearbanc model to crunch the numbers fast in order to work out what the optimal “loan” is and on what terms; and
  2. The method of repayment.

But is it halal?

Simply put, no.

The reason this advance is not halal is because Clearbanc is giving money to the company and getting back more than they put in.

Option 1

Now, if Clearbanc put money in as equity, shared in the risk, and got out more than they put in – that would be fine. The Clearbanc money actually bought something – equity.

Option 2

Alternatively, if Clearbanc money bought a machine for the company which it then sold to the company at a mark-up – that too would be fine. The Clearbanc money actually bought something – the machine – and they can decide to sell it to you for more.

Option 3

Or Clearbanc could even buy a machine that you already have and lease it back to you for a fixed term that ultimately nets them the exact same amount of money they would otherwise get. They could then gift you back the machine. Again, the net economics are the same but Clearbanc has to own an asset.

In the absence of anything like that I’m afraid Clearbanc is just a loan from an Islamic law perspective.

The fact that it allows you to pay back in line with your revenue does not change the fact that Clearbanc makes a fixed, predictable return on its capital alone. Yes, if you don’t make revenue Clearbanc will not still demand a payment, but ultimately, when you start making money again, Clearbanc’s repayments will also restart.

You might say “well that’s different to a normal bank, which would use its security or guarantee to get the money out of you anyway in that situation.”

Agreed. Clearbanc is nicer. It is a lender that allows you some slack if you’re not making revenue that month (at least that is my impression – I haven’t managed to track down the detailed legal contracts you have to sign up to with Clearbanc to pick through. It may be that in the fine print the protections Clearbanc gets basically get it similar protections as a conventional lender).

So Clearbanc is basically a nicer, more benevolent and flexible lender in the eyes of the Sharia. But it is still a lender.

Potential Solutions

All is not lost though.

Clearbanc could quite easily structure a sharia-compliant version of what they offer, and in doing so, open up the Muslim market – a market that constitutes 20% of the world’s population.

For a start it could go for options 1-3 above. But if it did that it may be going into a different sort of business.

The business Clearbanc is in, is the business of crunching numbers quickly, making a decision for people equally quickly, and then fixing a flat fee at the outset and making the repayment terms proportionate to the borrowing company’s revenue.

To deliver on that sort of business, here is a really rough sketch of a structure that could work:

Clearbanc enters into a revenue sharing agreement with the company in return for a fixed percentage of the returns. Clearbanc says “I own, through this contract we have just agreed, 10% of this revenue share, until such time as I decide to sell or gift this stake to someone else.” Simultaneously, Clearbanc also enters into a unilateral wa’d agreement (a promise) to the company that it will sell them back the revenue share interest at such point that a 10% mark-up on the initial investment amount. The economics are identical but there is an actual beneficial (not legal) ownership of sorts in the actual business (or at least that part of the business that generates that revenue). Clearbanc must also bear some ownership risk as part of its revenue share.

The magic here would lie in the contract drafting to ensure that the risk is properly allocated between the two parties and that a proper stake is being taken by Clearbanc for the duration of its revenue-sharing hold over the business.

SMELoans

If you search for something like “halal SME loan” or “halal SME finance” or “SME financing halal” you’ll come across these guys. These guys are fundamentally the same business model as Clearbanc, but they claim to be sharia-compliant on their website. They are not sharia-compliant.

To be fair to them, if you call them, they will tell you that they are not certified and all they have done is replace the word “interest” with “profit” in their standard financing agreements. I also understand they are looking to structure something as properly sharia-compliant in the coming year. But we do think it is disingenuous to hold oneself out as offering a sharia-compliant offering when you are not.

An Islamic alternative?

The good news is there are a number of interesting sharia-compliant startups currently tackling this problem (and some mainstream players who are also looking to open a window into this market and are doing it properly).

We have teamed up with one such provider called Qardus that is in the process of finalising its FCA authorisation. If you are a busines looking for such funding you can apply here.

We look forward to welcoming more participants to the market – we think this is a real need for the Muslim community and are keen to support new entrants.

Conclusions

Clearbanc and other revenue-sharing models that we have come across are not sharia-compliant in their current guise.

But with a few quick tweaks they can be. We hope, for Muslims’ sake they do make those tweaks and give such option to Muslims too.

2 Comments

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  • “Yes, if you don’t make revenue Clearbanc will not still demand a payment, but ultimately, when you start making money again, Clearbanc’s repayments will also restart.”

    This is very interesting – IFRS (the accounting standard adopted by the majority of global companies) also has a similar concept (known as contingent settlement provisions): If a financial instrument (e.g a loan or “equity”) requires the entity to make a payment in the event of the occurrence (or non-occurence) of uncertain future events that are beyond the control of both the issuer and holder of the instrument (which would include future revenue targets), then that instrument would need to be accounted for as a financial liability (IAS 32.25).

    Consequently, if an entity were to take on such a loan, it would appear in their financial statements as a liability (of course all facts and circumstances will need to be considered before concluding).

    Reply
  • Great article Ibrahim!

    This is somewhat similar to what Stripe (the online payment processor) offers to online businesses as part of the Stripe Capital product. They take a cut of sales in order to pay back the loan, plus a fixed fee for the finance.
    It’s not shariah compliant but it’s good to see that flexible repayment of loans is becoming more prevalent.

    I really like your idea of a conditional equity buy-back contract based financing model. It aligns the goals of both the financier (to make a return on their monetary investment) and the SME (to successfully turn a profit) and makes them partners in the success of the SME. However it also allows the financier to exit as quickly as their required return is realised so as not to be “stuck” with a potentially illiquid private equity share.

    Reply

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