Revolver vs term loan

A revolving credit facility and a term loan both provide debt, but they solve different cash problems.

A revolver lets a company draw, repay and redraw up to an agreed limit during an availability period. A term loan provides a defined amount, usually at closing or in agreed tranches, and principal that is repaid normally cannot be borrowed again.

Growth lending is not synonymous with term debt. A growth company may use a term loan, a revolver or a combination, depending on what creates the cash need and how that need unwinds.

The short comparison

How a revolver works

The lender agrees a maximum commitment, for example £5 million. The company might draw £2 million, repay £1 million after customer receipts arrive, then draw again later. Interest is generally paid on the balance in use, while a commitment fee may apply to some or all of the undrawn amount.

The facility has an availability period and a maturity date. Drawdowns remain subject to the agreement, which may require the company to be in compliance with covenants and free from default each time it borrows.

Some revolvers are cash flow based, meaning the lender relies mainly on the company's ability to generate cash. Others use a borrowing base: a formula linked to eligible assets such as receivables. If eligible assets fall, the amount available can fall too.

How a term loan works

A term loan provides capital for a defined period. The company may receive all the cash at closing or draw it in tranches before agreed deadlines.

The repayment schedule can include an initial interest-only period, followed by amortisation. Amortisation means repaying principal in instalments. Some facilities leave a larger final payment at maturity, known as a bullet.

Once principal is repaid, it normally cannot be borrowed again. That makes a term loan less reusable than a revolver, but often better aligned with a one-off investment or a planned extension of runway.

Match the facility to the cash cycle

The right structure depends on whether the funding need reverses.

A short working capital gap can reverse when customers pay. That pattern suits a revolver: draw to fund the gap, repay from receipts, then reuse the line when another gap appears.

Product development, market expansion or an acquisition does not produce a matching receipt next month. These are longer-duration investments, so a term loan may be a better fit. Repayment should be set against the cash generation, equity raise or refinancing expected after the investment has had time to work.

Using short-term revolving debt for a permanent cash need creates renewal risk. Using a term loan for a fluctuating short-term need can leave the company paying for cash it does not always need.

Working capital is more than low cash

Working capital is the cash tied up in day-to-day trading. A company that pays suppliers and employees before collecting customer invoices may need financing even while revenue is growing.

A useful revolver has a direct repayment source. For a receivables facility, that may be customer collections. For a seasonal business, it may be cash released when stock is sold.

A company that is consistently loss-making has a different problem. If every draw funds ongoing burn and no operating cash repays the line, the revolver can become permanent debt in practice. The company may need term debt, equity or a smaller cost base instead.

Why term loans are common in venture debt

Many venture debt facilities are term loans because the borrower is investing ahead of profit and wants to extend runway to a future milestone. The debt is not expected to revolve with a predictable working capital cycle.

A lender may size the facility using cash runway, investor support, enterprise value, recurring revenue or future equity access. The structure often includes a fixed maturity, an interest-only period, amortisation, security and sometimes warrants.

That does not mean every growth company should use term debt. Later-stage businesses with predictable revenue, positive cash generation or valuable receivables may have credible revolving options.

Availability is the central revolver question

A revolver is valuable because cash is available when needed. That promise is weaker if every draw requires fresh lender discretion or if the borrowing base is volatile.

Check:

• what conditions must be satisfied for every draw;
• how often the borrowing base is calculated;
• which receivables or assets are excluded;
• whether customer concentration reduces eligibility;
• what happens if availability falls below the balance already drawn;
• whether unused commitments can be cancelled; and
• how long the facility remains available before renewal.

A committed limit is not the same as guaranteed cash. Model the amount likely to be available during a downside month, not only at closing.

The cost comparison

A revolver can reduce interest cost because the company pays interest only while money is drawn. But the total cost can also include arrangement fees, commitment fees on unused capacity, utilisation fees, monitoring costs and legal fees.

A term loan begins accruing interest when drawn. If the full amount is funded at closing, the company pays for all of it even if some sits unused in the bank. Tranches can reduce this carry cost but may add conditions and uncertainty.

Compare both structures over a monthly cash forecast. Include base rates, margins, fees, minimum interest, prepayment costs, warrants and the amount of principal outstanding at maturity.

A simple worked example

Suppose a software company needs up to £2 million because large customers pay annually, but payroll is monthly. The gap rises before renewal season and falls after invoices are collected.

With a £2 million revolver, the company could draw £1.5 million for four months, repay it after collections and pay interest mainly during that period, plus any commitment fee. A £2 million term loan would put the full cash on the balance sheet and charge interest until principal is repaid under the schedule.

Now suppose the same company needs £2 million to build a new product over 18 months. There is no near-term receipt that naturally repays each draw. A term loan with an interest-only period may fit better than a revolver that must be renewed or cleaned down before the product generates cash.

The label does not make the decision. The timing of the cash need and its repayment source do.

Repayment and maturity risk

A revolver often leaves the drawn balance due at maturity. The company may expect to renew it, but renewal is a new credit decision. Performance, lender appetite and market conditions may have changed.

A fully amortising term loan reduces principal over time but increases monthly cash outflow. A bullet or partly amortising term loan protects near-term cash but leaves more refinance risk at maturity.

For either structure, model what happens if revenue is 20% below plan, customer payments are late or the next equity round takes six months longer. The repayment schedule should survive a plausible delay.

Covenants and control

Both structures can contain financial covenants, reporting duties, restrictions and events of default. Revolvers may also require frequent information about receivables, cash and availability.

A borrowing-base facility can be operationally demanding because finance teams must report eligible assets and reconcile collections. A term loan may be simpler to administer, but it can still impose minimum liquidity, revenue or runway tests.

Ask what the lender can do if a covenant is breached: stop new drawings, increase pricing, accelerate the debt or control cash. With a revolver, losing the ability to draw may itself create a liquidity crisis.

Security and priority

Either structure may be secured over company assets. If a company wants both a revolver and term debt from different providers, the lenders must agree whose security ranks first and how enforcement proceeds.

The revolver lender may seek priority over receivables and cash that support working capital, while the term lender may seek wider security. These intercreditor arrangements can add cost, time and restrictions, so consider the combined structure early.

A combined facility can work

Some companies use a term loan for the permanent funding need and a smaller revolver for seasonal or short-term variation. This can align each pound of debt with its purpose.

A combined facility is not automatically better. Check whether the two parts share covenants, security and events of default; whether a problem in one blocks the other; and whether undrawn revolver capacity remains available after term debt is funded.

Questions to answer before choosing

• Is the cash need temporary and self-reversing, or a longer-term investment?
• What identifiable source will repay the borrowing?
• Will the balance rise and fall, or stay drawn for most of the term?
• How certain must future access to cash be?
• Can the finance team support frequent availability reporting?
• What happens if a receivable becomes ineligible or a covenant is missed?
• How much monthly debt service can the downside plan afford?
• Will principal remain outstanding at maturity, and how will it be repaid?
• Would a combination of term debt and revolving capacity fit better?

Red flags

• Using a revolver to fund indefinite operating losses without a credible repayment event.
• Assuming the whole revolving commitment will always be available.
• Drawing a full term loan far before the cash is needed and paying interest on idle funds.
• Comparing only margins while ignoring commitment fees, monitoring costs and warrants.
• Planning to refinance at maturity without a downside alternative.
• Allowing repayment to begin before the funded investment can reasonably deliver value.

The bottom line

Choose a revolver when the cash need rises and falls and there is a dependable near-term source of repayment. Choose a term loan when the company is funding a longer-term investment and needs repayment to be spread over time.

Growth lending can include either structure. Start with the cash pattern, not the product name: when will money be needed, when will it return, and what happens if the plan is late? The facility that matches those answers is usually the more useful one.

Where to go next

• What can growth debt be used for? matches common funding needs to appropriate debt structures.
• Growth debt repayment structures compares interest-only periods, amortisation and maturity structures.
• Growth debt interest rates and costs builds a complete view of cash cost, fees and equity-linked value.
• Who provides growth debt? maps the provider types and their different incentives.