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What are Business Acquisition Loans?

Business acquisition loans...

are not something that everyone has to deal with. Only a few entrepreneurs out there that are looking to grow their business will have to utilize business acquisition loans. Some people will have to utilize them more than once if they are trying to grow an empire.

Business acquisition loans can also be used to buy out a partner in a company. It is a structured form of financing that will help you create attractive terms for all parties.

There are many different options out there for financing your next business acquisition. Some you may have considered. Others that you may just be learning about. Taking the next step when acquiring a business is a huge decision and it can impact you for the rest of your life. That is why determining the right type of acquisition loan for you is important. So what type of business acquisition loans are out there?

Bank Financing

Traditional bank loans will typically ask you to but 20% down at the beginning. You will then pay a fixed monthly payment every month. Depending on what type of funding you are applying for, the terms can be different. For example, if you are applying for an SBA loan there is less flexibility in the way you can structure the deal.

Bank financing can be extremely hard to secure especially if you have no business credit or poor personal credit.

SBA Financing

Most businesses have intangible assets that are difficult to value and nearly impossible to collateralize. You will hear terms like “blue sky” or “goodwill” to describe these assets.

Due to the more flexible collateralization standards associated with U.S. Small Business Administration (SBA) loans, these assets can be financed along with the more tangible assets that are a part of the business acquisition. This is just one reason why a business owner should consider an SBA loan for a change of ownership or business acquisition, over a conventional loan.

Seller Financing

In this funding scenario, the seller develops its own offerings for business acquisition loans. The seller acts as the bank would and collects the payments directly from the buyer. The buyer will pay their down payment directly to the seller and continue to make payments directly to the seller. The benefit to both parties is there is no set amount made for the down payment and the terms are negotiable. Both parties simply have to agree to the terms to get the deal done.

This is also a more personal option because the new business owner is working directly with the seller who has usually invested their own time and money into the business. The seller has a desire to see the business succeed. The buyer and the seller can determine the best form of payment. This includes a portion of sales or fixed payment each month. This is also the fastest way to closing on a true loan product.

SBA 2018 Guidance:

Small Business Association (SBA) loans are an excellent way of financing a business purchase as they are partially-guaranteed by the SBA, which means banks are generally happy to use the 7(a) program as they are able to offer loans at favorable terms and risk to buyers. Many buyers rely on the availability of these loans when making decisions about small business acquisitions.

It can be challenging to get an SBA loan, but there’s no doubt that these loans have made buying and selling businesses much quicker and easier. Looking forward into 2018, there will be some changes that will impact acquisition financing, however, and these changes will alter the usual bank/seller financing ratio. Here’s what we’ve learned:

Currently, on loan deals with over $500,000 in Goodwill, the SBA requires 25% equity. The structure is typically 75% from the bank, with the remaining balance on a seller note/buyer equity. For loans with less than $500,000 in goodwill, the structure is 80% bank financing, 20% seller note/buyer equity.  Any seller note is subordinated to the bank and put on full standby for a minimum of 2 years. Buyers have embraced this structure because under the right circumstances they are able to purchase companies with very little money down. 

Under the new SBA rules, they are eliminating the 20-25% minimum equity requirement. Banks will be able to finance up to 90% of the deal. Out of the remaining 10% needed, however, at least 5% must come in the form of cash from the buyer. Any additional money needed for the equity portion that is financed via a seller note needs to be put on full standby for the life of the loan. So if the life of the loan is 10 years, that is the length of the standby period. Ouch. 

sba 7a acquisition financing changes 2018

Pros: SBA will allow financing up to 90% in 2018. Cons: Buyers will be required to bring at least 5% cash.

So how might this play out in real life. Here are some simple examples:

For a business with a $1,000,0000 purchase price, the bank would finance $900,000. Equity from the buyer would equal $50,000 with a seller note for $50,000 (on full standby for the life of the loan). The seller would still get $950,000 at close. The remaining $50,000 would have to be on full standby until the SBA loan is paid off. Once advantage of this versus what exists presently for the seller is that they will walk away with what is most often the most important item to them: cash at close. 

The advantage of this change is that the full standby for the life of the loan is only on the equity portion of these deals. There may be times where because of the industry, the strength of the borrower, or other factors, banks will require more equity. In those cases, banks can finance a second seller note with the buyer making payments from the start.

An example of this would be:

For a business with a $1,000,000 purchase price, the bank would finance an $800,000 loan (due to a perceived weakness). Equity from the buyer would equal $50,000 cash with a $50,000 seller note on full standby for the life of the loan and a $100,000 second seller note where payments start from day 1.

Calder Capital has experience in advising our clients and assisting them in finding the financing they need in order to make a business purchase. After the first of the year, there will be more work upfront in managing seller’s expectations of how they will be compensated for their businesses. When all is said and done, however, in many cases sellers will walk away with more cash at close than they do under the current loan guidelines.


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