We will lay out five primary ways to finance a business acquisition for small to lower-mid-market businesses.  Additionally, we will highlight why planning for the financing component before issuing an LOI is crucial.

Let’s explore the five primary methods to financing a small business acquisition.  No single method needs to be considered in isolation.  Instead, a potential purchaser should consider all the relevant methods and determine the best path forward for their unique circumstances.  It is important to note that most small business acquisitions are structured utilizing a combination of multiple financing methods.

1. Your Own Funds

If you have the available funds including savings, retirement accounts, home equity, or other liquid investments, you may consider the “all cash” purchase method.  As with any major purchase, the buyer must assess the alternative uses of such funds and determine whether they can sustain the lifestyle as well as meet their current and future obligations should they deplete these resources fully, substantially, or partially.

It is an uncommon practice for even small businesses (up to $10M) to be acquired for cash only.  Most buyers will use their funds in conjunction with seller financing, a business loan, or loans from family, friends or partner(s).

1. Loans from Family or Friends

We do see loans from parents, other family members, and friends in start-ups as well as business acquisitions.  These tend to be for the purchase of businesses on the smaller size.  While this method has its advantages (i.e., quick access to cash, faith in your capabilities, etc.), mixing money with family and friends has the opportunity to damage relationships.

When considering taking a loan from a family member or friend, it is important to seek legal guidance to ensure that all parties are fully aware of, and in acceptance of, the terms of the loan.  In addition, the loan must be developed in accordance with regulations including, but not limited to, IRS requirements, and legal entity and state regulations.

1. Partner(s) or “Angel” Investors

Maybe the idea of owning the business without complimentary skills and financial resources leads you to consider bringing in a partner or partners.  You may have people within your network that can provide value to the transaction whether through financial resources, skill set / experience, connections, or other contributions.  It will be crucial for you to seek legal guidance to properly develop the operating agreement and ensure each partner clearly understands the ownership split, responsibilities, and decision making authority.

Another alternative, angel investors, are typically wealthy individuals who are looking for opportunities to provide capital to profitable endeavors whereby their return will be substantial.  When thinking of approaching an angel investor, your pitch must be extremely solid, even more so than what you would need in your business case for a lending institution.  However, keep your pitch to the point.  Angel investors value their time as much as they value their financial resources.

1. Seller Financing

Another common approach to finance an acquisition is through use of seller financing whereby the seller provides a loan to the buyer.  The percentage of the overall purchase that is financed through a seller’s note is often around 10% – 25% for small business acquisitions, although there is great variation highly dependent upon the parties involved and the unique circumstances. The loan is amortized over period of time under terms and conditions mutually agreed upon between you and the seller.  While SBA guidelines have changed as of January 2018 (and are subject to change), most banks would like to see that the seller has the confidence in the success of the business going forward to extend seller financing.

The advantages of seller financing include, but are not limited to, not having to meet stringent underwriting requirements, the seller possesses institutional knowledge of the business and its future prospects, potential for greater flexibility in terms and conditions, and a desire to see the business continue to succeed along with strengthening the business case for a lender.  There is also an incentive for a seller to ensure a smooth transition and potentially offer on-going training and support, whether formally through a consulting agreement, or informally by way of availability by phone to address a purchaser’s questions.

As addressed in the opening paragraph, considering the financing methods are important before submission of an LOI.  In the case that an LOI had been submitted without discussion of seller financing upfront, it may be more difficult for the buyer to negotiate the seller to hold a note.  The general outline of the seller financing will also have impact on the financial projections of debt servicing as well as any potential bank financing.

While the seller may not have established underwriting policies or have experience in seller financing, a buyer should keep in mind that the seller wants to know they can trust you to repay them whether from the operations of the business or otherwise.  As such, it is important to develop a solid rapport with the seller as well as present your personal financial statements and credit history.

1. Bank Loans and SBA Loans

Bank loans for business acquisitions can be broken down into two primary categories:

1. Conventional Loans – these loans are difficult to secure from a commercial lending institution to finance a small business acquisition. Conventional lending standards are set to decrease the risk of loss for the lending institution.  Therefore, you must be able to demonstrate near flawless credit history, substantial personal assets, and congruent experience within the specific industry.  Additionally, the need for collateral (i.e., hard assets that can be sold in the event of default to minimize the lender’s losses) is greater.
2. SBA Loans – loans offered through lending institutions where the Small Business Administration (SBA) guarantees a portion of the loan to minimize the lender’s exposure in the case of default by borrower. There are different levels of banks that offer SBA loans with some allowed greater flexibility than others in determining which loans they extend.  The most common SBA backed loan is the 7a loan which can provide funding up to $5M for a singular person or business.   While these loans account for the majority of small business acquisition loans, it is important for a buyer to understand that the SBA is a governmental authority and, as such, the process may be long and the requirements extensive.

Regardless of the loan, conventional or SBA loan, it is important for the buyer to be able to demonstrate capability to the lender.  This will be done through discussions, but will also covered in the Business Case, a subject to be addressed in greater detail in a subsequent article.  The “sniff test”, done before submission to the lender, is to have a trusted family member, friend, or business advisor deliberately poke holes in the business case to allow for the buyer to adequately address areas of risk by providing clear mitigation strategies.  Last point here is to also build conservative-leaning financial projections.  Very few lenders, or any at all, will believe that new ownership will automatically bring double digit growth rates over the next decade.

The use of proper valuation techniques for determining the purchase price is also critical.  Take for example, a buyer who offers a purchase price that is 50% greater than an acceptable valuation that a lender will secure from a qualified valuation firm.  The buyer’s original combination of own funds and seller financing would be significantly impacted as the lender will not exceed the underwriting standards based on a legitimate valuation.  The deal, based on this example, most likely would not close unless the purchase price was reduced significantly, the buyer produced additional funds, or the seller provided greater seller financing.

As seen from above, there are many methods for acquiring a business.  The optimal solution varies by buyer and targeted acquisition. To learn more about financing a pending or future transaction, contact P&L Business Brokers, LLC to gain insights from decades of transactions and relationships with qualified lenders.

Additionally, the financing costs associated with the aforementioned small business financing methods include the ongoing repayment over life of the loan, but very likely will include significant closing costs that should be planned for between 10-20% of the purchase price.  In some cases, such closing costs may be required to be covered from your own funds or may be rolled into the loan.

In addition to developing a solid estimate of the loan costs, a buyer must also consider the working capital (ongoing cash needs) of the business.  Many times, a buyer will forget to properly plan for the working capital needs of the business and will find him/herself with cash flow issues early on.  We will cover working capital requirements in a future article.

Editor’s Note:

We make every effort to impart our vast experience and keep up-to-date with the latest small to mid-market business transaction trends and all peripheral topics.  We do not, however, guarantee the accuracy of the information above nor the indefinite life of the above information. 

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Business brokers understand all aspects of running a business including accounting, operations, and commercial activities.  They have a firm grasp on industry and market dynamics.  Additionally, business brokers can develop the valuation or most probable selling price (MPSP) based on years of experience, extensive training, and access to comparative transactional data.  While a large majority of business brokers do not have ESQ or CPA after their names, their deep experience with purchase agreements and other legal agreements along with the tax implications of business transactions allows them to work seamlessly with such professionals.

Why Do I Need a Business Broker To Sell My Business?

Time – Selling a business is a time-intensive endeavor.  Experienced business brokers have developed processes, tools and enablers that allow for the process to be streamlined.  They are adept at identifying potential risks and challenges and developing mitigation strategies to avoid transactions not closing. Additionally, brokers have proprietary databases of potential buyers which can shorten the time to find a qualified and interested buyer.

Focus – A business owner’s focus most likely would be compromised with the time and attention taken to prepare the business for sale, market the business, and engage with potential buyers from initial contact through the deal closure.  The broker will seek to minimize the impact of the sale on the continuity of business operations.

Skill & Experience – Lessons are often learned through experience.  Whether they are leading practices or challenges faced, a business broker will provide you with invaluable guidance from initial contact through after the transaction closing.  Costly mistakes are often made not by ill intentions, but by lack of knowledge and experience.

Attributes of a Qualified Business Broker:

Experience: Selling a business can be a relatively complex process. Just as you wouldn’t hire someone to remodel your kitchen without the requisite skill set and experience, business owners and buyers should look for business brokers that have significant experience in closing transactions.  Experience in both sell-side and buy-side representation is also important factor to consider when choosing a business broker as having a balanced perspective often enables the broker to predict and mitigate potential risk.  Many brokers will combine experience with education (i.e., MBA, etc.) and pass comprehensive tests to become certified as in the case of Certified Business Intermediary (CBI) designation from the International Business Brokers Association (IBBA) or other industry certifications.

Problem Solving: Every deal has its own nuances and challenges.  A highly qualified business broker has experience in all facets of transactions and often brings a problem solving capability to address any obstacles faced.  While the broker will serve as your primary advocate, you want a broker who is able to provide solutions to deal compromising aspects.

Storytelling: Selling a business is a combination of art and science.  The art is found throughout the transaction lifecycle – from the development of marketing materials to getting to the closing table (and everything in between) – and requires supportive science added in.   Finding a business broker who puts in the effort to develop professional grade marketing materials is critical to grab the attention and interest of a larger pool of potential buyers.  With the more qualified brokers, you will find the story of the business is told in a concise and engaging manner.

Negotiations:  Experienced and qualified business brokers are also very adept at managing the negotiations between the parties.  Acting as the agent for the business owner (the principal), the business broker understands the sticking points that may be relevant on both sides and expertly deploys negotiation tactics that will maximize the value of the transaction for their client while not pushing the other side to abandon the deal.

Preparation: Many business owners come to a point where they just want out of the business.  They want to list the business for sale as quickly as possible.  The problem with this approach is that value may be lost and deals may not close from lack of preparation.  A qualified business broker will work with business owners to develop an exit strategy and prepare their businesses for sale.  A good business broker will not list the business without having collected the appropriate documentation and information to enable a smooth diligence process.

Confidentiality and Integrity: Confidentiality is not simply having a confidentiality or non-disclosure agreement executed.  Qualified business brokers will spend the time to steer clear of “tire-kickers” or competitors looking to gain a competitive advantage.  The marketing materials may have to be creatively scripted to not give away the company’s name and intentions of sale.  A business broker who maintains confidentiality and integrity throughout a transaction would be a foundational expectation.  However, conflicts of interest do arise and the business broker’s character and the character of its firm may be put to the test throughout a transaction when their commission is impacted.  Find a business broker who is committed to being your trusted advocate for the sale and life after the sale.

Established Team of Advisors: Qualified business brokers have established their “go to” team of professionals (i.e., attorneys, accountants, financial advisors, banks, etc.) to support the transaction.  Working in unison with other advisors allows for the team to be on the same page to structure the deal appropriately, manage negotiations effectively, and achieve the objectives of their client.  Many times a business owner or buyer will wish to use a professional of whom they have maintained a long-standing relationship with.  It is important to know that not all professionals have transaction experience and the lack of experience can derail the best transactions.

If you are looking to sell your business or acquire an existing business, the time is now to talk to a qualified business broker.  Take advantage of a free initial consultation with Michael Lannie, CBI, of P&L Business Brokers, LLC to understand your exit options and begin to formulate your exit strategy roadmap.

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What if I told you that you could be your own boss – ridding your life of the boss who doesn’t show appreciation, maximizing your knowledge and experience, and growing your income and net worth – is within reach?

Being a business owner may not be for everyone. However, there is no denying the abundant rewards that business owners experience. Is buying a business right for you? Let’s take a moment and explore the diverse benefits and potential drawbacks of owning a business and help you decide whether or not this path is right for you.

As with any major life decision, careful consideration must be made within the context of the advantages and disadvantages. Acquiring a business is no different and will often become one of the biggest decisions you will make. It will impact your lifestyle in many distinct ways.

Some of the major advantages of acquiring an existing business include:

• Lower Risk / Higher Success Rate – with an existing business comes a history of performance. The financial and non-financial data can be evaluated to assess the ability to continue generating profits and cash flows. If a longstanding business, it has surely been through different economic cycles having weathered any storms and prospered through challenging times. Startups, on the other hand, have an exceptionally high failure rate.
• Immediate Revenue Generation – with an existing base of customers and ongoing sales, the financial foundation has been established, thus allowing positive cash flow to service any debt, draw a salary from, or finance growth initiatives.
• Brand Recognition – existing relationships with customers and vendors
• Qualified Employees – inheriting competent employees provides immediate institutional knowledge without having to recruit and hire new employees. Existing employees may have perspectives on growth opportunities from which to draw from.
• Seller Knowledge / Relationships Transfer – the Seller can be an extremely valuable source of knowledge and can facilitate the introductions to key customers, vendors, and employees. Tapping into the Seller’s experiences, you can potentially avoid pitfalls based on the Seller’s lessons learned and perspectives.
• Assets – the business will often come with existing assets from which the business can continue to operate the business without having to make large capital outlays which can impact cash flows.
• Seller Financing – in more than half of the lower middle market transactions, Seller’s often carry a hold back or promissory note. This additional source of funding can demonstrate the Seller’s faith in the business continuing to achieve financial success which also strengthening the case to a lender, SBA, conventional, or otherwise.

Some of the major disadvantages of acquiring an existing business include:

• Upfront Costs – to acquire an existing business, you will need to invest and / or finance a large amount immediately which includes the purchase price of the business along with professional fees (i.e., legal and accounting, etc.).
• Employee Disruption – employees may be extremely loyal to the Seller and may fear change of ownership may impact them negatively causing loss of productivity or the employees
• Business Environment – no business is completely immune to competition or external factors that may affect the ability to maintain performance. The business may also have been poorly managed or have lost key customers and vendors due to personality differences or other damaging experiences / factors.
• Additional Investment – after significant capital outlay to acquire the business, there may be substantial investment required to optimize assets or pursue growth programs
• Relationships Transfer – many small businesses rely on the owner’s relationships. While the Seller may help facilitate the introductions to key customer, vendors, and employees, trusting relationships are often built over time. You will need to recognize the need to nurture and grow existing relationships while expanding relationships.

Is business ownership for you? Let P&L Business Brokers help in deciding if being an Owner is right for you.

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“This is a difficult certification to obtain. Achieving it demonstrates a personal commitment to excellence and a dedication to the craft of being a business broker,” said Jeff Snell, IBBA Credentialing Committee Chair and 2019 IBBA Board Chair-Elect. “The CBI is a clear indicator of knowledge and experience, and a commitment to industry excellence. We encourage business sellers and buyers to look for the CBI designation when selecting a business broker to work with,” added Snell.

Congratulations to the following business brokers who have achieved their CBI designation:

Leonard Abels: Fort Collins, Colorado
Margaret Ahn: Fort Lee, New Jersey
Jeffery Baxter: Raleigh, North Carolina
Russell Bernstein: New Orleans, Louisiana
Rupesh Bharad: Glen Allen, Virginia
Vishal Bharucha: New York, New York
Tyler Block: Lexington, Massachusetts
David Blosser: Charlotte, North Carolina
Steven Bramhall: Arlington, Texas
Tony Brock: Arlington, Texas
Bob Brooks: Alexandria, Ohio
Kevin Brooks: Grand Junction, Colorado
Robin Brower: Cleveland, Ohio
David Buboltz: Cary, North Carolina
Nick Cireddu: Cleveland, Ohio
Peter Cireiello: Santa Monica, California
Robert Cunio: San Diego, California
Priscilla Dakin: Santa Fe, New Mexico
Nina DeMarie: Lake Orion, Michigan
Scott Densmore: Colorado Springs, Colorado
John DeVries: Jensen Beach, Florida
Lauren Drummond: Diberville, Mississippi
Justin Farmer: Gig Harbor, Washington
Aldrin Fernandes: Mississauga, Ontario
Bryan Foreman: Nashville, Tennessee
Jim Friesen: Niagara-on-the-Lake, Ontario
Eric Gagnon: Flagler Beach, Florida
Robin Gagnon: Flagler Beach, Florida
Bill Garcia: Roseville, California
Thomas Gogarty: Dagsboro, Delaware
Donna Greslo: Delray Beach, Florida
Sridhar Gurram: Fremont, California
Felicia Hardy: Chicago, Illinois
Mark Hartmann: Chester, New Jersey
Rob Hooton: Ancaster, Ontario
Tom Jelepis: Cleveland, Ohio

Josh Jones: Salt Lake City, Utah
Michael Kelner: Charlotte, North Carolina
Ron Kleier: Overland Park, Kansas
Phil King: Ottawa, Canada
Kent Lance-Schmidt: Mission Viejo, California
Eric Landis: Irvine, California
Michael Lannie: North Kingstown, Rhode Island
Shu Liang: Suwanee, Georgia
Katrina Loftin-Winkel: Reno, Nevada
Ryn Longmaid: Santa Rosa, California
Kelly MacCarthy: Cleveland, Ohio
Robert Mance: Cardiff by the Sea, California
Mary Manilla: Portland, Oregon
Tyler Maslakewycz: Sudbury, Northern Ontario
Shreeraj Parikh: Corona, California
Jing Pei: Mechanicsburg, Pennsylvania
Marshall Pollock: Carlsbad, California
Jason Poot: Worthington, Ohio
Vinil Ramchandran: Newport Beach, California
Shelby Rhodes: Chester, New Jersey
Donna Scarborough: Henderson, Texas
Chet Scheltema: Vista, California
Harry Shaheen : DeQuincy, Louisiana
Maynetta Sheaffer: Oakland, California
Senhwa (Molly) Sung: Monmouth Junction, New Jersey
Randall Thompson: North Barrington, Illinois
Bernice Ting: Laval, Quebec
Duane Tucker: Green Valley, Arizona
Deedy Vincent: Wilmington, North Carolina
Jon Vincent: Wilmington, North Carolina
Kate Vriner: Dayton, Ohio
Aaron Wells: Lake Oswego, Oregon
Wayne Wright: Arvada, Colorado
Dustin Zeher: Tysons Corner, Virginia
Austin Zhao: Houston, Texas

About the International Business Brokers Association
The IBBA provides business brokers with education, conferences, professional designations and networking opportunities. As an exclusive education opportunity, it offers coursework and seminars required to obtain its prestigious Certified Business Intermediary (CBI) certification.

The IBBA also strives to create professional relationships with successful business transaction advisors to increase the value of the IBBA to its members and to be a leader in the exchange of business referrals. Membership in the IBBA includes these excellent networking opportunities, as well as a complete package of other benefits and services. Formed in 1983, the IBBA has members around the world. For more information about the IBBA, visit the website at www.ibba.org

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