When it comes to financing a business acquisition, small business buyers face a challenge. In this article, we’ll take a look at five common ways to finance a business acquisition. First, though, we’re going to look at how much money you need to buy a business.
How Much Do You Need?
The amount needed to purchase an existing business depends on the structure of the purchase and the value of the company. If there is no financing involved, you will pay for the acquisition directly with funds from you and/or your partners.
Cash transactions are common in small acquisitions. However, once it exceeds $100,000, they are rare. Instead, these transactions typically use some kind of financing for a portion of the purchase. This way, you can get your hands on the business without having to pay the full amount out of pocket.
If you use financing, you only pay for a portion of the cost directly and the finance company covers the rest. Typically, you only need about 10% of the total cost. This is what is referred to as “leverage”.
There are several reasons why a buyer would use financing in a business acquisition:
Can’t afford the full amount
Hope for increased returns provided by leverage
Want to purchase a large business
5 Ways to Finance a Business Acquisition
If you are looking at a business acquisition, you have several options. We will go over 5 of the most common ways to finance a business acquisition below:
Seller Financing
In most business acquisitions, there’s a financing component offered by the seller where they will provide you with a loan and you will pay it back like any other, typically from the business proceeds.
There are two reasons why a buyer would negotiate seller financing: first, the buyer’s ability to repay depends on the performance of the business- which means the seller is less likely to exaggerate the potential of the business during the sale. Also, it reduces the buyer’s dependence on lender financing, and terms are usually more flexible and convenient.
SBA-backed Loan
This is one of the best options for financing a business acquisition. Typically, the rates and terms of SBA-backed loans are fairly competitive. However, it’s important to keep in mind that an SBA-backed loan cannot finance 100% of the acquisition. In most cases, you can only finance 90%, though in some cases it can go up to 95%. The rest of the funds must come from the buyer.
There are some minimum qualifications- and the individual lenders can add to them as they wish. The minimum qualifications include:
Credit score at least 650
Have a 10% down payment
Provide personal financial info
Provide 3 years of tax information
Prove industry experience
Bank Loan
Buyers that are unable to use an SBA-backed loan may wish to consider a conventional bank loan. That being said, the qualification standards are usually stricter, making these loans harder to get. Typically, you will need substantial assets, excellent credit, management experience, and a solid business.
Assumption of Debt
A buyer may also finance a portion of the business acquisition by assuming some of the existing liabilities of the business, such as loans and trade payables. How the buyer assumes the debt depends on how the sale is structured. Additionally, some types of debt require approval from the lender before transfer. This can be complicated and have tax consequences.
Investors/Private Offices
You may find it difficult to find an investor or private office to participate in business acquisition. However, if you can find one, these can often be flexible and handle situations that don’t conform to typical lending standards. However, they are often quite selective in who they work with.
Conclusion
If you are considering a business acquisition, there are some things that you need to know. First of all, you need to figure out how much money you will need to acquire the business. Then, you’ll need to consider your options and choose the method of financing that best fits your situation. Contact Skogen Capital Lending if you need to know more or if you need help with the process of acquiring a business.