Operator's Summary
For business owners looking to acquire another company, a loan can be the most critical, but often neglected part of the process. Experienced buyers know that debt financing is a key strategic tool that dictates the price you can pay, and the return on invested capital.
Securing a business acquisition loan can look daunting, but it doesn't have to be. With the right preparation and research, you can increase your chances of getting approved for the funds you need, and come to the closing table with a warchest to get a deal done.
In this blog post, we will outline the steps involved in securing a business acquisition loan and provide helpful tips on how to optimize your funding request, application, and structure for lender approval.
Whether you're just starting out or an experienced entrepreneur looking for additional ways to grow your enterprise, this guide will help you understand what's needed when applying for financing.
So if you're ready to take the next step towards expanding your business through acquisition, read on!
The process and tactics for securing a business acquisition loan
Surveying the market for different types of business acquisition loans available
Talk to the lenders out there, propose the acquisition being considered, and get preliminary pricing on the interest rate, amortization schedules, and key features such as the principal’s personal credit score, a minimum credit score of the business, personal guarantees, creditworthiness, and the necessity of a business credit report. Getting clarity on the above can dictate how a letter of intent, valuation, and acquisition terms are negotiated, both on price and structure.
Keep in mind, the business acquisition loan market is a dynamic one, with lenders entering and leaving the market, and the loans available to small business owners today is not necessarily going to be available when it comes time to close.
While business acquisition loans vary in terms of repayment periods and interest rates, they all help businesses seeking to acquire additional assets with the funds necessary for doing so.
We urge business owners to survey the market or find a skilled and connected agent to do so on the company’s behalf.
Find out what requirements you and your business need to meet in order to qualify for business loans
When it comes to getting the best small business loan that fits your business needs, research and preparation are key to understanding your financial health. Knowing what requirements need to be met is paramount in order to qualify for a loan. Before even considering a lender, potential borrowers should start by assessing their own credit rating and financial situation; understanding where their business stands will be beneficial when applying for loans.
Professionals could also be enlisted to aid in writing a detailed business plan in order to meet the specific requirements as well as provide an idea of how beneficial the loan would be for your specific business.
Additionally, gathering documents such as tax returns or balance sheets are essential in order to answer any questions that may arise from the lender’s examination of your qualifications. Taking these preparatory steps will help you make an informed decision so you can choose the right loan that meets your needs and puts you on the path toward success.
Compare interest rates and repayment terms from different lenders
Interest rates and loan terms can vary greatly between lenders, and it is essential to calculate the total cost of a loan before making a decision.
Comparing offers from different lenders is the best way to secure the most competitive deal and represents a smart financial move. Doing research in advance can help you save money over time, as well as ensure that you are comfortable with the repayment terms and conditions.
Taking the time to understand your options will pay off in the long run by helping you find an interest rate and payment plan that fits your budget.
Choose the small business loan that best suits your needs and fill out an application
Choosing the loan to fit your needs and completing an application with financial institutions can be an intimidating process. However, having access to the right tools and resources can simplify the process and make it a seamless transition!
With so many different loan options available, from personal loans to home equity lines of credit, you can be sure you are selecting the best option for your budget. Make sure to utilize the resources that are provided when selecting your loan type and reviewing current rates. Filling out an application takes only a short moment of time but does require accurate information. This small step will ensure you have made a recommendation decision that is right for you, so take your time in finding the right one.
Be prepared to provide financial documentation, such as tax returns and balance sheets
Being prepared with financial documentation such as tax returns and balance sheets is essential for financial stability and success. Gaining an understanding of the income, assets, liabilities, and expenses for the existing business is key to making sound business decisions.
When evaluating potential investments or developing budgets for current projects, having up-to-date information about a company’s finances at the ready will put one ahead of the competition and help make well-informed decisions for the business. Investing time and effort in gathering financial documents will provide invaluable insight into the inner workings of any organization.
Managing a diligence process to satisfy the lender, and the seller of the business you're buying
Managing the due diligence process to satisfy both a lender and seller when purchasing a business is no small task. It requires attention to detail, a deep understanding of the market and its trends, as well as flexibility with changing conditions. Through a comprehensive analysis of the company’s facts and financial statements, organizational goals, and strategies, our team strives to determine if any potential risks may be associated with investing in the target business.
Furthermore, we plan accordingly so all requirements of both parties are met in order to achieve a successful transaction. Our experienced professionals utilize their expertise to ensure that this diligence process runs smoothly for all involved.
The types of business acquisition loans and their summary terms
Business acquisition loans come in a variety of forms, each with its own unique terms and conditions. It is important to have an understanding of the different types of small business loans available so you can select the best option for your situation. Common types of business acquisition loans include SBA 7(a) loans, commercial real estate loans, asset-based loans, and bridge or gap financing.
a. SBA loans and other small business loan options
An ‘SBA loan' is one of the government-backed loan programs. SBA offers many lending options although SBA loans are mostly a term loan product. These loans often give entrepreneurs the best interest rates and allow financing for transactions with a down payment of 10% or more.
The federal government has the option to grant part of a loan that can be guaranteed, which reduces liability for borrowers who fail – though this also requires some additional fees for some of the amounts that are guaranteed. SBA loans are generally fairly flexible and are available in many different types of acquisitions.
The key financial requirements are that repayment of the loan must begin within 6 months and that a borrower must maintain at least 7.5% equity in the business after the acquisition.
USDA Business and Industry (B&I) Guaranteed Loan Program
The USDA B&I program is available to finance the purchase of a business. This program can enable financial institutions to offer loans at lower interest rates, as it provides a guarantee against borrower default. It is available for businesses located in rural areas, or for those that are owned by socially and economically disadvantaged individuals. The loans can be used to finance the acquisition of a business, pay for the construction or renovation of buildings, purchase equipment, or land purchases.
The key financial requirement is that the borrower must show a total net worth no greater than $5 million and an average adjusted gross income over the past two years that does not exceed $750,000. Additionally, the proceeds from the loan must be used for business acquisition or expansion.
b. Conventional term loans
Conventional business term loans are the kind of loan a business can receive from a bank or another typical lending institution. This kind of loan typically provides borrowers with the quickest terms possible. This is a loan that will likely be difficult to qualify for. The bank makes it ideal for businesses with excellent financial standing as well as for companies with a good bank relationship offering this kind of financial support.
The key financial requirements are that a borrower must demonstrate a good credit history, provide collateral as security and be able to show the lender how they will generate enough income to repay the loan. The term of the loan will vary depending on the bank and the amount borrowed. It is possible to get a conventional loan for up to 10 years, but more often than not these loans carry terms from one year to five years.
The bank will be looking at revenue, profits, and cash flow with the amount loaned typically being determined by the amount of debt service coverage. A good rule of thumb is to have one and a half times more cash flow than the loan payments.
c. Revenue-based loans
Revenue-based loans have flexible payments calculated in percentages rather than in fixed terms based on revenue. A profit-based loan is a lump-sum loan that takes up a portion of your company's income as long as you repay the credit back with interest. Because revenue-based loans have variable payment structures that represent a greater risk to lenders and are often more costly, they typically charge higher rates. Leasing can also reduce disadvantages to the borrower as your business is slower than your payments.
The key financial requirements are that the borrower must have at least 12 months of operating history and a good credit score, as well as be able to demonstrate a certain level of revenue. The amount borrowed is based on a percentage of the company's gross monthly revenue, and the terms range from 1-3 years with interest rates typically between 8-18%. Cash flow payments will be due monthly, and the amount may vary depending on how much revenue is being generated. The payment will never exceed a pre-determined cap set by the lender.
d. Equipment Financing
Equipment financing allows for the purchase of new equipment. Investing in equipment financing offers many advantages.
In the event of failure of a debt the lender could take the property. For those just starting out and looking for equipment that is needed for the business it is an effective option. Equipment finance actually works if there are additional costs to buy equipment from your current owners, and it helps maintain debt service coverage.
e. Alternative options for business acquisition financing
When looking to start an enterprise, there may be alternatives that are beyond traditional term loans like equipment financing.
If you purchased equipment, an equipment loan can be used for some of your acquisition costs. Or you can get equipment loans from your lender to cover the cost of constructing an office building. In equipment loans, the equipment itself is considered collateral.
Buyer's financing. With seller financing, you can borrow money directly from current investors to buy a business directly.
After researching, comparing, and applying for a business acquisition loan, it's finally time to make the purchase. You should feel confident that you've found the right type of loan with the right repayment terms and interest rate to fit your needs. All that hard work has paid off.
However, don't forget that there are other funding options available out there, so make sure to take the time to explore all of your options before making any financial decisions.
Conclusion
When it comes to funding your business acquisition, there are many options available for you to explore.
From traditional term loans and equipment financing to buyer's financing and seller's financing – the choices can seem overwhelming.
It is important that you take the time to research all of these various loan types in order to find one that fits your needs.
If at any point during this process, you feel overwhelmed or need some guidance, our team of experts would be more than happy to help.
Do not hesitate to reach out and we would be happy to field any questions, share our perspective, or assist more directly.
FAQ Section for Business Acquisition Loans
Acquisition Financing Lenders: Who are acquisition financing lenders?
Acquisition financing lenders are financial institutions, banks, credit unions, and private lenders that offer customized capital solutions for businesses looking to acquire another company. These lenders provide business acquisition loans specifically designed to help with funding the purchase of an existing business. They work closely with borrowers to understand the unique needs of the transaction and structure loans accordingly to ensure business growth.
Business Acquisition Loan: What is a business acquisition loan?
A business acquisition loan is a type of financing specifically used to acquire an existing business. This type of loan provides the upfront costs needed to cover the purchase price and related expenses. Business acquisition loans are offered by various lenders, including banks, SBA lenders, and direct lenders, and are essential for business owners who need capital to expand through acquisitions. These loans may require collateral and have different loan amounts, repayment terms, and interest rates depending on the borrower’s creditworthiness and the lender’s requirements.
Business Acquisition Loans: How do business acquisition loans work?
Business acquisition loans work by providing a lump sum of capital that can be used to purchase an existing business. The loan process involves several steps, including assessing the business valuation, submitting a loan application, and working directly with lenders to secure funding. Borrowers typically need to provide financial documents such as tax returns, proof of cash flow, and business plans. Repayment terms can vary, but loans often require monthly payments over several years. These loans may be secured by the assets of the business being acquired or by the borrower’s own assets.
Business Acquisition: What are the benefits of using acquisition financing for business growth?
Using acquisition financing allows businesses to grow quickly by acquiring competitors or expanding into new markets. It provides access to larger loan amounts, which can be used to acquire valuable assets, increase recurring revenue streams, and enhance the overall value of the company. Acquisition financing is also beneficial for leveraging the purchasing power of a business without depleting its existing cash reserves, making it an efficient way to fund growth while managing cash flow effectively.
Acquisition Financing: What are the common types of acquisition financing?
There are several types of acquisition financing available, including:
SBA Loans: Backed by the Small Business Administration, SBA 7(a) loans are popular for funding business acquisitions. They offer favorable terms, low interest rates, and longer repayment periods.
Conventional Loans: Offered by banks and credit unions, these loans are ideal for borrowers with strong credit scores and financial standing.
Seller Financing: In this arrangement, the seller finances part of the purchase price, allowing the buyer to pay in installments.
Asset-Based Loans: Secured by the assets of the business being acquired, such as equipment or inventory.
Revenue-Based Loans: These loans are based on the revenue generated by the business and have flexible repayment terms.
Business Acquisition Financing: How do I qualify for business acquisition financing?
To qualify for business acquisition financing, lenders typically require:
Strong Credit History: A good credit score is essential for securing favorable loan terms.
Business Valuation: A thorough business valuation helps determine the purchase price and the amount of financing needed.
Financial Documents: Tax returns, balance sheets, cash flow statements, and proof of revenue are required to demonstrate the financial health of the business.
Collateral: Depending on the lender, collateral such as business assets or personal assets may be required to secure the loan.
Industry Expertise: Some lenders prefer borrowers who have experience in the industry of the business being acquired.
Business Acquisition Loan: What is the application process for a business acquisition loan?
The application process for a business acquisition loan involves several key steps:
Business Valuation: Determine the value of the business you wish to acquire.
Loan Application: Submit a loan application with the necessary documentation, such as financial statements, tax returns, and a business plan.
Term Sheet: Once the lender reviews your application, they will issue a term sheet outlining the loan terms, interest rates, fees, and repayment schedule.
Due Diligence: The lender will conduct due diligence to assess the business's financial health and verify information provided.
Approval and Closing: Once approved, the loan agreement is signed, and funds are disbursed to complete the acquisition.
Existing Business: Can I use a business acquisition loan to buy an existing business?
Yes, business acquisition loans are specifically designed to help you buy an existing business. The loan covers the purchase price, which may include assets, inventory, equipment, and even real estate. Acquiring an existing business with a proven track record can be less risky than starting a new one, and lenders are often more willing to provide financing for acquisitions of profitable companies.
Small Business Administration Loans: What role do SBA loans play in acquisition financing?
SBA loans play a crucial role in acquisition financing, especially for small businesses. The SBA 7(a) loan program is designed to provide funding for business acquisitions with favorable terms such as lower interest rates and longer repayment periods. SBA loans also have lower down payment requirements, making them accessible to many small business owners. SBA lenders work closely with borrowers to structure loans that meet the unique needs of each acquisition.
Customized Capital Solutions: What are customized capital solutions in acquisition financing?
Customized capital solutions refer to tailored financing packages designed to meet the specific needs of a business acquisition. These solutions may involve a mix of loan options, including term loans, lines of credit, and seller financing, depending on the unique needs of the transaction. Direct lenders and financial advisors often work with borrowers to create customized solutions that align with the business’s cash flow, purchase price, and growth goals.
Business Growth: How can acquisition financing help with business growth?
Acquisition financing can significantly aid business growth by providing the funds necessary to acquire other companies, expand market share, and increase recurring revenue streams. By leveraging debt rather than using cash reserves, businesses can maintain liquidity while pursuing growth opportunities. Acquisitions can also provide access to new customer bases, technologies, and operational efficiencies, driving long-term success.
Loan Process: What should I expect during the loan process for a business acquisition?
During the loan process for a business acquisition, you can expect:
Initial Consultation: Meet with lenders to discuss your acquisition goals and financing needs.
Application Submission: Provide financial documents, business valuation, and other relevant information.
Underwriting: The lender will evaluate your creditworthiness, financial standing, and the viability of the acquisition.
Due Diligence: The lender will conduct a thorough review of the target business.
Approval and Funding: If approved, the lender will issue the funds to complete the acquisition.
Business Valuation: Why is business valuation important in acquisition financing?
Business valuation is critical in acquisition financing because it determines the purchase price and helps lenders assess the risk of the transaction. A thorough valuation provides insight into the company’s assets, liabilities, revenue streams, and growth potential. It also helps determine the amount of financing needed and whether the deal is financially viable. Lenders use business valuation to decide how much they are willing to lend and under what terms.
Business Acquisitions: What are the risks involved in business acquisitions?
Business acquisitions come with several risks, including:
Overvaluation: Paying too much for a business can lead to financial strain and reduced returns.
Integration Challenges: Merging two businesses can be challenging, especially regarding culture, systems, and processes.
Debt Management: Taking on too much debt to finance an acquisition can impact cash flow and financial stability.
Market Changes: Economic or industry-specific changes can affect the profitability of the acquired business.
Direct Lender: Should I use a direct lender for business acquisition financing?
Using a direct lender for business acquisition financing can be beneficial if you need a straightforward loan process and faster approval times. Direct lenders, such as private lenders or specialized financial institutions, often have more flexibility compared to traditional banks. They may offer customized capital solutions that cater to the specific needs of your acquisition, allowing for a more tailored financing approach.
Industry Expertise: Why is industry expertise important for lenders in acquisition financing?
Industry expertise is important because lenders with knowledge of the specific industry can better assess the risks and opportunities associated with the acquisition. Lenders with industry expertise understand the market dynamics, challenges, and potential growth opportunities, allowing them to provide more accurate valuations, appropriate loan structures, and strategic guidance throughout the acquisition process.
Recurring Revenue Streams: How do recurring revenue streams impact acquisition financing?
Recurring revenue streams are attractive to lenders because they indicate consistent cash flow, reducing the risk associated with the loan. Businesses with stable, recurring revenue are more likely to receive favorable loan terms, as they have a predictable income that can be used to service debt. Lenders view recurring revenue as a sign of financial stability, which can improve the chances of loan approval for an acquisition.
Upfront Costs: What upfront costs are involved in a business acquisition loan?
Upfront costs in a business acquisition loan may include:
Down Payment: Typically 10-30% of the purchase price, depending on the lender and loan type.
Closing Costs: Fees related to processing the loan, such as appraisal fees, legal fees, and loan origination fees.
Due Diligence Costs: Costs associated with evaluating the target business, including accounting, legal, and consulting fees.
Cash Flow: How does cash flow affect my ability to secure a business acquisition loan?
Cash flow is a critical factor in securing a business acquisition loan because it indicates the business’s ability to generate enough income to cover loan payments. Lenders assess cash flow to determine whether the acquired business will be able to service the debt without jeopardizing its financial stability. Positive cash flow can improve the likelihood of loan approval and may result in better loan terms.
Purchase Price: How is the purchase price determined in a business acquisition?
The purchase price in a business acquisition is determined through a valuation process that considers various factors, including:
Assets and Liabilities: The value of tangible and intangible assets minus liabilities.
Revenue and Profitability: Historical financial performance and future revenue projections.
Market Comparables: The sale prices of similar businesses in the industry.
Growth Potential: The potential for future growth and profitability. Lenders use the purchase price to determine how much financing they are willing to provide and the required down payment.
Timely Manner: How can I ensure my business acquisition loan is processed in a timely manner?
To ensure your business acquisition loan is processed quickly:
Be Prepared: Gather all necessary financial documents, such as tax returns, balance sheets, and cash flow statements, before applying.
Work Closely with Lenders: Maintain open communication with your lender and respond promptly to requests for additional information.
Choose Experienced Lenders: Work with lenders who have experience in acquisition financing, as they can expedite the process.
Complete Due Diligence Early: Begin the due diligence process as soon as possible to identify any potential issues that could delay approval.