Overcoming Major Obstacles in Securing a Business Acquisition Loan , Acquiring a small business loan for an acquisition can be an arduous process, to say the least.
When the business being sold is highly profitable, the selling price often incorporates a substantial amount of goodwill, posing challenges in securing financing.
Conversely, if the business being sold is not generating profits, even if the underlying assets are worth more than the purchase price, finding lenders can prove difficult.
Business acquisition loans, also known as change of control financing, can vary significantly from case to case.
With that said, let’s explore the primary challenges you typically encounter when seeking a small business acquisition loan.
Financing Goodwill for Business Acquisition Loan
Goodwill refers to the sale price minus the resale or liquidation value of the business assets, after settling any outstanding debts on those assets. It represents the anticipated future profit beyond the current asset value.
Most lenders are uninterested in financing goodwill.
Consequently, this increases the required down payment to finalize the sale, necessitating additional financing from the vendor through a vendor loan.
Vendor support and vendor loans are common elements in small business sales.
If these elements are not initially part of the sales conditions, it may be worth your while to inquire if the vendor would consider providing support and financing.
Asking this question can be beneficial for several reasons.
To maximize the sale price, which often includes goodwill, the vendor may agree to finance a portion of the sale price over a defined period within a structured payment schedule.
Additionally, the vendor might offer transition assistance to ensure a seamless ownership transfer.
This combination of support and financing establishes a positive vested interest where the vendor is motivated to assist the buyer in successfully navigating all aspects of ownership and operations.
Failure to do so could lead to the vendor not receiving the full proceeds of the sale in the future, especially if the business suffers or fails under new ownership.
This aspect is particularly appealing to potential lenders as it significantly reduces the risk associated with ownership transition.
This directly relates to the next financing challenge.
Business Transition Risk for Business Acquisition Loan
Can the new owner effectively manage the business, maintaining or surpassing the performance of the previous owner? Will customers continue doing business with the new owner? Did the previous owner possess a unique skill set that will be challenging to replicate? Will key employees remain with the company after the sale?
Lenders need assurance that the business can continue operating at a level no worse than its current performance. Financial projections must account for potential changeover lags.
Simultaneously, many buyers acquire a business because they believe there is significant growth potential that they can leverage.
The key lies in convincing the lender about the growth prospects and your ability to achieve superior outcomes.
Asset Sale vs. Share Sale for Business Acquisition Loan
For tax purposes, many sellers prefer to sell the shares of their business.
However, by doing so, the buyer assumes all existing and future liabilities associated with the ongoing business, unless otherwise specified in the purchase and sale agreement.
Assessing potential business liabilities is complex, which can lead to a higher perceived risk when applying for a small business acquisition loan related to a share purchase.
Market Risk for Business Acquisition Loan
Is the business operating in a growing, mature, or declining market segment? How does the business fit into the competitive landscape, and will a change in control enhance or weaken its competitive position?
Lenders must have confidence that the business can remain successful throughout the loan period.
This is crucial for two reasons. Firstly, a consistent cash flow ensures a smoother repayment process. Secondly, a thriving business with ongoing operations has a higher probability of being resold.
In the event the owner becomes unable to continue operating the business due to unforeseen circumstances, the lender can rely on the business generating sufficient profits upon resale to retire the outstanding debt.
Localized markets are easier for lenders or investors to assess compared to businesses with a broader geographic reach. Area-based lenders may also possess relevant knowledge about the specific business and its prominence in the local market.
Personal Net Worth
Most business acquisition loans require the buyer to invest at least one-third of the total purchase price in cash, with a tangible net worth equal to or exceeding the remaining loan value.
Statistics indicate that companies with excessive leverage are more prone to financial strain and defaulting on their business acquisition loan obligations.
As the required loan amount increases, the likelihood of default also rises.
You Can Also Read: 8 Essential Components for Small Business Websites
In conclusion, securing a small business acquisition loan involves navigating various challenges. Understanding the components mentioned above and addressing them effectively can significantly increase your chances of successfully obtaining the necessary financing.