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Funding a Business Acquisition

berryWCI Brokers is the largest full service business brokerage firm in Northern Arizona. As business brokers, we have facilitated over 500 business acquisitions in Northern Arizona over the past 15 years. This article is one of a series of articles written by our professionals at WCI Brokers on topics important to business owners.

Funding a Purchase

The funding of a business acquisition is an important component in the decision-making process of both buyers and sellers. Given that approximately 70 percent of the business acquisitions we are involved with involve some type of financing, the subject of funding is obviously an important one. A basic principle that applies to almost every type of funding for a business acquisition is that the business cash flow will have to be able to service the debt associated with the purchase of the business and typically will have to provide a reasonable return for the buyer. There are numerous options available to fund a business acquisition. We will discuss three in this article.

Funding and Financing Options

The choice of how to fund a business purchase may be dictated by the buyer’s personal financial situation, the buyer’s credit history, factors such as interest rates as well as the history and performance of the business being purchased. Most sellers generally prefer a cash purchase without the involvement of financing. For a buyer, even one with the capacity to pay cash, other factors may be important, such as available loan interest rates or the liquidity of investments. Three of the most common financing options that WCI Brokers consistently deals with are seller financing, bank financing such as Small Business Administration (SBA) guaranteed loans or using funds that are self-directed from the buyer’s IRA or 401k account.

Seller Financing

Seller financing is generally the easiest form of financing for the buyer and seller. This is primarily because there are no outside influences unless the seller’s loan will be in cooperation with other financing such as an SBA loan. Approximately 40 percent of small business acquisitions include some percentage of seller financing. If the seller financing is the only loan, the seller will typically have a first position lien on all assets of the business. If there is other financing involved in addition to the seller loan, the seller will typically have a lien in second position behind the primary lender. The willingness of a seller to finance some portion of the sales price broadens the pool of buyers available and can also demonstrate the seller’s confidence in the business’s fundamentals to a potential buyer. The disadvantage of seller financing is the obvious associated risk to the seller in becoming a lender. Currently seller financing interest rates typically range between six to eight percent.

SBA Financing

The Small Business Administration (SBA) participates in a number of programs that make loans available to those starting, expanding and acquiring a business. The SBA itself does not provide loans, but works with qualified SBA lenders to provide a government guarantee in the event the borrower defaults on the loan. SBA approved lenders must follow requirements set by the SBA in order to receive the SBA guarantee. This program provides money to a business, not an individual, and the terms and conditions of the loan are based not only on the buyer’s credit, but also on the financial history and performance of the business that will be used to repay the loan. Typically, buyers are required to inject a minimum amount of capital such as 15 percent into the project upon funding, and interest rates are prime plus approximately 2.75 percent currently.

401K, IRA Funding

Few people realize that existing 401K/IRA funds, in many cases, can be used to fund business acquisitions and operating capital needs without the customary tax implications and penalties. There are several companies that specialize in helping buyers and business owners gain access to these funds. Basically, these companies facilitate helping the buyer form a C-Corporation and then transfer their 401K/IRA funds into the buyer’s new retirement investment plan just as if it were any other qualified retirement investment plan. The buyer may then invest these funds for the purchase of a business, business expansion or working capital. The plan is administered for a nominal fee to ensure legal compliance with all existing laws. Some of the advantages of using existing 401k/IRA funds are that no debt is created, there is no credit based qualification, funds for operating capital are immediately available, pre-tax money is used to fund your acquisition, owner salaries may be paid and typically funds can be available within two to four weeks.

The Solution

There are very few acquisitions that cannot be completed because of the lack of financing or funds. With the multiple options available, some type of financing can be found if the buyer and seller motivated to complete a transaction. Whether it’s seller financing, an SBA loan or using 401K/IRS funds, WCI Brokers can help a buyer and seller understand the myriad of options available and recommend the best options to complete your acquisition. FBN

By Steve Berry

Steve Berry is an Independent Contractor of WCI Brokers

928-814-8135

Steve@wcibusinessbrokers.com

 

Steve Berry is one of seven professional business brokers with WCI Brokers. For more information and a complimentary, confidential interview call WCI Brokers at 928-445-1144. Learn more about us on our website at wcibusinessbrokers.com.

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