Many people dream of owning their own businesses. But the idea of buying an existing business is often brushed aside due to the perceived notion that it will take more money than what’s available.
Many are unaware of the acquisition financing options that exist. Each option has different requirements in terms of down payment.
The following are generic guidelines of several scenarios, although all business transactions are open to negotiations and adjustments.
Acquisition financing and Seller financing
In many ways, this is the simplest form of acquisition financing; a business purchase. The buyer pays a cash down payment to the seller, acting like a bank, finances the residual of the acquisition, with payments made to the lender over time. The initial payment in this scenario is completely negotiable. I tell buyers that it can be as much as 50% down, but in the end it’s whatever is agreed between the buyer and the seller.
The remaining amount to be paid to the seller can simply be in the form of a promissory note with equal payments for a set time frame, or they’re set to an earn-out, where payments are tied to performance of the business in the future. Never the less, this greatly benefits the client because the seller has a strong interest in seeing the business succeed under the brand-new ownership. Seller financing is the flexible option if the terms are fully negotiable between buyer and seller. It can also be the fastest route to a closing.
Acquisition financing and Bank financing
In purchasing a small business, you are buying a cash flow stream more than you are purchasing hard assets. Because of this, business financing are more suited for an SBA 7a business acquisition loan than they are for customary financing. The SBA 7a is a federal insured loan made by a private bank. The program is in place to encourage banks to lend in situations where physical assets might be minimal.
A typical structure is a 20 percent down payment from the buyer, a 10 percent carry from the vendor, with a bank contribution of 70% paid to the vendor at closing. For acquisition financing, this is a good way for the client to leverage their assets and for the seller to get as much cash as possible at the closing deal. Certain conditions are set by the SBA, so there is less flexibility to how the buyer and seller structure the deal.
In situations where asset value is close to the purchase price, conventional bank loans and equipment financing can be feasible options. For this scenerio, the buyer borrows money from the bank with the assets as collateral, then the buyer pays the money to the seller.
Generally speaking, when I meet with a buyer, I tell them to anticipate putting 20 to 50 percent of the purchase price as a the initial payment. This shows them a pragmatic factor to keep in mind as they are searching listing sites and looking for their future opportunities. Always note the different finance options and remember that all business transactions are open to negotiations and adjustments.