5 Essential Components of a Small Business Acquisition Loan

Major Obstacles To Obtaining A Business Acquisition Loan

Qualifying for a small company acquisition loan may be a daunting task.

If the firm being sold is very lucrative, the selling price will most certainly include a considerable amount of goodwill, which might be difficult to finance.

If the company being sold is not profitable, financing may be difficult to come by, even if the underlying assets being bought are worth far more than the purchase price.

Business acquisition loans, often known as change-of-control finance, may vary greatly from case to case.

That being said, these are the most common problems you’ll face when applying for a small company purchase loan.

1. Financing Goodwill

Goodwill is defined as the selling price less the resale or liquidation value of firm assets after any outstanding debts have been paid off. It shows the future profit that the company expects to generate in excess of its current asset value.

Most lenders are not interested in financing goodwill.

This essentially raises the amount of down payment necessary to complete the deal and/or get financing from the seller in the form of a vendor loan.

Vendor assistance and loans are fairly common in the sale of a small business.

Whether they are not originally included in the terms of sale, you should ask the seller whether they would be willing to provide assistance and financing.

There are many compelling reasons why asking the question may be well worth your effort.

In order to get the highest possible selling price, which is likely to include some goodwill, the seller will offer to finance part of the transaction by enabling the buyer to pay a portion of the sale price over a certain period of time using a structured payment plan.

To ensure that the transfer goes smoothly, the vendor may also provide transition assistance for a certain length of time.

The vendor’s assistance and financing establish a positive vested interest, which means it is in the vendor’s best interests to assist the buyer in effectively transitioning all elements of ownership and operations.

Failure to do so may result in the vendor receiving less than the full selling profits in the future if the firm suffers or fails under new ownership.

This is generally a highly tempting factor for prospective lenders because it reduces the risk of loss during the transfer.

This relates directly to the following financial difficulty.

2. Business Transition Risk

Will the new owner be able to operate the firm as effectively as the prior owner? Will consumers continue to do business with the new owner? Did the prior owner have a unique skill set that would be difficult to reproduce or replace? Will the top employees remain with the company after the sale?

A lender must be sure that the firm can sustain its present level of performance. Financial plans should often include a cushion for any potential transition delays.

At the same time, many purchasers will acquire a firm because they believe it has significant growth potential that they can capitalize on.

The objective is to persuade the lender of your development potential and capacity to provide better returns.

3. Asset Sale vs. Share Sale

Many sellers choose to sell their company shares for tax reasons.

However, unless otherwise specified in the purchase and sale agreement, the buyer will bear all existing and prospective future liabilities relating to the continuing concern company.

Because potential business liability is harder to assess, there may be a greater perceived risk when reviewing a small company acquisition loan application for a share purchase.

4. Market risk

Is the company in a rising, mature, or declining market segment? How does the company fit into the market’s competitive dynamics, and would a change in control enhance or hurt its position?

A lender must ensure the firm will be profitable until the business acquisition loan is due.

This matters for two reasons. For starters, consistent cash flow will undoubtedly facilitate the payback procedure. Second, a firm with a solid-going concern has a better chance of reselling.

If an unanticipated occurrence prevents the owner from continuing to operate the firm, the lender will be confident that the business can still earn enough profit from sales to repay the existing loan.

Localized markets are significantly simpler for a lender or investor to evaluate than a firm that sells to a larger geographic area. Area-based lenders may also have an understanding of the specific firm and its prominence in the local market.

5. Personal Net worth

Most company acquisition loans require the buyer to be able to spend at least one-third of the entire purchase price in cash while maintaining a tangible net worth equivalent to the loan’s remaining value.

Statistics demonstrate that overleveraged businesses are more likely to face financial difficulties and fail on their business acquisition loan agreements.

The higher the company acquisition loan needed, the greater the risk of default.

Summary:

To get a company acquisition loan, you must understand and manage the important components of the transaction that the lender will be interested in. Here, you’ll learn about the five major components of a company transaction, as well as how to handle them successfully to acquire finance.