As of 2020, the global merger and acquisition industry grew to a volume of over $2.8 trillion worth of deals. Part of this was driven by...
What You’ll Learn
How to finance a business purchase with SBA loans
Combining personal funds with other financing options
How to use debt assumption to fund part of your purchase
Taking advantage of seller financing to buy a business
How you can leverage your network to buy a small business
Introduction
As of 2020, the global merger and acquisition industry grew to a volume of over $2.8 trillion worth of deals. Part of this was driven by entrepreneurs attracted to buying an existing business instead of building from scratch.
This may be something you’re attracted to as well, but the funds to get started may be prohibitive. It shouldn’t be anymore. In this article, we’ll dive into 7 ways you can get the money to buy a small business.
How to Finance a Small Business Purchase
Whether you are a novice entrepreneur trying to finance your first purchase of a small business or an established entrepreneur looking to purchase a small business to expand your portfolio, you need money.
What options are available to obtain financing to fund this? A bank loan or your own savings? Asking a friend or applying for a grant? There are no rights and wrongs when it comes to getting the money to buy a small business.
Your choice will depend on your unique situation — the nature of the business, the size of the business, the various legal and formal matters, etc.
Let’s explore 7 ways to finance your small business purchase and how you can take advantage of each.
1. Personal Funds
The first and easiest source of financing for your next business purchase is using your own money. You might have enough funds in your bank to buy the business. Having stock investments can also be a probable way to fund this. Many people might think of mortgaging their homes, which is not at all a recommendable approach. Always invest the money that you can afford to lose.
Financing your purchase with cash is a rare practice. There is always a combination of equity financing and debt financing. You can fund the down payment from your personal funds and choose other ways to finance the remainder.
2. Small Business Loan (SBA Loan)
The Small Business Administration connects entrepreneurs with lenders and provides guarantees instead of issuing the loan amount. As an acquisition entrepreneur looking for this form of financing, you will have to file an application for an SBA loan.
Based on your application, you will be connected to banks. SBA loans are rated as the least riskier loans for the banks; therefore, they offer lower rates to the applicants.
You can apply for SBA loans to fund your purchase, working capital requirement, or inventory purchases of the newly acquired business. All you need to qualify for an SBA loan is to have a for-profit business in the USA and have a considerable amount of owner equity.
Ideally, you can combine your personal funds with SBA loans to put together the total amount required to buy the business. If you have a good credit score and at least two years in business, SBA loans are probably the best option for you.
3. Seller Financing
Seller financing is a term that originally came from the real estate industry where the seller handles the mortgage instead of a financial institution. The idea has been replicated in the M&A industry. The buyer of the business gets funding from the seller instead of applying for a loan.
If you want to go for seller financing, be aware that such loans are issued at competitive interest rates. The advantages of seller financing include quick purchase and the option of tying the payment of the loan with business performance. Adding the option encourages the seller to disclose all the facts about the business.
4. Bank Loan
Conventional bank loans will always be an option to consider. But they might not be feasible for most people. That’s because banks usually require substantial physical assets belonging to the company as collateral for the loan.
If you have some assets with the bank, they could give you the loan to fund your purchase. But there are additional requirements that might make this more difficult to obtain. For example, you need a great credit score and an SBA-backed guarantee.
5. Leveraged Buyouts (LBO)
A leveraged buyout is a famous source of financing in larger transactions. In this type of funding, acquired company assets are kept as collateral to get a loan to pay the cost of acquisition. A major portion of the acquisition cost is paid out of debt. The major advantage of LBO is maximized return and minimum amount of equity financing required.
The major advantage of LBO is maximized return and minimum amount of equity financing required.
A leveraged buyout is a suitable option if you expect to purchase a small business with high value. A combination of LBO up to 90% with down payment from equity finance can be used. It is commonly known as a high leveraged buyout. The most common transactions using LBOs are those made by private equity firms.
6. Assumption of Debt
There are several ways you can purchase the business. You can purchase only the company’s assets, buy stocks, or go for debt assumption. By assuming the acquired company’s debt, the amount of outstanding loans is subtracted from the total cost of acquisition.
In other words, the liability is transferred from the original buyer to the new acquirer of the business. However, the debt assumption option can only be used when the company’s creditor is willing to transfer the debt under the new contract.
The debt assumption option can only be used when the company’s creditor is willing to transfer the debt under the new contract.
7. Crowdfunding & P2P Loans
Crowdfunding and P2P lending is yet another financing method to fund your acquisition of a small business. It can be a fruitful option if you are looking to acquire a business that has great future potential or can add considerable value to your existing portfolio.
Through crowdfunding and P2P lending, different third-party online intermediaries connect the lenders/investors with the business buyers. You can get equity-based crowdfunding or reward-based crowdfunding.
The intermediaries charge you a service fee for funding. P2P lending doesn’t necessarily have to be done through third parties. Instead, you can leverage your own network of interested investors to fund the purchase.
Key Takeaway
You can leverage different financing options to make the purchase of the new business happen. Depending on the circumstances, you should analyze which option of funding will go well and decide to finance the acquisition. Note that you can combine your options in some cases and raise the total amount required, often without touching a single dime of your personal cash.
Link to original article: https://acquira.com/financing-small-business-purchase