How to Use Business Acquisition Loans to Scale Faster
When thinking about growing your small business, you might assume you need to add new products, open a new location, or invest heavily in marketing. But there’s another option worth considering: buying another company, maybe even one of your competitors.
Buying a business gives you immediate access to advantages that can take years to build up, like a loyal customer base, a team of skilled employees, and a stream of steady revenue. In this article, you'll learn three ways you can buy a business and fund it with a business acquisition loan. You'll also find out how to prepare your loan application and what happens after you agree on a price with the seller.
3 Types of Business Acquisitions
There are multiple ways you can buy or invest in a business, including:
Full buyout: Sometimes known as a share purchase, you buy 100% of the shares of the company you’re acquiring along with its assets (including commercial real estate), liabilities, and obligations.
Asset purchase: In an asset purchase, you buy assets from the seller, such as the company’s intellectual property, inventory, customer lists, and so on. You don’t buy any shares in the business.
Management buy-in: A management buy-in is when you and others purchase another firm and operate as the management team post-completion.
What Business Acquisition Financing Options Are Available to You?
There are a variety of funding options small business owners can use to buy an existing company, including term loans, SBA loans, business lines of credit, and working capital advances.
Term Loans
With a term loan, you borrow a fixed sum of money to purchase an existing business. You repay the loan over a predetermined period, usually via monthly payments.
Many banks and credit unions offer small business acquisition loans. If you apply to the business bank or credit union you already have a checking account with, you may be offered a lower interest rate on your loan.
Depending on the size of the loan, you may need to make a down payment. Bear in mind, the application process for these types of business loans can often be lengthy.
SBA Loans
If you have a less-than-perfect business or personal credit score and can’t get a loan from a bank or credit union, you may be eligible to apply for a loan through the Small Business Administration (SBA) program.
The program is a partnership between the SBA and private lenders, including community development companies. Underwriting criteria are not as strict with SBA loans because the SBA guarantees to cover some or all of any outstanding balance to the lender if you fail to fulfill your repayment terms.
There are two types of SBA loans for buying businesses:
SBA 7(a) loan: SBA 7(a) loans are better for buying established businesses with a good reputation and strong customer revenues (like a dental practice or a marketing agency).
SBA 504 loan: The SBA 504 loan option is better for companies whose value is mainly derived from the assets they own, such as a self-storage facility or a commercial data center.
As with term loans from a bank, entrepreneurs applying through an SBA lender for a loan should expect a longer loan application process.
Business Lines of Credit
Business lines of credit work similarly to business credit cards. As with a credit card, there’s a maximum amount of money you can borrow at any one time — your limit.
When you borrow money using your line of credit, your balance increases. Every time you make a repayment, your balance goes back down, and you can spend that money again.
You could use a business line of credit to make a down payment on the business you want to buy. Alternatively, if the owner of the business you’re buying agrees to staged payments for their company, a line of credit could fund that too.
Backd provides a business line of credit facility of up to $750,000. You can settle the balance in full over six or 12 months, with weekly repayments.
Working Capital Advances
Companies take out working capital advances to cover short-term operational needs like payroll, rent, and utilities if there has been a temporary dip in revenue or an unexpected bill. These advances typically have shorter repayment periods.
Advances are rarely used as business acquisition loans; however, there is a place for them when buying another company.
Buying another business is expensive, and working capital advances can be used as short-term financing to cover acquisition and closing costs or operational expenses during the transition.
Backd offers a working capital advance providing between $10,000 and $2 million. You have up to 16 months to clear the balance.
Preparing for a Business Acquisition Loan Application
Ideally, you should have your funding in place as early as possible.
Sellers often work with brokers, who function similarly to real estate agents. They may require potential purchasers to provide proof of funding before they send the information memorandum (IM). The IM is generally a 15- to 20-page brochure that gives a high-level overview of the company you’re interested in, its internal operations, and its financial position.
If the broker asks you for proof of funding, send over the letter or email showing that your business acquisition loan application has been accepted and that you’re in a position to move forward.
Let’s now look at what you need to do when approaching a financial institution for a business acquisition loan.
The four key factors they’ll consider are:
Your business experience: Many lenders will want to know whether you or your management team have experience running the type of business you want to take over.
Business plan: Your lender will want to see a detailed business plan showing how the acquisition will benefit your overall business portfolio or, if this is your first venture, how you will manage and grow it successfully.
The loan amount: You can ask for a loan higher than the business valuation if, for example, you want extra capital to introduce into the business you’re buying. However, make sure you don’t ask for too much and show in your business plan what you plan to spend the money on.
Business and personal credit score: The better your credit history, the lower your loan payments will be because you’ll have access to a more competitive interest rate.
Depending on the lender and type of financing, you might also need to provide:
Down payment: Like when purchasing real estate, many term-loan lenders will want a large upfront payment to reduce their risk.
Collateral: Lenders may also seek further protection by requiring you to pledge personal or business assets as security in case you default on your loan.
Disclosure pack: You may need to share financial statements such as cash flow and annual revenues, tax returns, and details of any other financing your company is responsible for, such as equipment financing.
Getting Ready to Negotiate With the Seller
Once you agree on a price with the seller, you’ll sign a heads of terms. This is an agreement that outlines your and the seller’s responsibilities as you progress toward creating a final and binding sale and purchase contract. There’ll also be a letter of intent that sets out the main terms of the deal, including price, payment structure, and timeline.
On the subject of payment structure, it’s rare for a seller to receive the entire agreed amount in one lump sum. When and how much you pay the seller is an important part of the negotiation process. With most deals, there’s an upfront payment followed by staged payments (also known as “deferred consideration”).
Sellers are often very wary of deferred payments, so to assure them, you need to clearly show how you'll meet all staged payments in full and on time. A good way of doing this is to demonstrate how you'll use the cash flow and revenues of the company you're buying from them to fund the acquisition.
After finalizing this in your heads of terms and letter of intent, the due diligence process starts. That’s when your legal and accounting teams carry out a thorough audit of everything related to the business you want to buy — from the assets they own to legal disputes they’ve had in the past.
Due diligence can last months, and many buyers use it as an opportunity to ask for a price reduction if their legal and accounting teams find negative information not contained in the IM or mentioned during negotiations.
Choose the Best Funding Option to Grow Your Business Interests
Buying a company, whether it’s your first or your 10th, is exciting. Rather than starting from scratch, you’re taking over a firm with existing cash flows, an active customer base, and experience. You have a base to build on and grow your market share faster.
Selecting the most flexible and cost-effective business acquisition loan is essential in reducing your costs. Sometimes, it may be better for you to take out one loan, while on other occasions, taking out multiple facilities at different stages of the purchase process might be better because you can preserve your working capital, reduce your debt repayment, and put less pressure on your cash flow.
Consider applying for one of Backd’s two main funding options to provide you with the capital you need to buy another business:
Working capital advance: Access between $25,000 and $2 million (minimum one year in business required).
Business line of credit: Borrow between $50,000 and $750,000 (minimum two years in business required).
To be eligible for our lending solutions, you must be based in the U.S., have established business credit, have a brick-and-mortar address, a minimum credit score of 625, and a minimum monthly revenue of $100,000.
Apply now and be funded within as little as 24 hours.
