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Financing
a Business Acquisition in a Recession
In todays economy, securing financing to
purchase a business has become a full time
job, and theres no guarantee all the hard work
will pay off in the end. Banks have all but
disappeared from the process, leaving business
buyers and sellers wondering how they can
possibly get a deal done. This is in stark
contrast to 2008, when loan origination fees
were healthy and banks were vying for
SBA-backed business loans. In fact, most of
the banks our brokerage firm was dealing with
in 2008 have completely abandoned these types
of transactions. This leaves most business
brokers, buyers and sellers competing for a
shrinking number of financing options.
The governments attempt to
boost bank lending to businesses is falling on
deaf ears. We have seen cash levels on bank
balance sheets triple over the last year,
while lending has steadily declined. In
addition, the SBA, which serves as a guarantor
for many of these loans, has taken steps that
have made this market even more erratic. The
good news is thatthe stimulus billincluded new
SBA plans for temporary fee reductions;
guarantees increased to 90 percent for certain
types of loans, deferred payment loans micro
loans and several other improvements. The bad
news is that the SBA, acting outside of the
stimulus bill, has enacted a significant
change to business acquisition loans by
placing caps on goodwill financing.
On March 1, 2009, the SBA enacted a change
which limits the amount of goodwill in a
business acquisition loan to 50 percent of the
loan with a hard cap at $250,000. Goodwill is
the portion of a business that is in excess of
the physical assets and inventory. Given the
shift in the economy from asset-based
businesses to service-based businesses, the
majority of small business transactions now
originate from such goodwill financing. This
is devastating news for small business owners
and potential buyers, as it has effectively
negated any of the positive intentions of the
stimulus bill.
Lenders, as well as the
business brokerage industry, have united
behind this issue and lobbied SBA officials
with little success. Hopefully, the SBA will
realize this change is causing banks to shy
away from business acquisition deals, choosing
instead to deploy their resources toward
asset-based lending.
Despite these hindrances, buying a business in
this economy is still a real option for people
who have lost their jobs. Many retiring baby
boomers--a large percentage of small-business
owners in the nation--are looking to sell and
now could be a great time to buy if you are
prepared to explore financing alternatives.
Before determining a financing solution you
must understand the historical earnings and
current trends of the business you wish to
acquire. Calculating the true earning power of
a business can be a difficult task. Most
business owners maximize tax strategies to
minimize reported earnings so they pay fewer
taxes. Therefore, when a prospective buyer
looks at the net income, they may not be
seeing the whole story. Business sellers and
their advisors will often recast the earnings
to show the earning power of the business.
This recast number is commonly referred to as
sellers discretionary earnings.
Seller Financing
Because bank financing is complex, has high
closing costs and is almost impossible to
secure right now, seller financing is quite
common in business acquisitions, and a must in
todays economy. Seller financing can be as
flexible as the buyer and seller need it to be
and is only limited to what the buyer and
seller can agree on. The seller, like a bank,
will still be concerned with the buyers net
worth, credit history and experience in the
industry. The seller is also likely to want a
higher percentage in down payment from the
buyer because they are at more risk than a
bank. Most buyers like the idea of the seller
financing since it simplifies the financing
and keeps the seller vested in the business
future success.
There is no doubt that tough times are still
ahead, and until the banks and SBA get back to
the business of lending for business
acquisitions, rather than deterring it,
business sellers and buyers should know that
there are alternatives. With the help of good
advisors and creative thinking, buyers will
find there are still plenty of excellent
acquisition opportunities.
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