When your business reaches its limits in terms of organic growth, you’ll need to find new ways to expand — such as acquiring another business. This will be one of the most significant financial investments you’ll ever make, and it can be daunting to figure out the best way to raise financing. But don’t worry — we’ve got you covered.
In this guide, we’ll walk you through the different types of business acquisition loans available and how to get one to buy a business. We’ll help you understand the ins and outs of the different loan options so that you can make an informed decision about the best loan for you.
Let’s start by defining the topic. A business acquisition loan is a loan that is used to finance the purchase of an existing business. It can be a great way to help you grow your business, as it allows you to use the money to purchase the assets, personnel and other resources of the company you’re acquiring. With a business acquisition loan, you can get access to the capital you need to help you expand and reach your goals.
Acquisitions are a core part of the economy, with $2.9 trillion of M&A activity in the United States in 2021 alone. Most of these transactions are financed by banks and other lenders, who have developed specialized business acquisition loan products.
The type of acquisition financing available to you depends on several factors, including:
You must also think about the terms of the loan and how that might impact your acquisition financing plan. Things to consider here include:
One common financing term is conspicuous by its absence here: collateral. That’s because acquisition loans are typically not secured with collateral as traditional loans are. Instead, they’re based on cash flow lending, which involves what’s called a collateral airball or financing gap — meaning assets are less than debt for purchase.
Business acquisition loans can be used by entrepreneurs or established companies who are looking to purchase an existing business or acquire a controlling interest in an existing business. These loans can also be used by individuals or companies who plan to merge two businesses.
Business acquisition loans can range from straightforward term loans to more complex arrangements involving equity. Bridge has partnered with top financial institutions to provide you with access to a full range of commercial loan products, including the following:
A term loan is the most familiar form of lending. Your lending partner provides you with a lump sum, which you agree to repay with interest over a fixed period.
Pros:
Cons:
The federal Small Business Administration (SBA) operates a loan scheme that guarantees business-related borrowing of up to $5 million for business acquisitions and $10 million for real estate acquisitions. SBA loans often have favorable terms, too, including lower down payment requirements. The tradeoff? Required personal guarantees and personal guarantee fees, with no clear path to reducing or eliminating these personal guarantees over time.
Pros:
Cons:
This type of acquisition financing product works the same way as a term loan, but it is collateralized against a tangible asset, such as real estate, equipment and/or working capital. If your business acquisition includes equipment or property, you may be able to leverage those assets against the loan.
Pros:
Cons:
A business owner in need of capital has two main financing options: seek a loan or sell equity to investors. Mezzanine financing sits midway between these two levels of acquisition financing, hence the name.
Mezzanine financing is called a junior loan because it is typically subordinate to other forms of financing. This means that in the event of a default, the holders of mezzanine loans can only claim their share of the company’s assets after the senior lenders have been repaid. Because of this lower priority, mezzanine loans are generally considered riskier than other forms of financing, and as a result, tend to carry higher interest rates.
Mezzanine financing works best in conjunction with senior debt, providing an additional layer to the capital stack that can be used to bridge the gap between senior debt and equity.
Pros
Cons
With this type of acquisition financing, the owner rolls equity in the form of a seller note rather than paying cash equity into the deal. Owners take out a loan that sits on the business’s balance sheet and (like mezzanine financing) cannot be repaid prior to bank or senior debt. The benefit of seller financing is that it allows the owner more leverage with less cash.
Pros
Cons
Business acquisitions can make sense for any number of reasons. Here are a few scenarios in which you might apply for a business acquisition loan:
Your long-term strategy can only go so far through organic growth. Every company reaches a point where they need to step up a level, and that usually means acquiring another business that's relevant to your core operations, such as:
Acquisitions are also a way to establish your business in a new market. Rather than trying to build a new business from scratch, you can acquire an established company with a track record in that market. This can include companies in different:
Some acquisitions are driven not by what the target business does but by what it owns. Buying out the target business gives you unlimited access to that business’s assets and resources, which can benefit your overall long-term strategy. Examples of this include:
Not all acquisitions result in a merger with another business. In some cases, the acquisition is simply a transfer of ownership between two parties, which may still require acquisition financing. Common scenarios here include:
When you approach a lender about a business acquisition loan, you will have to prove that the acquisition is a sound investment and that you can make your loan payments.
Here are five things you need to do:
Some of the common ways to evaluate your acquisition target include:
Your acquisition target might be worth more in the future, but lenders generally want to focus on its current value based on the most recent 12 months. This will impact the total credit available to you.
Lenders will also want to know if you're in a position to complete this acquisition. They will ask to see details including:
Lenders want to see that you can provide down payments and that you have enough cash flow to cover loan repayments in the event of a downturn.
Many lenders want to see how the acquisition supports your long-term profitability. In particular, they’ll want to know how long the acquisition will take to become profitable and how you'll respond if things don't go according to plan.
Make sure your business plan focuses on the fundamentals, such as cash flow, expenses and investment. Your financial statements and valuation of the target business should help you create a compelling business case for acquisition.
Many lenders will expect to see a Letter of Intent (LOI) signed by the owner of your acquisition. This confirms the essential terms of your deal, including the total price of the acquisition. It also confirms that the seller is interested in completing the deal. Banks will also require at least a draft purchase agreement (which codifies the terms outlined in the LOI) before underwriting and will certainly require the executed purchase agreement prior to or at closing.
An LOI may or may not be legally binding, depending on how it’s phrased. In all cases, it’s best to check with your legal team before submitting to ensure the LOI is accurate and fully outlines your commitments.
There are over 4,200 commercial banks in the United States, each offering a range of business acquisition loan programs. There are also options other than traditional banks, including a new wave of fintechs (financial technology companies) that provide novel ways to find acquisition financing.
The good news is that you can look for a lending partner that offers competitive rates, flexible repayment terms and high lending limits. The less-good news is that finding the best deal is hard work and often involves working with a broker or advisor.
Another solution is to use an online service such as Bridge. Bridge uses an RFP to create a picture of your specific lending requirement. The Bridge platform can then promptly introduce you to a lender, ensuring you never miss out on the best deal.
Lenders want to help you grow, but they also want to protect themselves against defaults. Before approaching an acquisition financing partner, work with your finance team and other stakeholders to answer questions like:
If you have convincing, data-driven answers to these questions, you should be able to find an acquisition financing partner to support you.
Most business acquisition loans require some form of capital injection on the buyer's part. Also, bear in mind you'll need capital for investment and operational expenses — look at Bridge's loan product page for more financing options.
A business acquisition loan is attainable for most companies with a solid credit profile and a robust business plan. If you have a strong, growing business, lenders will be glad to help you step up to the next level.
The trickiest part is finding the right lender. There are thousands of options out there, each with different interest rates, repayment terms and credit limits.
To improve your chances of finding the right deal, try using a lender-matching service like Bridge. Create your account and then complete a request for proposal (RFP) in less than 20 minutes, and find lenders perfectly suited to your business needs.