If you want to buy an existing business, you’re almost certainly going to do so with a business acquisition loan.
Not many people have that much cash just lying around, after all.
There are several advantages and disadvantages to applying for a loan for purchasing a business. There are lots of options available, but it can be a fairly arduous process.
You can access capital through a variety of lenders, from the SBA to traditional lenders like a bank or credit union, as well as online lenders.
Here’s a look at the pros and cons of a business acquisition loan.
Pros of a business acquisition loan
Let’s take a look at some of the advantages of a business acquisition loan.
- Lots of options: There are a wide variety of ways to seek a business acquisition loan, from the SBA to traditional lenders to online services. They all vary in repayment terms. They can also be used for a variety of purposes, from purchasing an existing business to buying real estate or upgrading equipment.
- Only need to worry about payments: Purchasing a business using an acquisition loan also gives you more financial freedom compared to say venture capital. The lender will review your business plan but won’t have a say in the running of your business or a share of the profits.
- Low interest rates: Loans generally have lower interest rates compared to other sources of finanacing(like credit cards or finance companies). Payments can also be deducted on your taxes.
- Large amount of funding: You can access up to $5 million if you’re using the SBA 7(a) program, which will allow you to purchase a good sized business with relatively favorable repayment terms. It also helps you build a credit rating and creates a good financial reputation for your business
Cons of a business acquisition loan
Here are some of the drawbacks of a business acquisition loan.
- Difficult application process: Applying for a business acquisition loan can be an arduous process and you’ll have to supply a ream of documents, ranging from personal and business tax returns, financial statements, a business plan to name just a few.
- It takes a while: This isn’t a quick process either. It’s generally measured in weeks, not days.
- Strict requirements: To successfully apply for a business acquisition loan, you’ll probably need a very health credit score and demonstrate you are fiscally responsible, both in terms of your personal finances and any business interests you have. Traditional bank loans also require collateral.
4 ways to finance a business acquisition loan
Now let’s take a look at four ways to finance a business acquisition.
1. SBA loans
This is one of the most popular ways to fund the purchase of a business because they offer favorable repayment terms. You can access up to $5 million under the 7(a) program.
Rates are generally prime plus between 5% and 8%.
2. Traditional term loans
These are loans received through a traditional lender like a bank or credit union. Rates can be fixed or variable and requirements vary from lender.
Usually short-term loans will have higher interest rates than long-term loans.
3. Online lenders
If you’re looking for smaller amounts of cash and a quicker turnaround, you could apply to an online lender like ondeck and bluevine.
These loans generally have higher interest rates but you can sometimes get approved same day.
4. Seller financing
Seller financing is very common when purchasing an existing business. You essentially work out all the details – interest rate, term length, payment schedule, etc. – directly with the seller.
You’ll, obviously, have to sign some sort of agreement.
Many sellers are motivated to commit to seller financing to help close a deal.
These can be used in conjunction with other loan options.
How to get a loan: 4 steps for loan qualifications
Here’s the four steps you’ll need to take to get a business loan.
First, you’ll need to get a business valuation to determine the worth of the company you want to buy. Lenders look at this value carefully to determine how much money they are willing to loan you.
There are a variety of ways to complete a valuation but the three most popular are market-based, asset-based and income-based valuations.
Second, you’ll want to get to get a signed letter of intent between you and the seller laying out the specific steps both are going to take to move forward with the deal.
It isn’t necessarily a legally binding document but shows a lender that you’re serious.
Third, you’re going to want to check both your personal and business credit scores. This is a key component lenders will assess that shows how reliable you are and how likely it is that you will pay back the loan.
Fourth, you are going to want to submit a whole host of financial documents. This can vary from lender to lender but you can reasonably expect to produce the following documents:
- The loan application itself
- Federal income tax returns for the previous two years
- A profit and loss statement from the business you want to buy
- A proposed bill of sale that includes the terms of sale
- The asking price of the business
- A list of inventory, equipment, furniture, etc.
- Financial projections for your new venture
- Your own loan history
These are just a few of the documents you’ll need to compile. It’s a fairly detailed process, obviously.
Conclusion
This has been a look at the pros and cons of a business acquisition loan and how you go about applying for one.
There are lots of lenders out there – from the SBA to traditional lenders to newer online services – with relative advantages and disadvantages to both. The process can be a difficult one that takes a fair bit of time so plan well in advance if you’re looking to buy an existing business.
Don’t forget about seller financing as you work towards closing the deal.
Then you’ll want to actually apply for the loan by completing a business valuation, getting a letter of intent, checking personal and business credit scores and ultimately submitting all of the documentation needed for your application.