How to Finance Your New Business?Financial Options for Business Buyers
Following are the general ways that Buyers are able to finance the business of their dreams.
The very first thing a prospective business buyer should do is to complete an inventory of all their personal assets, and other available sources of financing i.e. friends, relatives etc. Some buyers have residential equity that can be used to obtain a line of credit to purchase a business. Other buyers may have good business relationships that can be effectively used to obtain credit power. It is also sometimes possible to borrow a rich relative’s financial statement for co-signing purposes, or partner with a friend to buy a business. Some assets can be either sold or borrowed against. It is also very important to determine what your FICO credit score is. The scores range from about 500 points to 850 points. People with FICO scores above 750 can usually borrow money at very good terms, and often without income qualification. Many a business has been purchase with the judicious use of credit cards, but only if it makes sense.
These rich investors are desirous of assisting in the funding of business start-ups and acquisitions, but do not want to participate in the day to day management. For their investment they expect to share in the profits for a certain period of time. The formula can work in a number of ways. For instance, after deducting a reasonable annual paycheck for the Buyer, the remaining profits are split based on some formula. Typically, the split is in the favor of the investor until he has received his investment back. Then the split is changed in favor of the Buyer for a certain period of time. The ultimate goal is for the Buyer to eventually own the business free and clear of the investor involvement. This criterion usually does not apply to the purchase of small to medium sized businesses.
You will find many banks willing to loan money against real property, but less so against business assets. The way to get bank cooperation is to provide them with a good business plan with financial projections that make sense. If the business in question has good positive cash flow, and there is a reasonable value on the assets, then the buyer’s chances of obtaining business acquisition credit increases considerably. This is provided, of course, that the buyer has good credit and some business management background (not necessarily as a business owner).
Venture Capital Firms
The only way to get VC’s to participate in financing is if there is the Potential for very rapid growth of the business. This criterion usually does not apply to the purchase of small to medium sized businesses.
the Small Business Administration is part of the federal government, and is the only self funded department. The program was started in 1953 to assist small to medium sized businesses in obtaining bank financing. Banks are generally risk averse when it comes to financing businesses, and without a guarantee they do not wish to participate. The SBA offers bank a program whereby, provided the bank adheres to SBA underwriting loan guidelines, a guarantee of payment in the event the borrower defaults.
The most popular SBA loan is the 7(a) program, which provides small business financing for acquisition or improvement of assets, refinancing existing debt, or working capital needs. Repayment terms are determined by the actual use of the loan proceeds:
- Real estate loans can be extended for up to 25 years
- Equipment loans can be extended for up to 10 years or to the expected useful life of the acquired equipment, whichever is shorter
- Working capital loans can be extended up to seven years
Lenders are guaranteed for up to 75% of the total loan amount (80% for a loan under$150,000.00) to a maximum guaranty of $750,000.00. Most lenders will finance up to $1,000,000.00 under this program although there is an actual limit on the size of the loan. See Broker for further details on how to qualify for this type of loan.
This is by far the best and most popular form of financing small to medium sized businesses. Industry experts agree that about four out of five businesses sell with seller financing terms. Buyer confidence increases greatly when they realize that the Seller also has the confidence to carry a portion of the selling price in the form of a seller carry-back not secured by the assets of the business. Deal structuring, however, is very important, and an experienced Business Broker can take care of the details to ensure a win-win situation for both parties.
Call us with any financing questions you may have. We are glad to be of service.