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Whether you’re buying a competitor to expand your business, opening a new franchise, or buying out a business partner, purchasing a business can be costly. Business acquisition loans can provide the capital you need to buy an existing business.
What is a business acquisition loan?
A business acquisition loan is a loan used to fund the purchase of an existing company. Loans can be used to purchase an existing business, buy a franchise, or buy out a business partner.
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How do business acquisition loans work?
Business acquisition loans are typically structured as medium- or long-term loans. Interest rates can vary, typically in the range of five to 30 percent, and loans will generally require some form of a down payment, with larger down payments helping to secure more favorable interest rates.
Business acquisition loans are typically more difficult to qualify for, as many lenders will have strict requirements. Lenders want to verify that you and your business are financially sound, as well as the business to be acquired. They also want to make sure that the acquisition makes sense and will ultimately be successful.
When you apply for a business acquisition loan, lenders will look at both your finances and the finances of the business to be acquired. They will consider profit and loss statements, cash flow, assets, and other documentation. They will also consider your business plan and your personal and business credit scores.
How should businesses prepare to obtain a business acquisition loan?
When preparing to acquire a business, it’s important to make sure that you have an accurate valuation of the business you’re planning to buy, including its bank statements, assets, and financial history. In some cases, an independent third-party valuation from an accounting firm may be required. You will need to know how profitable the business is and ensure that you will be able to handle the loan payments. You will also need a letter of intent from the owner of the business you are buying; this confirms that you are engaged in negotiating the sale.
When you’re considering a business acquisition loan, it’s important to evaluate multiple loan options and compare their terms, including their fees, interest rates, length of the repayment term, and how soon you’ll be able to receive the funds.
How can you obtain a business acquisition loan?
There are a number of sources of business acquisition loans. Which type of loan is preferable depends on your creditworthiness, business history, how quickly you need the funds, and other factors. In some cases, you can use several types of loans in conjunction to fund a business acquisition. The most common sources of business acquisition loans include:
Bank Loans
Banks or credit unions may offer loans designed for business acquisitions or term loans that can be used for this purpose. Banks typically enforce strict requirements, and it may be difficult to qualify for a loan from them. It’s a good idea to consider local banks or credit unions, as they may be more likely to approve you for a loan. Additionally, if you have a pre-existing relationship with a bank, such as a commercial banking account or other types of loans with the bank, this can make it easier to qualify for a business acquisition loan from that bank.
When you apply for a loan, banks will evaluate your business’s history, financial documents, tax returns, and personal and business credit scores. They will also evaluate the financial strength of the business you are planning to acquire. It’s important to have a high credit score and extensive business experience to receive this type of loan.
Bank term loans typically have favorable interest rates and terms. Typical terms could be from one to 10 years.
SBA Loans
SBA loans can be an excellent option for businesses that cannot qualify for other types of financing. The SBA does not directly offer loans but works with lenders to guarantee a large portion of the loan, reducing the risk for the lender. SBA loans can be used to purchase an existing business or a new franchise.
Although the SBA offers several types of loans, the 7(a) loan program is best suited for business acquisitions. 7(a) loans are typically flexible and affordable, with terms of up to 25 years and affordable, fixed interest rates, with a maximum loan amount of $5 million.
SBA loans typically require you to have strong business and personal credit scores and a financially successful business. Personal guarantees are required from anyone owning 20 percent or more of the business. It’s also important to be aware that the application process for SBA loans can be time consuming, and it could take up to 90 days before you are approved and funds are available. However, the favorable terms of SBA loans make them a good choice for businesses that are unable to qualify for a traditional bank loan.
Online Lenders
Online lenders often offer longer repayment terms and large loan amounts that can allow you to purchase another business. These lenders generally have a quick application and approval process and may be able to provide you with funds more quickly than bank or SBA loans.
Online lenders may be a viable option for business owners that would not qualify for SBA or bank loans, including those with lower credit scores, no available collateral, or limited time in business. While online loans are easier to qualify for, be aware that they typically charge higher fees and interest rates.
Businesses with higher credit scores are more likely to qualify for more favorable loan terms, while those with lower credit scores may receive lower loan amounts and shorter repayment terms. Commonly, terms are between one and five years, although lenders may offer terms up to 10 years.
Startup Loans
Startup loans are designed for new businesses. If you are planning to buy a business and do not already own one, this type of loan can be helpful, as many business loans require you to have been in business for at least two years. Many startup loans will require a down payment, collateral, or personal guarantee. A strong personal credit score and business plan will help you qualify for a startup loan. Lenders will want to see that you have enough experience and resources to succeed with the business.
Startup loans are available from banks and online lenders. Some loans are specifically designed for purchasing a franchise. Startups may be able to qualify for SBA loans, as well.
Equipment Financing
Equipment financing cannot pay for all of a business acquisition, but it could be a helpful source of funds if the business you are purchasing includes valuable equipment. In some cases, existing equipment assets can be a large part of the company’s sale price. You could cover this part of the purchase using equipment financing, then obtain another, smaller loan to cover the remaining costs of the purchase, or pay for the remainder outright.
Equipment financing can be a beneficial choice because the equipment itself serves as collateral, allowing lenders to offer affordable interest rates and fees. Equipment financing generally requires fairly strong business and personal credit scores and may require a large down payment. However, these loans can be easier to qualify for than other types of financing.
Seller Financing
In some cases, the existing owner of a business may be willing to finance your purchase. Typically, the buyer would pay a down payment of 10 to 25 percent of the cost of the business. The remaining balance would then be paid off in monthly installments with added interest. Seller financing typically has repayment terms of one to seven years.
It’s common for sellers to only offer financing for a portion of the total selling price—generally, up to 60 percent. You may be able to combine seller financing with other loans to cover the full cost of the purchase. Since the amount needed from additional loans would be smaller, it may be easier to be approved.
As with other loans, sellers will evaluate the buyer’s personal and business financial history, business experience, and business plan. Not all sellers will offer financing, but if it is available, it can be a good choice. Interest rates are typically fairly low, and sellers’ requirements are often less strict than bank loan requirements. Sellers may offer more favorable terms since they are motivated to complete the sale.
Business Expansion Loan
Business expansion loans are available to established businesses that plan to acquire another company as part of an expansion. If you already own a profitable business, it can be easier to receive this type of loan since your business already has a track record of success. Business expansion loans are offered by traditional banks and credit unions as well as online lenders. Typically, you must have been in business for at least two years to qualify.
What are the advantages of business acquisition loans?
Business acquisition loans have a number of advantages:
- Long repayment terms. Business acquisition loans typically have long repayment terms, meaning that the monthly payments are likely to be very manageable.
- Helps you expand your business more quickly. Purchasing an established business can give you the opportunity to immediately focus on running your business, rather than growing from the ground up. If you already have a business, adding a new purchase can allow quicker expansion.
- Interest rates may be low. For borrowers with good credit scores and an established business history, it’s possible to find very favorable interest rates.
- Some business acquisition loans don’t require collateral.
What are the disadvantages of business acquisition loans?
There are a number of disadvantages to business acquisition loans:
- Loans can be difficult to qualify for. Many business expansion loans require high business and personal credit scores and healthy cash flow, especially for loans without collateral.
- It may be difficult to obtain the full amount of funding needed. Purchasing a business is a costly transaction, and it may be difficult to find a loan that provides enough funds to cover the entire purchase.
- Personal guarantees may be required. It’s common for business acquisition loans to require you to provide a personal guarantee, which means that you would be held liable if you are unable to repay the loan.
- Large down payments may be required.
Final Word
Acquiring an existing business can be an excellent opportunity, but it can be difficult to gather enough of your own capital to fund the purchase outright. There are a number of loan options that can help you buy a business, including traditional term loans from banks or credit unions, SBA loans, and loans from online lenders. Startup loans can be helpful for new businesses, while business expansion loans can help you add to an existing business. It’s also possible to receive financing from the seller of the business.
