YOUR COMPANY IS LOOKING FOR BUSINESS FINANCING
FOR AN ACQUISITION!
HOW TO FINANCE A BUSINESS ACQUISITION IN CANADA
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FINANCING TO BUY A BUSINESS IN CANADA
Financing a business purchase in Canada often has the business person juggling various acquisition finance solutions. Which solution makes sense, and how do you access that capital properly? Let's dig in.
HOW DO YOU FINANCE A BUSINESS ACQUISITION
Although bank financing will typically be the most sought-after business financing solution to buy a business in Canada numerous other financing solutions can provide more or additional capital to purchase a business, It's about ensuring you have the right business lender and focusing on the right amount of business acquisition financing suitable for your acquisition needs.
Aligning your strategy with the right amount of financing helps ensure long-term success - the optimal capital structure for your purchase should become job #!
That main tranche of financing, known as the ' senior debt ' of the business will typically have the lower cost of financing while other components to your financing will have different costs and structures and risks. Owner equity in a purchase will often be in the 15-20% range.
ASSESSING YOUR BUSINESS PURCHASE FINANCING NEEDS
The ability to properly arrange your financing to match the needs of the business purchase will revolve around:
- ensuring that the business has enough, and proper post-acquisition financing in terms of working capital and business lines of credit that will allow sales to grow
- Financing new assets and technology or repairs required to business assets - in some cases leasehold improvements might be required
- Many business acquisitions revolve around management buyout scenarios -
- Refinancing strategy to restructure existing debt and creditor obligations
WHAT TYPE OF BUSINESS FUNDING SUPPORTS YOUR VALUATION / PURCHASE PRICE OF THE TARGET COMPANY
When you buy a business and consider financing a takeover, it's all about a proper valuation and moving forward with a source or sources of financing and loan terms that make sense for your acquisition price after you have performed an appropriate amount of due diligence.
LOOKING TO SECURE FUNDING FOR YOUR BUSINESS PURCHASE
In determining business value there are a number of 'common sense ' considerations around valuing the business purchase
Financial statements of the business, both from a historical and interim perspective should be reviewed from a viewpoint of sales revenue growth, profit, and operating cash flow - Every industry has different dynamics around supply and demand, key competition and how the company behaves in the overall general economy.
The ability to determine growth potential will often be a key factor in the final price determinant when the buyer considers a purchase.
Asset-intensive businesses are dramatically different than service-based businesses - In many cases assets should be valued, potentially with the use of a third-party appraiser when considering key assets such as equipment and technology. In the new economy, many business valuations focus on intangible assets around patents, intellectual property, and the ability to generate recurring revenues.
There are a number of standard business formulas around valuation, including projection of cash flows and profits, or in some cases comparing valuations with other companies in the same industry if that information is available. Replacement costs must be factored into any valuation decision as it relates to depreciation, etc.
PLAN YOUR BUSINESS CAPITAL STRUCTURE IN ADVANCE
Suffice it to say, but often forgotten by many in business acquisitions, it’s critical to start assessing financing solutions for a business purchase well in advance of when funds are needed. The analog we could also use is getting ' pre-qualified ' for a home mortgage, which then gives the buyer both security and negotiating power when it comes to price, or in our case, ' valuation.' That final financing structure will dramatically affect the future growth strategy of the business.
MANAGEMENT & BUSINESS EXPERIENCE ARE REQUIRED!
Management depth and experience is also critical to your financing in a business acquisition loan search. Your lender/lenders, whether that is a bank or a commercial finance firm / asset-based lender, will want to know the ability you can demonstrate to properly manage and run their business - with their focus on getting repaid!
That goes for both traditional and alternative sources of capital, as both are used to finance a company's purchase. Whether it's leveraged buyouts or a management buyout, your ability to demonstrate business expertise to banks or commercial finance firms in your industry is key.
DEBT AND EQUITY COMBINATION
Without getting too technical on some higher-level business concepts and jargon around ' debt ratios ' and financing acquisition with debt it needs to be clear that you understand the capital structure and debt and equity. Those latter two points are of course your 2 sources of finance to properly execute your transaction. It's critical to demonstrate in your business plan and projections of cash flows that repayment of debt can be addressed properly.
SOURCES OF DEBT FINANCING FOR YOUR ACQUISITION
Debt financing in your acquisition deal will come from commercial sources such as banks and finance companies. In the case of banks, many smaller transactions can be financed under the Government Small Business Loan's auspices. Major changes to the program, including removing previous borrowing limits, make this option, aka, the 'SBL ' very attractive. The Canada Small Business Financing program is our Canadian version of the popular U.S. ' sba loan' with an attractive interest rate and repayment flexibility combined.
THE EQUITY FINANCING COMPONENT - YOUR DOWN PAYMENT/PERSONAL INVESTMENT IN YOUR TRANSACTION
The other side of debt in your transaction is equity. Family, Angel, and private investors will demand ' shares’, diluting your own ownership. This then becomes the difficult balance act of sourcing the right amount of debt and equity. Naturally, if your own investment into the firm, along with debt will cover the transaction no ' dilution' of your investment will be required. Entrepreneurs invest from their savings, retirement accounts, or other sources of personal investment.
ASSET SALE OR SHARE SALE?
By the way, ' share sales' are difficult, if not impossible to finance given the bank or finance company has no way to liquidate or monetize their loans. Going public is of course a whole different story.
In some cases real estate might be a key component of your deal - typically real estate is held in another company under some holding company scenario.
FUTURE FINANCING NEEDS POST-ACQUISITION!
While many owners focus on closing the acquisition, they sometimes forget to focus on the newly acquired business's working capital and cash flow requirements. That’s a recipe for failure with a proper focus on cash reserves on an ongoing basis for day-to-day funding needs.
7 WAYS TO FINANCE A BUSINESS ACQUISITION AND SUCCESSFULLY BUY A BUSINESS IN CANADA
As we have said the senior lender is a key focus of your acquisition strategy.
Debt financing from acquisition financing lenders can come from:
Canadian chartered banks - bank loan, term loans, operating lines of credit -
When considering a bank term loan for the acquisition the senior lender will typically take the first position on all the assets of the business - bank interest rates offer the lowest interest rates in Canada.
Banks tend to be the ' go-to' for many business people/entrepreneurs looking to purchase another company. Bank loan approval will focus on key financial metrics in the business such as sales revenues, profits, and cash flows required to pay down financing and fund day-to-day operations
Banks also place significant emphasis on the financial background of the buyer, including areas such as net worth, personal credit history, and business experience. In certain cases, the bank will ask for external collateral as well as personal guarantees.
A solid business plan will usually be required - 7 Park Avenue Financial prepares business plans for clients that meet and exceed bank and commercial lender requirements,
Every industry has its own operating dynamics and the bank lender will focus on general industry conditions.
Many business people often express concern about the complications and delays that might come from a bank term loan acquisition so buyers of a business should be prepared typically for a total time commitment of several months when it comes to bank financing/loan approval.
Government Loans
The Canada Small business loan program is offered by Canadian banks and credit unions and can be used to facilitate a business purchase for small transactions in the 500k -1 Million dollar range
The government allows a participating financial institution such as a bank or business-oriented credit union to help small businesses finance or acquire a business venture with a limited personal guarantee and a smaller personal equity investment. It is a great way to purchase an independent business such as an existing business such as a franchise.
The credit report of the owner plays a key role in credit approval on government loans. The federal government loan guarantee eliminates the need for raising capital as many smaller businesses can't access angel investors or approaching firms who only wish to make significant investments. The program also finances real estate as an alternative to commercial mortgages and secured loans from traditional lenders- Guarantees and safety measures for the banks are in place under the program
Asset-based lending/leveraged buyout-
Acquisition financing via an asset-based lender will typically be a combination of a term loan and a revolving loan tied to the business's assets - The revolving loan will fund current assets such as inventories and accounts receivables. Typical term loan structures from the bank and asset-based lenders will carry a 5-year amortization with potential refinancing/renewal flexibility.
Interest rates will vary based on considerations such as your transaction's overall credit quality, type of financing needed, amount of financing and repayment terms structure, the appraised value of the asset base on the balance sheet, etc.
Equipment Financing -
Equipment financing is used by 80% of North American companies purchasing assets - All types of assets and technology can be financed under capital leases and equipment loans where the lessee chooses to own the assets at end of the lease term - Companies also have the ability to enter into operating leases which is a better method of using assets versus owning them.
Acquiring business assets through lease financing preserves existing credit facilities and helps a business maintain cash reserves.
Term acquisition loans from Canada's crown corp. bank - bdc offers acquisition funding solutions for the business transfer of ownership financing - Talk to 7 Park Avenue Financial about bdc loan requirements
Mezzanine Financing -
Mezzanine finance is cash flow financing for firms that do not have the amount of business assets to secure additional financing. Cash flow loans have higher interest rates as they are unsecured loans.
Mezzaning finance soltuions are cash flow loans that rank behind senior debt - so they will come at a higher interest rate / financg cost - They can complenent the capital structure of a businss and the financing focues on the cash flow generation ability of the company, as cash flow loans are unsecured .
SELLER FINANCING
Financing the purchase of an existing business might include a seller financing component via the target firm. The seller finance/vendor takeback part of your transactions reduces the amount of debt you are required to take on, and, if properly structured, is viewed positively by banks and commercial lenders as part of a loan to buy a business. A lot of creativity can go into a seller's note to help fund a final transaction.
KEY TAKEAWAYS -
Often business purchase transactions will include a combination of different types of funding to form the optimal debt structure.
Purchasing a business is often considered a better strategy than the start p process and often offers more opportunities and less risk with additional flexibility.
Collateral and cash flow play a key role in securing the right amount of business purchase financing
Government business loans can be utilized to fund the purchase of a business
CONCLUSION
Acquisition financing requires a combination of the right financing structure and a cost of financing that makes sense for your transaction.
As potential business owners weigh their financing options traditional financial institutions as well as alternative finance firms offer a number of financing solutions based on term loans and lines of credit. Criteria for credit approval will vary based on the type of acquisition financing the lender chose, as well as the overall structure required to complete the purchase.
Talk to the 7 Park Avenue Financial team for information on what structuring and criteria work best for your business purchase. The right combination of debt and equity will properly support your new venture.
If you're focused on putting the proper' fix' in place for a financing strategy in financing a business purchase and are looking for ways to properly finance a purchase of a business seek out and speak to a trusted, credible and experienced Canadian business financing advisor who can help you ‘juggle ‘ those solutions into a successful business acquisition with financing advisor expertise you need.
FAQ: FREQUENTLY ASKED QUESTIONS / PEOPLE ALSO ASK / MORE INFORMATION
How do you finance a business purchase?
Acquisition debt financing used for buying an existing business / legal entity can come from a number of different lenders such as traditional financial institutions or alternative lenders as well as Government loans when trying to achieve the optimal financing structure - Seller financing for acquisition purposes can also be a component of the final finance structure but is less common in corporate mergers. Typical reasons to buy a business and gain control include market share and the ability to achieve economies of scale via the purchase of the target company.
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