Pre-Great Recession – banks competed for business acquisition loans and I remember one client’s summary that had eight banks, eight approvals, seven banks using the SBA loan guarantee program (called SBA loans from now on) and my client took the non-SBA offer. Why? Because the fees were noticeably lower (a low fixed fee vs. the SBA fee of about 3%) and the terms were about the same (10-year SBA term versus a 5-year note with a 10-year amortization, the same interest rates).
2009 – Were there any business acquisition loans?
2013 – it’s hard to find a non-SBA acquisition loan on a deal that meets the SBA qualifications.
Who benefits? Buyers, banks and especially sellers!
Buyers – new markets open up for buyers because of SBA loans. They can now buy larger and better businesses than they could with a conventional loan that requires larger down payments and five-year versus 10-year terms,
This is great news for the economy because the majority of these buyers are executives who have built their skills and capital in the corporate world and are poised to grow their acquisition, which is often a coasting business. These buyers want to soar, not coast. It’s much better for them to buy a larger business with systems, processes and a management team instead of an owner-operator business-and they can do so easier because of the SBA program.
Banks – the guarantee portion is great for banks. They get a guarantee from the SBA for at least 75% of the loan amount (this is collateral). In addition, smaller banks will sell off these loans at a premium (20% the last I heard) to increase their capital. What this means is, investors get a government guaranteed rate of return of about 4%, which is higher than T-bills and similar.
With banks having been tight on credit and many businesses not wanting to take the risk of borrowing, acquisition loans are a great way for banks to get their deposits working. And, SBA loans are much safer than many other kinds of loans and, because SBA loans are considered “cash flow loans” (not requiring full collateral), they have better approval considerations.
Sellers – however, the biggest beneficiary of SBA acquisition loans are the sellers, and it’s not even close! Sellers are getting prices they would never dream of under any other circumstances and with more cash at closing. Let’s look at an (fictional) example.
Buyer cash for downpayment – $500,000
Net profit (after owner salary) – $500,000
Tangible assets – $100,000
Criteria Without SBA With SBA
Financing with a conventional
5-year term* ~$1,500,000
Financing with an SBA
10-year term** ~$2,500,000
Possible price *** ~$1,950,000 ~$3,000,000
* 5-year term, 5.5% interest rate, 1.5:1 debt coverage ratio and with tangible collateral requirements.
** 5-year term, 5.5% interest rate, 1.5:1 debt coverage ratio and with cash flow considered a form of collateral (doesn’t require 100% tangible collateral).
*** Buyer down payment plus maximum (assumed) financing and not a reflection on bank credit policies, valuation, non-financial factors, etc.
If we assume the business (in this example) is worth 4-5 times net income, then the buyer market (that is willing and able to pay this amount) for the seller opens up from buyers with about $1 million in cash for a down payment to buyers with as little as $400,000. And obviously, there are a lot more buyers with $400,000 than $1 million (and more with $1 million who prefer to invest much less). Then it becomes a matter of supply and demand and the more demand the higher the price will be.
Conclusion
SBA guaranteed loans are one small cog in the big wheel of economic growth and our economy still needs help. Good businesses, bought by great buyers with fantastic financing is a super package. Let’s face it, it’s one of the few things the government does that makes sense and gets positive results. Plus, it benefits all involved parties, especially sellers.
