If you’re thinking of buying an existing business, then it's important to find the right kind of finance. A business acquisition loan can be a great solution. It’s often more simple than other forms of business acquisition finance.
In this guide we explain how a business acquisition loan works and the pros and cons of using one. We also answer common questions like “how do I apply for a business acquisition loan and “can I get a business acquisition loan with bad credit?”
Table of Contents
- What is a business acquisition loan?
- What are the pros & cons of using a business acquisition loan?
- How do I apply for a business acquisition loan?
- Frequently asked questions?
What is a business acquisition loan?
A business acquisition loan is designed to help you buy a new business and finance other costs relating to the purchase. It’s actually an umbrella term for different types of loan including term loans, asset financing and mezzanine finance.
- Usually capped at 90% of acquired business value
- Often time-limited. Ie. it must be used within a specific time period or it’s no longer available
- Usually secured on assets
- Different types of loan available including, term loan, asset financing and mezzanine debt
- Often possible to roll up interest and repay it at the end of the loan period
How does a business acquisition loan work?
How a business acquisition loan works depends on the type of borrowing arrangement. Lenders usually require security because a business acquisition is a relatively risky venture. Interest rates are often fairly high, but will vary depending on your circumstances and the type of loan.
Term loans work like a simple business loan and are usually secured on assets. Lenders calculate interest every month and it is sometimes possible to roll up the interest by adding it to the loan balance.
Mezzanine debt is usually set up on an interest-only basis. If you can’t afford to repay the loan, then the lender takes equity at the end of the loan period.
Asset finance is where lenders purchase your business assets in exchange for cash. You can then buy back the assets or lease them through monthly repayments.
Different types of business acquisition loan
Business acquisition loans include senior debt, mezzanine debt and asset based lending. Here are some common types of loan:
- Secured term loan - this is sometimes called senior debt because it takes priority over other unsecured debt (lenders would receive money before other lenders if your business became insolvent). Lenders often offer an interest-only payment period and rates can be fixed or flexible. If your business doesn’t have suitable assets to secure a loan then it may be possible to arrange a cash flow based loan.
- Cash-flow or working capital loan - lenders advance cash based on the expected future cash-flow of your business.
- Mezzanine debt - a type of loan that can be converted into equity if the borrower can’t repay the loan. Lenders often offer interest-only loans, but the interest rate may be high due to the high-risk nature of this type of loan.
- Asset based lending - allows you to use the assets of the new business as security for the loan. The lender may advance up to 70-90% of the assets value of the new business (assets include outstanding customer invoices, stock, equipment and property).
- Private debt - this is a type of business acquisition loan offered through a private company rather than a bank. Your business may be accepted for private debt finance if you can’t get lending elsewhere. However, private debt can be an expensive option.
What can I use a business acquisition loan for?
A business acquisition loan is designed for buying another business. It can be used to help with acquisition costs including:
- Purchase price
- Professional fees including advice from your accountant
- Legal fees
- Restructuring costs
- Property costs
What are the pros & cons of using a business acquisition loan?
The pros and cons of a business acquisition loan depend on the type of finance. Here are the main pros and cons for a simple secured term loan.
- Keep control - a term business loan allows you to keep control over your business as you won’t be selling equity to the lender.
- Tailored to your needs - lenders assess business acquisition loans individually so they can be tailored to your needs. For example, some lenders offer the ability to roll up interest, rather than paying it straight away.
- More likely to be accepted - lenders are more likely to accept an application for secured lending because they can sell assets if the borrower defaults on the loan.
- Expensive - lenders often charge high interest rates on business acquisition loans as they are relatively risky.
- Assets at risk - like any secured lending, your assets will be at risk if you don’t keep up repayments.
- Short term - some lenders only offer business acquisition loans for up to 5 years.
- Slow to arrange - lenders need to assess the value of your assets so it will usually take 3-6 weeks to arrange. This may be an issue if you need to buy a business quickly.
What other finance options are available?
There are several other finance options available if you want to buy an existing business. It is also possible to split funding between two different types of lending. This can make sense because some loan types are cheaper than others.
Other types of business acquisition finance include the following:
- Cash purchase - most businesses don’t have enough cash to fund a business acquisition, but it may be possible to use available cash to part-buy a business in combination with other funding.
- Deposit funding - you can apply for deposit funding if your business acquisition loan falls short of the whole cost. Lenders can also help raise finance to cover legal costs, refurbishments and equipment purchases.
- Seller funding - if the seller isn’t in a rush to complete the sale then you may be able to buy the business in stages over months or years. This option can make sense if the business owner is retiring and would prefer to sell the business gradually.
- Invoice financing - lenders advance cash based on the acquired business’s invoice book. This usually only funds part of the purchase cost and is particularly suitable if the business has a large amount of outstanding customer debt.
- Bridging loan - this is a short-term loan and is useful if you need to bridge the gap between buying a business and receiving finance. Bridging loans tend to be expensive so are not suitable as a long term funding solution.
- Commercial mortgage - if the business owns property then it may be possible to arrange a commercial mortgage for part of the acquisition cost. Lenders will often advance up to 70% of the property value and interest rates are often lower than other loans.
- Company equity - offering equity to the owners of the acquired business can be a great way to finance a business acquisition. It allows the previous owners to retain control and can be a cheaper financing option.
How do I apply for a business acquisition loan?
The application process for a business acquisition loan can be more complicated than other types of business finance. That’s because lenders need to check if the business you are buying is viable and assess the value of assets or property, as well as looking at the performance of your existing business.
When you apply for a business acquisition loan, lenders will look at your personal and business credit rating. Some lenders may ask you to sign a personal guarantee as part of their application process. They will also need information on your existing business and the business you are acquiring including the following:
- Business name and address
- Details of business owners or partners
- Details of your business’s annual turnover
- Financial information including accounts, bank statements, cash flow statement and tax returns
- Information about existing assets and outstanding debt
- Details of any assets or property you are using for security
- Business plan showing how you will develop the acquired business
Lenders may take 3-6 weeks to process a secured business acquisition loan, as they will need to assess the value of the assets or property.
Where can I get a business acquisition loan?
Here are some providers of Government Recovery Loans:
Frequently asked questions
Lenders’ eligibility criteria vary depending on their policies and the type of business acquisition loan. Some lenders prefer borrowers that have experience operating in the same industry as the acquired business. It is worth shopping around because lenders’ eligibility criteria vary widely.
Different lenders specialise in different types of customers and loan amounts. For example, some lenders only work with bigger businesses and offer business acquisition loans starting at £500,000.
Most lenders require security for a business acquisition loan because of the risky nature of a business acquisition.
The amount you can borrow will depend on the lender’s eligibility criteria. They will look at the value of the business you are buying, your assets value, their affordability criteria and your financial records before making a decision.
Lenders charge relatively high interest rates on business acquisition loans because of the risky nature of buying and integrating a new business. Some lenders also charge arrangement fees, annual fees and early exit penalties.
Lenders will decide what interest rates to offer based on their eligibility criteria, the value of assets and the size of the loan.
Business acquisition loan interest is not normally tax deductible. Speak to your accountant as the rules are complicated.
It is sometimes possible to use a personal loan to finance buying a business. You will need to check the terms and conditions of your loan to make sure there are no restrictions for business use.
It is possible to use a bridging loan to finance a business acquisition. This can be particularly useful if you want to buy a business quickly as bridging loans are often quick to arrange. You will need to sort out other finance to clear the bridging loan when it ends.