Financing a Business Acquisition: 8 Options for Buyers

Financing a business acquisition can be an excellent way to grow your company. Established businesses already have the staff, equipment, and contracts in place to allow you to hit the ground running as soon as any deal is made.

As well as allowing you to increase the size of your company almost overnight, acquisitions often have the added benefit of removing a rival from your sector at the same time.

So let’s say you’ve already spotted the perfect acquisition opportunity. How do you secure the funding to allow you to buy the business in question?

There are a few different options available to buyers, and which one you choose will depend on your situation at the time. The main thing you need to ensure before accepting any finance agreement though, is that it provides you with enough flexibility to not only take over the business smoothly, but also allow for future growth.

Whichever method you decide upon, you’ll still have a number of different factors to consider before signing on the dotted line. This is why we would always recommend that you seek guidance from a specialist advisor.

A reputable business advisory firm will be able to help you with the best way to approach any acquisition. This can potentially save you a lot of stress and money down the line.

Financing a Business Acquisition – What are the most common options?

1. Buying a business with cash
2. Buy a business with a loan
3. Business Seller Financing / Purchase Earnout
4. Financing a business acquisition with debt securities
5. Financing a business acquisition with a promissory note
6. Buying a business by offering equity in it to the current owner
7. Financing a business acquisition using funds from rights issues
8. Financing a business acquisition with funds from placings

1. Buying a business with cash

Out of all the methods available to you, using good, old-fashioned cash is by far the simplest solution.

Given the large sums typically involved in a business acquisition however, cash purchases are fairly rare.

Businesses are typically valued at multiple times their annual turnover, so it’s uncommon to find sellers with cash reserves substantial enough for a cash payment.

2. Buy a business with a loan

Be aware that lenders may require collateral for any loan in the form of assets. These could belong to your present, or target company.

If this isn’t available, then it may be necessary to offer a personal guarantee against any sum offered. Banks will need proof of a healthy cash flow to consider funding any purchase The target company may also need to be in a strong financial position to be considered.

If your bank’s loan stipulations won’t allow you to secure the financing you need, take a look at specialist business lenders instead who may be able to help.

Buying a publicly listed business requires the purchaser to be in a position to complete the sale as soon as it’s accepted. Purchasers will need a signed loan agreement that allows them to withdraw the appropriate funds before making any offer.

3. Business Seller Financing (deferred payment) / Purchase Earnout

One of the most popular methods to acquire a business among buyers is to defer part of the fee over a period of time. This can see buyers still completing a purchase up to five years after completing a deal. This method is also known as Seller Financing. Typically the buyer would make a down payment toward the acquisition and then whatever is owed after this is paid in instalments, usually with interest. A legally binding contract is drawn up to lessen the risk to both sides.

Although somewhat similar to Seller Financing, an earnout purchase makes the fee dependent on the company’s future performance. This can be a prudent approach for buyers that have doubts about how a new company might do. Sellers are understandably less enthusiastic about this option, as it exposes them to extra risk.

4. Financing a business acquisition with debt securities

Debt securities can allow buyers to secure funding from investors in return for notes or bonds that promise repayment and often interest on top. These financial instruments hold intrinsic value and are usually transferable, meaning that they can be traded on a debt capital market.

This can be an attractive option for investors, as they receive something of value back straightaway for their investment, removing at least some element of risk for them.

5. Financing a business acquisition with a promissory note

In its simplest terms, a promissory note is basically a more formal IOU note. They are legally enforceable, and can be used to borrow funding from anybody, not just financial institutions. They’re generally a good idea for people borrowing from friends or family who wish to make the lending procedure more formal.

They’re often used in more professional environments too, with some bank loans even asking for the signing of a promissory note. Promissory notes are negotiable instruments, meaning that they can be transferred to another holder.

A promissory note needs to include details of the total amount owed and the repayment details. Failure to provide these details can render a promissory note invalid. They must also include a signature and avoid any ambiguities. Any inclusion of clauses such as ‘subject to delivery’ will see a note lose its validity. Any promissory note must be unconditional in the terms and the language used.

These are typically used as part of an acquisition’s funding rather than all. Many pay an upfront fee in cash, and the rest with a promissory note.

6. Buying a business by offering equity in it to the current owner

Purchasers have the option to fund an acquisition by offering shares in the new company to the seller too. This is a useful buying strategy to use if there are question marks about how the target company has been run.

By securing the original owner as a shareholder, you have access to them as a source of knowledge for any questions relating to the new company. They may have valuable information to share about processes, staff, and existing clients.

7. Financing a business acquisition using funds from rights issues

Another equity-based purchasing method, rights issues sees shares offered to existing shareholders. The amount of shares they can be offered is proportionate to what they already own. These shares are generally offered up at a discount compared to their market value, and paid for in cash. This provides the funds needed to cover an acquisition.

An interesting feature of rights issues is that the eligibility to subscribe for more shares carries some value in itself. In fact, you may find when using this method that some shareholders may sell their right to buy shares to somebody else.

This offsets the diminished value of the current shares caused by the addition of extra shares. If a shareholder decides to take up the offer of buying shares, they will own the same percentage of the company as they previously held.

8. Financing a business acquisition with funds from placings

As an alternative to rights issues, a placing offers shares again, but there is no need to offer a proportionate amount based on current holdings, and no option for shareholders to sell their eligibility to buy.

Straightforward placings can allow shares to be offered to new investors too, without the need for offering any to existing shareholders beforehand. These are usually bought by financial institutions rather than individuals.

Need help deciding which acquisition route to take?

There are many more variations and combinations of financing methods available to those looking to acquire a business. Deciding upon the best method for your particular situation can become difficult when faced with so many options. Because of this, potential buyers are advised to seek guidance from a specialist business acquisition team. They’ll be able to determine the best route for you to take.

Forbes Burton provides a free telephone consultation with an acquisition expert for those looking to acquire another company. We’re also able to source some of the best business financing deals around, allowing you to secure the perfect company that will take your business to the next level.

Call us on 0800 975 0380, or email [email protected] to discuss your plans. Find out how we can help you achieve your business goals quickly and easily.