This is a guest post by Prashant SN. Traditional financing sources are available for funding acquisitions but, depending on the size of the acquisition, many more options often exist. Because acquisitions of stand alone companies are typically based on the merits of that company, you may be able to obtain significantly more funding than you could just operating through your business channels. This article by Prashant provides some insights into the what, why and where. – TCW
Five Things to Know About Acquisition Financing
Acquisition financing can be any form of capital that gives you the money to purchase another business. Bank loans, mezzanine loans, equity investment, seller paper, etc. It is not solely one type of money. It is an open ended concept that each company must decide on its own what is best. Conservatism is important when deciding the best form of acquisition financing. Usually, having a solid amount of equity as a down payment is a good idea. Equity capital is long term, patient capital. It is the most expensive type of funding so it should be used carefully, lest it overly dilute the owners. Matching the risk profile of the acquisition with the risk profile of the acquisition financing is wise. Low risk deals can be funded with low risk bank loans. High risk deals are best funded with mezzanine loans or equity.
Acquisition financing is easier to raise the bigger the amount. This may sound counter-intuitive but small loans are viewed as risky. Often, financing amounts can exceed the revenue amount of the acquiring company. It is not uncommon for smaller companies to buy larger companies. This creates an even larger business with a lot of profit upside. These sorts of deals are very attractive to financing providers. They are usually looking to provide financing to companies that have a minimum of $15 million in revenue and $2 million in EBITDA. If your business only does $500,000 in EBITDA and you are acquiring a company with $1.5 million in EBITDA, you qualify. Loan sizes for financing usually start in the $3.5 to $5.0 million range.
Acquisition financing is based on cash flow, not assets. Providers of acquisition financing value your business based on business cash flow. This means they can fund into the air ball or equity layer of valuation, which is often a region where banks cannot go. It is based on the combined cash flow of your business and the to be acquired business adjusted for add backs. This means they will give you money based on future cost savings from the combination.
Most providers of acquisition financing want to provide additional financing to their borrowers post closing. A lot of deals involve making several acquisitions over a period of time. If you work with a bank for your acquisition financing, it may be challenging to get additional money for your next acquisition. On the other hand, mezzanine lenders and private equity investors are very interested in providing “Add-on Financing” to fund additional acquisitions.
Acquisition financing is usually several layers. There is usually a seller note or an earn-out along with some cash needed to close a deal. In those rare instances, an acquisition can be funded with no cash needed at closing, on a seller note basis. It’s important to make sure the layers work together and to sync up the different lenders in the agreement.
About Attract Capital: LLC Attract Capital is a financial advisory firm dedicated to the growth of mid-sized companies throughout the United States and Europe. Built upon a foundation of corporate finance expertise, practical experience and legendary customer service, Attract Capital’s consulting services and solutions are aimed at increasing the efficiency of capital raising for mid-sized companies. The firm offers Mezzanine Debt Solutions, Acquisition Financing, Business Consulting Services, Growth Capital Funding and Acquisition Search Services to name a few.
For more information, visit www.attractcapital.com