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Securing Bank Lending – A Seller’s Perspective

In last month’s issue of Smart Business, I wrote an article entitled “Securing Bank Lending – A Buyer’s Perspective,” in which I discussed improvements in the business acquisition market. I also laid out important criteria for buyers seeking bank loans to help them make the most of every purchasing opportunity.

As transaction volumes continue to grow, banks continue to seek out quality business transactions to underwrite, creating opportunities for buyers and sellers alike. In this issue, I’ll be reviewing the advantages of securing bank lending from the seller’s perspective as well as providing tips for getting the most out of the sale of your business.

Before the Sale

Our firm has had the opportunity to broker many deals with the help of Steve Lasiewicz, Vice President of SBA Lending at US Bank, and local loan broker, Doug Adams of Emerson Capital.  They are experts at structuring finance packages with terms that will ensure a successful outcome for both buyers and sellers. I recently spoke with each of them and asked them to share their best practices for securing acquisition loans.

With a proactive approach to understanding sell-side engagements, banks and lenders are key partners in helping our clients understand how best to qualify for lending.  And because lending can be equally important for sellers as it is for buyers, this article provides important insights into the ways that sellers can prepare their businesses for sale to ensure that bank financing is possible.

Expenses & Taxes

First, it’s important to limit the amount of personal expenses run through the business. While this may help ease your tax burden, it can cause your company to return a lower value.

Ensuring that your tax returns and interim statements accurately reflect the net profit and cash flows of your business is critical in order to maximize the price of your business, but also to align your company with lender requirements.  By keeping all of your records detailed and complete and taking care of all accounting and legal housecleaning, you present a more organized picture to potential lenders and buyers.

Balance Sheet & Inventory

In addition to managing expenses and financial records, you should take the time to clean up your balance sheet.  Many owners put all of their energy into managing the profit and loss statements and ignore the significance of the balance sheet and inventory.  A properly prepared balance sheet allows the bank and a potential buyer to see the true health of a business, the working capital required and the amount of leverage.  A company that has little to no significant debt on their recent statements will be significantly more attractive to lenders and buyers.

Consider your inventory as well; it should exist at a level that supports the sales volume of the business.  Inventory can be a cumbersome part of a business, especially if there is not an inventory management or control system in place.  If this is the case, it is important to clean up the inventory prior to presenting the business to a bank so they can understand the levels truly necessary for operation.

Contracts & Agreements

The legal due diligence of a business is typically one of the last things to occur in a transaction and is perhaps one of the most problematic.  Many factors will affect this process, such as liens on the business, client and vendor contracts transferrable without written consent, regulatory issues to be considered, or litigation.  These are just a few examples of things that require upfront analysis, and it’s important that the bank and potential buyers can understand the complexities and likelihood of a business transfer.  Also, spending some time to clean up any legal issues can have a big impact on the value and creditworthiness of your business.

Goodwill & Managing Expectations

In our service-based economy, more businesses than ever have a high percentage of their value in the form of goodwill.  This means that lenders will not have hard assets available to collateralize a loan and thus need to be convinced that the business is on solid footing.

In addition to the bank being comfortable with the health of the business, many lenders will look for the current owners to have “skin in the game” in the form of a secondary seller note.  In this case, the seller would be asked to carry 10 to 15 percent of the purchase price in a secondary secured note that may even be subject to standby provisions.  An example of a standby provision might be that the sellers will not be eligible to receive any payments for one to three years.  The banks typically add this type of provision to ensure that the seller is motivated to help the buyer easily transition into the business and help ensure the success of the new owner.

Determining Value

When it comes time to sell, it is prudent to consider a third party, independent valuation or value opinion from a business broker to help you determine an asking price.  Many sellers have expectations that are either too low or too high, while a neutral professional understands the marketplace and can most accurately measure your company’s value.  To ensure you are getting an accurate value opinion on your business make sure that the third party valuation company is accredited by one of the major valuation bodies, and if the opinion is coming from a business broker, make sure that either he or the managing broker of the office is a Certified Business Intermediary (CBI).

Timing the Sale

Many owners make the mistake of waiting too long to sell. You should be prepared to sell when the business is doing well”when it’s financially sound and ideally in an upward trend.  Any downturn in revenues or cash flows could prevent you from obtaining bank financing, not to mention making it more difficult to find a buyer.  This is one of the most difficult things for an owner to time. We strongly recommend that the seller develops a target selling price, and once the value of the business reaches that point, consider the time to list very carefully.

Benefits of Lending for Sellers

There are many positive effects of knowing that your business qualifies for bank lending.  The first and most obvious is that the owner will get to walk away at the closing table with the lion’s share of the purchase price.  If your business is not bank financeable, then you need to be prepared to either run the business until it is, or provide seller financing and walk away with much less money. The second major benefit is that buyers covet those businesses that are pre-qualified for bank financing.  It is a sort of market endorsement of that business, and it also provides the buyer the ability to acquire a much larger business by being able to leverage their capital.  Lastly, bank pre-qualified deals tend to increase the buyer pool, which gives the seller more leverage in the negotiating process and typically ensures the best price and terms.

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