Entrepreneur’s Wealth Digest
Growing your business through acquisition requires financing. In this article I explain how you can use SBA 7(a) loans and seller-carried financing together to acquire and grow.
The Small Business Administration is a Federal government entity tasked with helping small businesses in the US grow. One of its most popular programs is the loan guarantee program and there are several types that it offers for various purposes. In this article I focus on one of the main programs called Section 7(a) which provides loan guarantees for business financing. Section 7(a) is often used to finance the purchase of a business and works through SBA approved lenders. These lenders are usually regional or community banks serving the small business community. The SBA does not actually make the loan, they simply provide a guarantee so that the local lender is more willing to finance these transactions.
The 7(a) program is capped at a total of $5M of guarantee and requires a minimum of 10% equity contribution from the buyer. Each lender has their own lending guidelines as well so the terms can vary across different banks. The maximum purchase price for a business under this program would be about $5.55M and would require you to contribute $550,000 of your own money.
What most business owners don’t know is that you can actually utilize seller-carried financing as part of the purchase price as long as you contribute 5% of the equity individually. In our scenario above you could negotiate to have the seller carry a 5% note for $275,000, you would contribute $275,000 to the purchase, and the lender provides $5,000,000 at closing. This can be a powerful tool to preserve your capital for growing the business after closing.
Let’s give an example of how you might use the SBA 7(a) program as a business. Let’s say that you own a commercial HVAC installation company that does $8M of annual revenue with $1M of profit. You have built a marketing, booking, and estimating system that allows you to get quotes out faster than your competition and are winning more business as a result. You have a competitor who has been in business for 30 years and still books jobs over the phone and has one salesperson to bid them. They aren’t winning a lot of new business but have built relationships and goodwill with many customers over the years. You know there is a lot of value to be had with some modernization of systems, but the owner is in her late 60s and isn’t interested in doing the work.
You know that you can increase revenue by 50% by activating existing clients and that your combined companies will be worth about $20M in 3-4 years. You have a good relationship and approach her with a conversation about buying her business. After some negotiation she agrees to sell it to you for $3.5M. You know you will need to keep most of your $500,000 business reserves available to buy service trucks and staff up after the acquisition and don’t want to have to take away from working capital either. So you propose to purchase using a $3.15M SBA 7(a) loan, a $175,000 seller-carried note with balloon payment when the SBA loan is paid off, and $175,000 of capital from your business reserve fund.
In this scenario, you have added value to the seller, value to your business, and you still have enough capital for the acquisition and funding the post-purchase needs.
Take a look at the SBA Section 7(a) program and seller-carried financing as you consider growing your business with acquisition.
If you have a question or simply want to talk through your financial planning, we are here to help.
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DISCLOSURE: Jarrod Musick is an officer of Destiny Capital and Entrepreneur Aligned, a DBA of Destiny Capital. This article is for informational purposes only and should not be relied upon as a basis for your investment, business, or personal financial decisions. We recommend consulting with your wealth advisor, CPA/tax advisor and/or attorney, as applicable to your situation, prior to implementing any new tax, legal, or investment strategy.
Jarrod was born into financial planning and solving financial problems. With his financial advisor father Steve telling stories about finance around the dinner table from an early age, the idea that everyone has a different financial situation was always there. After an early professional career spent in nonprofit and government, Jarrod came back to his roots helping people plan and invest in 2011. Since then, he has worked with individual clients, led internal teams and ultimately became partner and the CEO of Destiny Capital in 2017. With a passion for helping entrepreneurs change the world, Jarrod ultimately oversaw the creation of Entrepreneur Aligned in 2020. With both Destiny Capital and Entrepreneur Aligned, Jarrod leads teams that help people live lives of abundance where money is simply a tool to let everyone be a positive force for the world around them. When he isn’t working with the talented teams for EA and DC you can find him chasing his twins, wily trout or a podium spot at an OCR race.