Until recently, obtaining financing for a business partner buyout has been very difficult. However, in April 2018 the Small Business Administration adjusted its business partner buyout financing rule, and now offers a loan program with partner buyouts in mind, which is benefitting all parties involved in the transaction.
The new rule allows a partner to qualify for an SBA 7(a) loan without an equity injection as long as the buying partner has been an active partner and has held the same or higher ownership percentage for more than two years, and the business has a debt-to-net-worth ratio at or below nine to one at fiscal year-end and the most recent period.
The debt-to-net worth is calculated by dividing the total liabilities by total equity.
For Example, if the business has a total of $4,500,000 in assets, $2,000,000 in liabilities, and $2,500,000 in equity, the Debt-to-net worth ratio is 0.80x.
Since the debt-to-net-worth ratio is below nine to one, the buyer can leverage the equity of the balance sheet, instead of coming up with a cash injection. This removes one of the largest barriers in the transaction, and benefits both the buying partner and the selling partner. If either of the above-mentioned requirements is not met, then the buying partner will have to inject 10% of the purchase price in additional equity to qualify for the loan.
The revised SBA rules create a straightforward path to financing the buyout with minimal impact on the financial health of the business. There are a few things to consider when using an SBA loan for a buyout: a) the seller cannot remain involved with the company as an owner, officer, director, or employee and b) in cases where a transitional period is needed after the sale, the seller may serve as a paid consultant for up to 12 months post-sale.
Let’s expand on the above example – Dave and Ryan have owned and operated a successful wholesale business for 15 years. Dave has decided to retire and, Ryan needs a loan to purchase Dave’s share of the business. The business has $4,500,000 in assets and $2,000,000 in liabilities, and the debt-to-net worth ratio is 0.80, which is below nine to one. Ryan is a founding partner active in the business and has held the same ownership position for more than two years, Ryan can leverage the equity of the balance sheet instead of putting cash down to buy Dave’s 50% share of the business.
If you’re considering a business partner buyout and want to pursue an SBA 7(a) loan, the SBA will require a comprehensive business plan, including two-year projected financials, which demonstrates how the business will benefit from the transaction. These are typically considered lower-risk transactions when compared to complete changes of ownership, as the buyer is already deeply familiar with the business at hand. Please consult with your CPA or attorney to discuss all your options and determine if a partner buyout is suitable for your situation.
If you are considering an SBA 7(a) loan for a partner buyout, you can reach out to us for a free consultation. We at 504 Advisors., Inc. can help you decide which of the SBA financing programs is best for your business. After discussing your goals and better understanding your business, we will guide you through the financing options and the loan application process.
Our goal is to be your trusted financial partner and advisor, by providing our clients with access to capital and financing solutions necessary to run their business.
Capitalize on our relationships and find the best loan that fits your needs. For more information visit http://www.504advisors.com