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Need a Loan to Buy a Business? Here are 9 Practical Financing Solutions
You’ve been dreaming for a while of buying a business. Now the time has come to turn these dreams into reality. But, as they say, “Businesses cost money!” So, the big question looms: Where can you get financing?
Before we plunge into where to get a loan to buy a business, ask yourself this very important question:
“Can I Afford the Business?”
When buying a company, one of the questions you’ll need to ask yourself is “Can I afford it?” To answer this question, evaluate not only the purchase price but also the working capital required to kickstart your new venture.
To cover the purchase price, the first cash allocation you’ll need is the down payment. Typically, said Vincent Côté, Broker and CEO at Transitions Business Brokers, buyers underestimate this amount.
“Most people’s experience is with buying a house where you can buy for as little as 5% down and finance the rest,” he said. “That’s not the same with businesses, where the purchaser will need typically between 25% to 35%, or even more.”
For your down payment, you’ll need liquid cash—from your savings, investments, home equity, or family and friends. This payment will divide into one or more deposits at the start of your transaction, with a final sum due at closing.
The remaining purchase price (excluding any future payouts to the seller) will need to be financed. Let’s talk about two forms of financing.
Did You Know...
For your down payment, you’ll need liquid cash amounting to 25% or more of the purchase price. This can come from your savings, investments, home equity, or family or friends.
Debt Financing vs. Equity Financing
Debt financing is the most common form. Simply, it means a loan to buy a business. You agree to repay the lender with defined principal and interest payments, either monthly or annually.
Equity financing may apply if you’re buying an incorporated company. Instead of purchasing the whole business, you pay for a majority share of its stock. For example, buying 80% of the shares means you need to finance only 80% of the purchase price.
Let’s explore nine financing options to help you buy that business you desire.
9 Financing Options for Buying a Business with a Loan or Equity (Plus Liquid Assets)
- Personal Savings: Your existing bank savings and liquid investments are the cheapest and most flexible financing sources. For any business purchase, you’ll need to contribute some of the capital.
- Family and Friends: Those closest to you may be willing to lend financial support, either as debt (meaning they give you a loan to buy the business) or equity (meaning they buy shares and become co-owners). Always formalize these arrangements with a written contract.
- Company Retained Earnings: If you already own a business and it makes the acquisition, it may be possible to allocate funds from prior profits and retained earnings.
- Seller Financing: Also known as vendor financing, seller financing benefits both you and the seller. The seller may finance all or part of the purchase price in any of three ways: debt (typically paid in fixed monthly installments), contingent debt (where payments hinge on the business’s performance and/or the seller’s performance if the seller stays on for the transition), or equity, as we explained earlier.
- Government-Guaranteed Loans: Consider the Canada Small Business Financing Program (CSBFP) to secure financing through your financial institution for eligible assets such as land, buildings, and equipment. The federal government provides loan guarantees by pooling funds to cover potential defaults.
- Your Bank: Considering a commercial bank loan to buy a business? Getting one may be trickier than you think. “Traditional banks only like to finance hard assets like real estate, machinery, or vehicles,” said Côté. This is bad news if you’re buying a service-based business, whose assets are mostly intangible.
When banks assess your risk worthiness, he said, they look at three factors:
- The quality of the hard assets that could be repossessed and sold should you default
- The business’s revenue- or profit-generating capabilities
- Your personal financial situation (e.g., income, credit score, personal assets, personal net worth)
If the business you’re buying isn’t product-based, the Business Development Bank of Canada (BDC) could be an option. “They will give loans based on the last two criteria: the profitability of the business and the creditworthiness of the buyer,” said Côté.
- Creative Financing: Think outside the box! Explore options like leasing equipment instead of purchasing it outright or leasing from the seller with an option to purchase later. Other avenues include accounts receivable financing and borrowing against inventory.
- Government or Community Development Program Loans, Grants, or Subsidies: If you plan to hire employees soon after taking over the business, you may be able to get your recruiting and training costs covered. Check for loans and grants on community business enhancement group websites, or use the Business Benefits Finder to locate relevant government programs.
- Alternative Sources: Research crowdfunding, venture capital, and angel investors. While typically associated with startups, these less conventional financing methods may be viable if you have ideas on how to buy and then significantly change and grow the business. (If you’re considering a startup instead of a purchase, read about the pros and cons of buying vs. starting.)
Final Thoughts
Getting a loan to buy a business is an important part of the purchase process—but it’s only one of many steps you’ll need to take.
Get the thorough education you need to avoid costly risks and make your business ownership dreams come true! Explore our Business Buyer’s Brilliance program today.
Transitions Business Brokers
October 15, 2023
