When a business owner decides to sell their business, they are often understandably unfamiliar with the process. They may have many years of experience building and running a successful business, but it is typically their first time selling a business.
One thing that surprises some business owners is how we work with lenders early—and throughout the process—when selling their business. Finding a buyer is important, but just as important is getting the deal financed.
When it comes to selling businesses, I want to do everything possible to ensure a smooth sale—that’s why I develop strong working relationships with lenders. Regular coffee meetings and phone calls provide me with the most up-to-date information on lending practices and trends that can impact business transactions. In general, having a positive relationship with a network of lenders facilitates the process.
One of the first things we do before taking a business to market is obtain a pre-qualification letter from a lender. Not all brokers take this step but we find it very beneficial. For one thing, the pre-qualification letter validates our listing price, serving an essential role in negotiations. We include the pre-qualification letter in the CIM that is made available to interested buyers after they sign an NDA. Additionally, if buyers use the lender who provided the pre-qualification letter it creates a symbiotic relationship; It also provides buyers a head start in the loan process since the lender has already reviewed the financials, the CIM and our add-back analysis.
Many people don’t realize that although the seller is my client, once the LOI is signed, I spend just as much time working with the buyer. It’s in the seller’s best interest for me to support the buyer as much as needed. Unless a buyer comes to the deal flush with cash, they are going to need financing. If a buyer needs help with financing, my relationships with lenders become invaluable. A member of our team is in continuous contact with the buyer and the lender, guiding the process through approval, into underwriting, and to the closing table.
From my perspective, I view the bank as partnering with the buyer and being part of their due diligence team. The bank makes sure that the buyer is going to be successful in running that business before they provide the financing. For SBA loans, lenders use a calculation called the Debt Service Coverage Ratio (DSCR) to measure a business’s ability to cover its debt obligations. DSCR is calculated by dividing a business’s net operating income by its total annual debt service. Most SBA lenders look for a minimum DSCR of around 1.25x, meaning the business generates about 25% more income than its annual debt payments. A higher DSCR indicates stronger cash flow and can improve the chances of loan approval or better terms.
We pay close attention to this ratio when we evaluate a business because it helps us anticipate what lenders will see. If the DSCR is below 1.25x, financing is likely to be a challenge. Conversely, a higher DSCR gives buyers and lenders more confidence in the deal—and that confidence can make all the difference in getting a sale across the finish line.
Another surprising aspect for the parties involved is that the bank looks continuously at the financials up until closing. Unlike the sale of a fixed asset such as an appraised piece of real estate, business valuations can be impacted by changes in financials and overall business and industry trends. It’s rare that it derails a deal, but if a business’s numbers dip significantly before closing, it can require re-negotiation. Recently I had an absentee owner who was caught off guard when we had a delay in financing due to a drop in revenue in their most recent set of financials. That’s why I always tell sellers to keep their foot on the gas pedal and run the business like they are going to be here another ten years.
Business owners, as well as buyers, often don’t realize how long financing and underwriting can take before closing. For SBA loans, anything unexpected (like a government shutdown!) can impact the timeline as well. I set expectations for the timeline early and communicate about delays and progress to avoid frustrations and minimize deal fatigue.
The way we work with lenders is just one of the unexpected ways business transactions differ from other types of transactions. If you would like to learn more about the process and how we work with lenders, please reach out by phone or email or visit our website: carolinabusinessbroker.com
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