In some instances, the best way for a
company to increase its presence is by
acquiring another business. Such a move can bring access to a broader geographic
market and customer base while providing
cost savings through improved distribution
channels.
Companies hoping to complement internal growth initiatives through an acquisition may turn to acquisition funding.
“Acquisition funding is the combination of
funding sources needed to complete an
acquisition or merger of another business,”
explains James Wade, vice president of
Comerica Bank’s Western Market.
Smart Business spoke with Wade about
acquisition funding, how acquisition transactions are typically structured and the
importance of utilizing debt properly.
How are business acquisition transactions
typically structured?
As a commercial banker, we typically are
working with an established company that
is looking to expand its geographic presence in a similar business, vertically integrate for synergistic cost savings or diversifying from a concentrated product or
service. Relatively small transactions can
be financed by increasing an existing line
of credit or funding a new term loan without the need for additional funding
sources. This method of financing an
acquisition will typically be 100 percent
supported by assets.
Larger transactions require more
thought, planning and fund sources and
there are usually not enough assets to support the amount needed to complete the
acquisition. A company can use cash,
unencumbered assets, senior debt, seller’s
debt (typically subordinated to the senior
lender), outside subordinated debt and
venture capital.
Why is it important to work with a bank that
has experience funding acquisitions?
Time is of the essence when purchasing
another company. An experienced lender
will help guide the process, increasing your
chances of a successful close. It is also
important to engage experienced legal and
accounting assistance when structuring an
acquisition. The effective cost of the transaction may increase if a deal is not structured properly.
What do lenders look for when deciding
whether to fund an acquisition?
When there are not enough assets to support a loan, credit decisions are based on
the strength and consistency of historical
cash flow, management experience and the
outlook of the industry.
How can a company increase its chances of
having the financing request approved?
Communicate as early as possible about
your plans to make an acquisition with
your financial partners. Share your vision
of the combined companies post merger or
acquisition. Have a short-term plan (how
you plan to combine the companies) and a
long-term plan (how you will be more competitive in the future). Detail the critical
components that are going to make this
transaction successful. For example, stating you can save $300,000 per year by eliminating the sellers’ salary, country club
membership and car allowance is more
effective than stating you will save a lot of
money combining the companies. Work
with your accountant to prepare a closing
balance sheet (this will require knowing if you are making a stock or asset purchase
which will be negotiated between you and
the seller with the advice from your attorney and accountant).
How should a company proceed if its primary
lender is unable to fund the entire acquisition?
After evaluating the purchaser’s business
and personal assets, talk with the seller.
There can be tax advantages for a seller
accepting a note. Also, the seller is likely
motivated to complete the transaction and
has the most knowledge of the business.
Your senior lender will most likely require
the seller debt be subordinated and may
limit principal and interest payments. If
additional funds are necessary, your
banker, accountant and attorney can provide referrals for subordinated debt and
outside equity providers.
Why is it important for a company to be prudent about the amount of financing it
acquires?
Utilizing debt the right way can be powerful and provide the capital needed to
grow a profitable successful company
without diluting the owner’s interest in the
company. However, acquisitions add an
element of risk to a business. Combining
cultures, system integration and facility
consolidation are just a few of the issues a
company will face after an acquisition. It is
important to not affect the long-term competitiveness of a company because the
debt service is limiting its ability to invest
in people, infrastructure and technology.
How important a role does timing play in
acquisition transactions?
Timing is important because there will be
fees associated with extending deadlines.
Also, the purchaser is at a disadvantage if
the seller is having second thoughts. The
seller may try to renegotiate terms and
conditions or cancel the transaction. Work
with your financial advisers before setting
deadlines and structure extensions into
your agreements.
JAMES WADE is vice president of Comerica Bank’s Western
Market. Reach him at (619) 652-5778 or [email protected].