You want to acquire a business, but you don’t have enough of your own funds. Does that automatically mean the acquisition isn’t feasible? Not necessarily.
In practice, we regularly see that more financing options become available when we look not only at the bank and the buyer’s equity contribution, but at the entire financing structure.
Financing Gap
A few years ago, we advised a buyer on the acquisition of 100% of the shares in a company active in civil engineering. It was a capital-intensive business, where labor hours and the use of equipment were key pillars of the revenue model. As a result, the company had an extensive fleet of machinery and vehicles.
The buyer saw great potential in the company but had virtually no funds of their own to use as an equity contribution. When considering only traditional bank-based acquisition financing, this quickly resulted in a funding gap.
Instead of concluding that the transaction could not be financed, we looked at the company as a whole. What cash flows are available? What assets are on the balance sheet? What collateral can be utilized? And what portion of the purchase price could potentially be structured differently?
Financing Needs
It’s important to take the bank’s financing standards into account. A financing structure may look appropriate on paper, but it must also remain within these parameters. For example, a bank assesses the affordability of the total financing, often expressed as the Debt Service Coverage Ratio (DSCR): Does the company generate sufficient cash flow to pay interest and principal?
It is also important to consider which companies are part of the financing group and, as such, will be involved in the financing as debtors or guarantors. Finally, the collateral position plays an important role. For example, what value can be derived from real estate, machinery, inventory, or accounts receivable? These factors help determine how much financing capacity is actually available.
In our case study, the bank was able to provide standard financing for approximately 25% of the purchase price based on future cash flows. However, this covered only a limited portion of the total financing requirement.
Equipment leasing solutions
The most important additional source of financing turned out to be the existing equipment. This represented a significant value and had been financed largely with the company’s own funds. By refinancing the equipment through a leasing company, a large portion of the capital tied up in it could be freed up. This leasing solution financed the majority of the remaining purchase price, while the equipment remained available for business operations.
For the final 10% of the purchase price, a seller’s loan was agreed upon with the seller. As a result, the seller did not receive this portion immediately upon closing, but temporarily left it with the buyer as financing.
By combining bank acquisition financing for 25% of the purchase price, refinancing the equipment through a lease, and a 10% seller’s loan, the entire transaction was ultimately financed without any significant contribution from the buyer.
Feasible Acquisition
This case study illustrates why, when it comes to acquisition financing, it’s wise to look beyond just how much a bank is willing to finance. Especially for capital-intensive businesses, there may be additional opportunities on the balance sheet. In addition to machinery and vehicles, consider, for example, real estate that can be financed separately or released through a sale-and-lease-back arrangement.
The most important lesson isn’t that every acquisition is possible without equity. The financing structure must remain affordable and comply with the standards of the various lenders. However, a limited equity contribution does not necessarily mean the end of a transaction. It is precisely by looking at cash flows, assets, collateral, and various sources of financing in conjunction with one another that the difference can sometimes be made between a financing gap and a feasible acquisition.
