How do you finance an M&A DealHow do you finance an M&A DealHow do you finance an M&A Deal ? By Sudarsan Pattabiraman (M&A Advisor) | 510.944.5616 | sudarsan@upclinch.com
Financing an M&A deal is a critical aspect of the acquisition process, and there are several strategies that buyers use depending on their financial health, market conditions, and the nature of the target company. Here are the primary methods of financing:
1. Cash on Hand: Some
companies finance acquisitions using their available cash reserves. This
approach offers simplicity, as it avoids the need to raise additional capital
or incur debt. However, using too much cash can reduce liquidity and limit the
company’s ability to invest in other opportunities or handle unforeseen
expenses post-deal. This method is most commonly used by companies with strong
cash positions. No wonder, Cash is King 😊
2. Debt Financing: One of
the most common ways to finance M&A deals is by taking on debt. Buyers can
secure loans from banks or financial institutions, often using the acquired
company’s assets as collateral. This is known as a leveraged buyout (LBO),
where the debt is repaid over time using the cash flow generated by the
acquired business. While debt financing allows the buyer to preserve their own
cash, it increases the financial risk, as the new combined entity must generate
enough revenue to service the debt. I can set you up with some of my SBA /
specialized lender connections
3. Equity Financing: Another
approach for larger / partnership firms is to raise capital by issuing new
shares of stock. In this case, the buyer’s shareholders effectively finance the
deal by diluting their ownership to acquire the target company. This is
advantageous when the buyer prefers not to take on additional debt. Sometimes,
the seller may accept shares of the buyer’s company as part of the purchase
consideration, especially in stock-for-stock transactions, where ownership of
both companies is merged. The new capital could be used to grow and improve the
current business.
4. Seller Financing: In some
cases, the seller may agree to finance part of the deal by allowing the buyer
to make payments over time. This type of financing typically involves a promissory
note, where the buyer agrees to pay the seller a portion of the purchase price
in installments. Seller financing can be helpful for buyers who might have
difficulty securing full external funding or who want to manage cash flow over
a longer period. Buyers feel positive upon seeing the seller’s confidence
towards continued sustenance of the business.
5. Mezzanine Financing: This is a
hybrid of debt and equity financing practiced by larger and established firms
with clear goals defined. Mezzanine loans are a form of subordinated debt,
typically with higher interest rates due to increased risk. In some cases,
lenders also receive equity warrants, giving them the right to buy shares in
the company later. Mezzanine financing is often used when a buyer has exhausted
traditional lending options but needs additional capital.
6. Private Equity: Buyers
can also turn to private equity (PE) firms to finance a deal. PE firms often
provide capital for acquisitions, either by investing in the buyer's company or
directly acquiring the target. This is particularly common in management
buyouts (MBOs), where the management team of a company buys out the business
with the backing of a private equity firm. There is a ton of dry powder (cash for
investment purposes) with the Private Equity firms as of reports now (2024)
In
conclusion, financing an M&A deal can involve a mix of cash, debt, and
equity. The right combination depends on factors like the buyer's financial
situation, market conditions, the structure of the deal, and the risk appetite
of the parties involved. Buyers often work with financial advisors, banks, and
legal teams to choose the best financing method that balances risk and returns.
Call Sudarsan for planning and executing your perfect exit / strategic
acquisition. Let’s unlock the business value and realize it for the benefit of
you, your family and your community.
Email:sudarsan@upclinch.com Phone: 510.944.5616
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