5 Reasons Business Acquisition Deals Die in Underwriting
Written By: Kevin Gilligan, Senior Vice President, SBA Director, The Bank of Tampa
As many small business owners contemplate the next phase of life, banks play a crucial role in financing transitions from one owner to the next. Often, these transactions rely on SBA loans, which offer banks a conditional guarantee. However, business acquisitions can be challenging, as more than half of deals brought to market ultimately don’t close. While each transaction has its unique aspects, recurring themes frequently contribute to these outcomes. In this article, we’ll explore the top five reasons business acquisition deals falter in underwriting, highlighting common pitfalls and offering insights to navigate the SBA’s underwriting process more effectively.
Top Five Reasons Business Acquisition Deals Die in Underwriting:
Inadequate Cash Flow – A healthy cash flow is essential for any successful business. Unfortunately, many acquisition deals are hindered by inadequate cash flow projections or inconsistencies in financial documentation. Lenders scrutinize these inconsistencies and look for alignment between historical performance and forecasted cash flow. When documentation lacks clarity or credibility, lenders hesitate, fearing repayment risks. Thus, meticulous cash flow forecasting and transparent reporting are crucial to instill lender confidence. Adjusting payment terms, optimizing inventory, negotiating with suppliers, and creating contingency plans can mitigate cash flow risks.
Conflicting Seller’s Notes – Seller financing, often through seller’s notes, can be a double-edged sword in acquisition deals. While it shows the seller’s confidence in the business, conflicting terms or unrealistic expectations can disrupt underwriting. Lenders closely evaluate seller’s notes—considering interest rates, repayment schedules, and collateral arrangements—to gauge risk exposure. Misaligned buyer and seller expectations or unfavorable terms often lead to underwriting impasses. In SBA deals, it’s also critical that terms align with their requirements. Clear negotiation and communication are essential to avoid these stumbling blocks.
Inaccurate Application – Transparency is key to underwriting success. However, inaccurate or incomplete application information can erode confidence in the transaction. Undisclosed liabilities, inflated asset valuations, or hidden related-party transactions undermine the deal’s credibility. Thorough due diligence by both buyers and sellers is crucial to identify discrepancies early and address them transparently, minimizing underwriting hurdles.
Ownership or Management Concerns – Lenders assess the buyer’s industry experience and management capability when reviewing acquisition deals. A lack of relevant experience or a questionable track record can raise red flags. Additionally, concerns around creditworthiness, character, and management capacity can complicate underwriting. Buyers should demonstrate competence, commitment, and financial stability to reassure lenders of their ability to manage the acquisition and repay the loan. Proper documentation—such as credit scores, debt-to-income ratios, and financial statements can play a significant role in loan approval.
Collateral Objections – Collateral provides a safety net for lenders, assuring repayment in case of default. However, disputes over collateral valuation or unrelated personal collateral can hinder underwriting. Lenders thoroughly assess collateral value and liquidity to meet SBA requirements. Disputes over collateral adequacy or encumbrances often require negotiations to bridge valuation gaps and ease concerns. Lenders may request additional documentation, obtain a second appraiser’s opinion, or seek additional collateral to align with SBA policies.
Successfully navigating the underwriting process in business acquisition deals demands diligence, transparency, and collaboration from all parties. By addressing these common pitfalls, borrowers can improve their chances of securing underwriting approval and advancing their acquisition goals. The Bank of Tampa’s team of SBA experts is dedicated to empowering entrepreneurs with the resources needed to overcome underwriting challenges and achieve their business acquisition dreams.