Once you have decided on the kind of business you want to buy - whether it's a restaurant, a pub, a hotel or even a tropical island (yes, they do come up for sale), you will need to address the all important issue of financing your purchase.
Few people have the means to buy a business with cash without the need to borrow. This is the same for all buyers - whether they're acquiring a tea shop in Cornwall or a multi-million pound software company in California.
Using a bank
Unsurprisingly, a survey by The British Chambers of Commerce found that banks are the most common form of external finance for small businesses - and this will be the same for you.
In fact, between 60% and 70% of all business buyers approach their local bank to borrow money when structuring their finances to buy a business. Banks will commonly lend up to 60% of the total price of the business, with you having to provide the final 40%.
So if you're looking to buy a hotel for £300,000 a bank may lend up to £200,000. This will leave you to find the remaining £100,000 which could come from a remortgage of your home (especially as many home owners have seen the value of their property increase significantly over the past decade).
However, in order to be successful you must make a coherent case for borrowing the money as banks have strict lending criteria. You will often be required to show the following information:
About the business
You will need to supply audited accounts for the business you intend to buy, for the last three years where possible. Make sure that these accounts are a true reflection of the business. A bank can only lend money to you based on these accounts, regardless of any hidden income that an owner may assure you of.
This has to be a realistic revenue forecast for the business. You can even create two or three scenarios to give the bank comfort on the likelihood of different outcomes. You must also detail what your cash flow is going to look like after you have factored in costs - such as repayments of the loan you are taking out.
This doesn't have to be an exhaustive 50-page plan but it must make a credible case for the business you are buying, its market and your plans to reach that market - whether you're buying a widget manufacturer or a fish and chip shop. It should include what you propose to do with the business you are buying, whether you intend to simply run it as it is or improve it.
You will need to provide evidence of the value of the business you are buying. Where possible, this should be undertaken by a professional, such as an accountant or valuation expert who is paid to give a professional business appraisal.
In the case of a property based business, such as a restaurant or hotel then a surveyors report will help value the bricks and mortar. If the business is not property based (for example a PR company or a recruitment consultancy) then you will probably be using a multiple of that business's earnings. For example, many businesses are currently valued between three and eight times their profit.
Selling agent's details
You will be required to provide contact details for the agent representing the business or the vendor's details if you are buying directly from the seller.
A CV with details of your previous work experience will be needed. Keep this short and to the point, outline relevant experience that will help persuade the bank that they are reducing risk by lending to you.
Asset and liability statement
This will detail what you own (such the equity in your home or shares) and what you owe - including credit card debts and other outstanding loans.
Normally, you will be required to make bank statements available for the last six to 12 months. Anti laundering and fraud legislation now requires proof of your ID and residency, such as photocopies of your passport.
If you do intend to go down this route (borrowing money from a bank) it's important to spend time researching the various loan products available to you. For example, longer term loans but with lower interest rate payments may be preferable to a shorter term loan with a higher interest rate.
In other words, don't just look at the interest rate - look at the term. For example:
- Loan A for £100k at base rate + 2%, over 10 years, will work out at £1,110 per month
- Loan B of £100k at base rate + 3%, over 20 years, will work out at £710 per month
Even though you are paying pack the loan on a higher interest rate with example (B), because you are paying it back over a longer period (20 years, as opposed to 10 years) you are paying £400 less per month.
In cash flow terms that difference could be very important to you in the early stages of your new business - crucial, in fact. Therefore, don't automatically look at the interest rate - consider the term too.
If you decide to finance your purchase without the use of a bank you may also wish to consider the following options:
Business finance specialists
These are brokers that help business buyers and owners get the best deal. Generally, they’ll have access to hundreds of different providers and be brand agnostic; meaning they’ll offer you the finance that’s right for you, regardless of their commission structure.
It’s worth noting that not all brokers are alike. Some will charge commission to the prospective business owner, while other charge the lender.
Either way, having access to a variety of options will help you make a measured and informed decision. We’ve partnered with finance broker Rangewell (who charge the lender a success fee, not you) to help customers get the best deal.
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Enterprise Finance Guarantee Scheme
Launched in 2009 the Enterprise Finance Guarantee (EFG) is aimed at businesses lacking adequate security or proven track record for a standard commercial loan. However, the Government has made it easier to apply and the number of people who successfully source funding this way is on the rise.
The scheme, which is run by the Department for Business Innovation and Skills, has so far provided more than 18,000 SMEs with £1.88bn worth of loans.
The Government guarantees 75% of the loan, while the borrower pays a 2% per annum pro-rata premium to BIS as a contribution towards the cost of providing the Government guarantee. The borrower is responsible for repayment of 100% of the loan, not just the 25% beyond the Government guarantee.
The scheme is open to businesses whose turnover is less than £41 million. Loans can vary in size from £1,000 to £1million, while repayment terms range from three months to 10 years (less for overdraft and invoice finance facilities). Most sectors are eligible.
They are often referred to as 'angels' or 'high net-worth individuals' and these private investors - looking to back new ventures with potential - now make up a sizeable group. The growth of these backers - the same type of people that may invest in art or property - is partly attributable to some poor stock market returns of late.
They may not be investing with the might of venture capital firms but their ethos is the same - a good return on their investment in a short period of time.
So if you have plans to buy a business or two, consolidate them and then float on the stock market these are the type of people you might want to approach.
However, there are very strict The Financial Conduct Authority (FCA) regulations on the best practise of approaching private individuals looking to invest in unquoted companies.
You will certainly need the services of a professional - a lawyer or an accountant - before you can target individuals on this basis, even before you draw up any agreements.
For more information about angel funding, contact the British Business Angels Association.
Venture capital funds
There are over 250 venture capital funds in the UK who seek to invest in exciting business ideas with high growth prospects, products and services with a competitive edge and highly skilled management teams.
However, if you are likely to be a business owner interested in running a lifestyle business (a business whose main purpose is to provide a good standard of living and job satisfaction for you as an owner) then you are unlikely to provide the high financial return that venture capital investors are looking for.
Some venture funds look to invest £10m with the expectation of making £50m (or more) within three years. This is not a loan and you will have to give up a big stake in your business.
The investor will generally expect to be actively involved in your company and its progress. However, you may have big plans to consolidate a business sector, like nurseries for children or fast food outlets and venture capital might be the way to go.
This is one of the newest ways to raise finance. Essentially, it's the process of individuals or groups pooling money to fund other groups, indivduals or businesses. It's not regularly used to help people purchase pre-existing businesses, but there are those that have had success on site.
There are numerous nuances within crowdfunding, though in comparison to most other methods of raising finance, there's a lot of transparency as campaigns perform much better when social media is involved. Take a look at the Wikipedia article for a list of crowdfunding platforms.
You may find it useful to speak to an accountant before jumping in to the Angel's Den, filling in bank forms or posting up a Kickstarter, but hopefully you're better prepared to make the right decision when it comes to raising finance.