SBA loan and government shutdown
An anatomy of the 2018 government shutdown and SBA loan.
The highs and lows of business ownership are many…especially if you are a business owner selling to move to the next chapter of your life or a business owner buying starting out on your ‘American Dream’ to own and operate your own business.
The steps for the buyer and seller are difficult at the best of times; for many reasons.
For the business seller, these reasons include the business must keep running on a day to day basis. In addition, the sale must be kept confidential so key employees, landlords, suppliers and customers don’t find out there could be a change of ownership.
For the business buyer, they are taking a huge financial and emotional risk and therefore want to know and see everything.
Buying and selling a business during a federal government shutdown
Thankfully, the shutdown of the Federal government is not a normal event. Additionally, when it happens it is generally for a short period of time.
The purpose of this article is to look at the complexities and challenges of buying and selling a business with a real-life transaction and the buyer is getting finance with an SBA loan. It also considers the impact on the transaction not only on the buyer but also the seller and the many other professionals assisting in the transaction with the additional complexities during a Federal government shutdown.
SBA loan and a federal government shutdown
Between December 22, 2018 and January 25, 2019, the US Federal government was shutdown. The focus of the media on the impact of the shutdown was mainly the Federal government workers and contractors. However, the Federal government shutdown had one impact that simply wasn’t talked about and that was its impact on the Small Business Administration or SBA and the ability of all lenders to successfully process an SBA loan. That is, SBA loans were unable to be processed and so the sale of any business that required the buyer obtaining an SBA loan simply could not close.
The transaction that I was trying to close had the buyer and seller introduced to each other in August 2018.
The introduction and initial negotiations were normal with the buyer making an offer in September 2018 with the sellers deciding to accept with some minor negotiations.
One of the terms of the transaction was to close the sale on January 02, 2019 so the sellers could close out their 2018 tax year. An additional term of the transaction was that the buyer would fund the purchase of the business with his downpayment plus an SBA 7(A) loan for both the business and real estate that was part of the transaction.
SBA loan and the prequalification process
The buyer initially approached his local credit union to obtain an SBA loan. After a period of about 4 weeks he found the local credit union were slow to respond and process his SBA loan application and so I introduced him to a Designated Lender that I had worked with previously to see if the loan was a fit for their loan portfolio or book of business. It turned out this was the case and so in about mid-October the lender issued the buyer a prequalification letter to express their interest in providing the buyer with an SBA loan.
At this stage in the transaction, the buyer and seller had negotiated all the terms and conditions of the transaction and even finalized purchase agreements.
It was expected the SBA lender would move quickly through their underwriting process so the buyer would move from a qualification letter to a preapproval letter. For the buyer to get their preapproval letter there was a “needs’ list from the SBA lender of 95 items.
For those unfamiliar with the SBA loan application process, its exceptionally detailed.
The good news for the buyer and seller in the transaction was that both parties were motivated to close the sale. As I had done SBA loans before, I warned both parties of the complexity of the SBA loan process and the fact that a single document could hold up the approval of the SBA loan and therefore the close of the sale of the business.
It was expected to move the loan from being prequalified to preapproved by mid-November but unfortunately the underwriting process dragged on and this was not completed until the first week in December 2018.
SBA loan and a Prequalification letter
Part of the purpose of moving from the Prequalification of the SBA loan to the Preapproval is to allow the buyer and seller to dot all the I’s and cross all T’s as well as the SBA lender. There is no point committing to a large amount of work to move from taking the SBA loan from the Preapproval stage to funding and the close unless all parties are on board including the final ‘needs’ list that all parties need to complete before the funding of the loan.
SBA loan and third-party valuations
Because this transaction includes both real estate and business the SBA requires a third-party valuation of the real estate and a separate third-party valuation of the business.
The SBA loan process also includes getting clear title to any and all vehicles in the transaction, flood insurance if the business falls into a flood risk area, life insurance for the buyer of the business and many other requirements.
Help of a business broker in the transaction
One of the challenges as the business broker in the transaction is knowing where you fit in and how best to help. During a transaction that includes the buyer getting an SBA loan, the lender may make it difficult as there can be multiple points of contact and what appears to be little coordination inside the lender. For example, a lot of lenders have an initial point of contact called a Business Development Officer or BDO.
The BDO does the initial high-level analysis to decide if he thinks his lender would be willing to underwrite, approve and fund the SBA loan.
The BDO typically works with his underwriter. The underwriter is a critical contact as it’s the underwriter’s responsibility to analyze and decline or approve the loan. If later the loan goes bad, the underwriter is now required to defend the lending decision if the loan goes bad. That is, the SBA gives authority to banks that qualify to run their book of business unless a loan fails. If the loan fails, the SBA will conduct an audit of the loan. If they feel the loan was poorly underwritten, they have different actions they can take but they include removing the Designated lender status of the bank; which is not what the bank wishes to see happen.
SBA loan and a Federal government shutdown
In the lead up to Christmas 2018 it was announced that the Federal government was going to be shut down. Because I’ve been a business broker for several years, I remembered that if the Federal government was shutdown it could impact the ability of all SBA loans to be funded.
Unfortunately, the SBA makes no attempt to let the market know that it will be shut down and how it affects the approval and funding of an SBA loan.
Just as the SBA makes no attempt to advise about the shutdown, neither does the Designated lender.
Checklists and closing an SBA loan
Checklist to watch the next time you are doing an SBA loan and the Federal government shuts down.
- Time and timing are your most critical assets. If you hear there is talk of a Federal government shutdown and you are in the closing stages of your transaction, do all you can to try and close as quickly as possible. This can be difficult as the SBA lenders ‘needs’ list can be long. As I mentioned above, the lender will probably not close unless every item off is off their ‘needs’ list as they don’t want to be caught if the loan goes bad. Additionally, as one BDO said to me, we won’t close an SBA loan with a guarantee the buyer or some other party will get us that document after the loan closes as we tried that before, and it didn’t work.
- Don’t expect to receive any notification from the SBA about any pending shutdown. If the shutdown happens you will hear about it in the news.
- Don’t expect to receive any notification from the lender. You would expect it would be simple for them to have a short document they can send so as a broker we can share with the buyer, the seller, the escrow company and any other parties in the transaction such as attorneys, CPAs, appraiser and other service providers we need to help complete an item on their ‘needs’ list.
- Don’t expect to receive any phone calls from the lender keeping you updated on the status of the outstanding items on their ‘needs’ list with an explanation about a document. In my case I worked diligently to make sure the buyer worked directly with the lender as the lender will not typically share what they consider to be sensitive information they decide only the buyer needs to know. However, I knew this before going into the transaction and so offered to be the point of contact with the lender for the seller (who the lender won’t contact), the business appraiser, the real estate appraiser, the company that does the real estate environment report and more.
- Because the ‘needs’ list for a loan is so long and typically drawn out getting everything together, it is easy for mistakes to be made or for there to be misunderstandings. That is, be ready for things to get very reactive as all items must be complete for the bank to fund the loan. In this transaction there were many vehicles and trailers. All these needed to be titled correctly (which some weren’t) and so it required working with a State of California Department of Motor Vehicles and they had their processes and timelines which didn’t match what we needed.
Be prepared if your buyer is getting an SBA loan
If your buyer is getting finance via an SBA loan and you want to sell your business, it requires preparation.
The minimum preparation is to get your business sold is:
- A business valuation that recognizes the cash flow of the business acceptable to an SBA lender,
- An accurate recast of the business financial statements,
- A prequalification from an SBA lender,
- Ensuring that the buyer has a minimum down payment to buy the business, a clean and updated credit profile and experience in the industry the business operates.
Are you ready to sell your business or practice? Not sure where to start? The place to start is with a business valuation so there is an analysis of your financial statements. The analysis should be written and presented so its clear to a buyer and potential SBA lender the performance of the business and its cash flow.
If you would like more information, please visit my website Business valuation.