Goodwill is an intangible asset that many business owners hope they have for the future but are hesitant to treat as a true asset. Goodwill is often not recognized as collateral or a leverageable asset by traditional financing, making it hard to extract goodwill’s full value. The Small Business Administration (SBA) recognizes that for many small businesses, goodwill is not only a real asset, but also a financeable tool that can guarantee the long-term sustainability of the business. In many ways, financing goodwill is a direct reflection of the mission of the SBA.
There never seems to be enough time in the day for the business partners of a lubricant manufacturer, Josh Palmer and Larry Washington. Their spray-on lubricant offers a greener alternative to traditional products and is generating enthusiasm in the market. Domestic sales in North American have doubled in the past three years, and it has challenged their manufacturing operation to keep up. Josh and Larry try to optimize their current capacity to avoid overtime or idle machines.
Now, one of their U.S. retailers has asked them to expand distribution with them into South America. A third business partner, Leslie Ross, does not support the expansion. She has been working long hours for years and wants to see the business grow more slowly and spin off more cash and free time to the owners. Josh and Larry are aiming for growth. They knew the day when their goals would diverge from Leslie’s would come eventually, but they were expecting it a few years in the future; not now as they sit on the brink of what they believe is a lucrative opportunity.
Josh and Larry appeal to Leslie’s desire to exit when the business is in a healthy place and approach her about a buyout. She agrees to a deal, but for tax reasons, she unexpectedly stipulates that it has to close within 90 days. Josh and Larry would prefer to finance the buyout with cash from operations, but the South American launch is requiring significant cash investments, as well as significant amounts of their time and attention.
Josh and Larry contact their banker, assuming that conventional commercial financing will be their only viable option. They are concerned about the total costs to finance and the accelerated timing that may be required, but they believe in the health and future of the business. They quickly find out that conventional financing will not cover the goodwill portion of the transaction. Upon reviewing the options, their banker points out that they can receive more attractive terms with a $1.4 million, 10 year, SBA 7(a) loan. The SBA loan offers significant advantages over a conventional loan, minimizing the amount of cash they have to put up. They feel confident with their banking team, but are nervous about the process for an SBA loan. Their team provides assurance that their experience in SBA will pay off with a seamless process.
Along the way to closing, the lack of time and spare attention to focus on the details compromises the deadline. Josh is posted in Brazil trying to get the warehousing bugs and retailer education under control and has to prepare the application and documentation from 5,000 miles away. Their CPA is off on her honeymoon for two weeks 45 days before closing. Fortunately their inexperience with SBA loans is balanced by the deep SBA track records of their banker and their bank. Josh and Larry learn the SBA loan process is not substantially different from a conventional loan. The loan closes in time. Josh and Larry are able to keep their attention focused on the business and its expansion. And their partner, Leslie, is now working on her plan for a new part-time career.
One of the unique benefits of the SBA 7(a) loan is the ability to use it to finance goodwill for healthy growing businesses like the manufacturer profiled in this example. While a 25% equity injection is generally required, the ability to use this loan for intangible assets makes it attractive for business opportunities like acquisitions or buyouts for which conventional financing is simply not available.