Creative Deal Structuring 101

This chart is just brutal:

Prime is the basis upon which SBA interest rates are set.

And as you probably know, the SBA—Small Business Administration—is the #1 source of financing for small business acquisitions.

So if Prime is 8.5%, SBA is usually a few basis points higher (currently 12%).

The days of using SBA loans to fund 90% of a purchase price are over.

You need to get creative.

Here are 6 strategies you may not already know:

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Seller Note (Traditional)

Seller lends you a portion of the purchase price, which you pay back with interest.

Target a low fixed interest rate (6%) and extended amortization window (7 years).

I’m calling this “Traditional” because it functions like a typical loan.

You owe the seller these payments regardless of how the business performs.

Obviously, a traditional note incentivizes the seller to remain engaged post-close.

It also provides them with a steady source of passive income.

While effective, these days I prefer a slight spin on the “traditional” seller note…

Seller Note (Free Cash Flow)

Same as the above, but tie repayment of the seller note to a % of Free Cash Flow “FCF”.

FCF is profit less capital expenditures, interest and taxes.

In other words, the cash available to repay debt or distribute to shareholders.

Offer to share FCF 50/50 with the seller until the seller note is fully repaid.

This is a "you get paid when I get paid" approach that I absolutely love.

You can sweeten the deal with PIK (paid in kind) interest.

This just means the total value of the seller note grows each year by the PIK interest rate you set.

So a $100K seller note with 5% PIK interest would grow to $105K in value after 1 year if no repayment is made.

Seller Equity Roll

At times, the seller might be open to rolling a piece of their equity into the deal.

I’m generally a fan of this arrangement, if the seller wants to make it happen.

I find a 10% equity roll to be the sweet spot where:

1. You retain majority of the equity

2. You can tap into the seller’s knowledge long-term

You can even present the role as a “Chairman” option.

Who doesn’t want to be a Chairman?

I also find retaining the seller in a more permanent way is something that can give your equity partners additional comfort.

Revenue Share

In companies where outside sales is a major driver of growth, offer to share a % of originated revenue with the Seller.

This can be capped, or uncapped (functioning more like a commission arrangement).

I find this to be a good option for retiring owners who enjoy the people side of the business and want to remain active later in life.

A spin on this is to do a profit-based earn-out.

These are good for buyer-seller alignment, but I find carry less weight to a seller, since they ultimately won’t control profitability post-close.

The revenue share allows them to benefit from something they fully control.

Alternative Debt

In the last few years, a whole industry of alternative debt providers has emerged.

Two leaders in the space are Boopos and Pipe.

Boopos is a non-dilutive (debt only) lender that offers non-recourse (no personal guarantees) loans repaid based on revenue performance.

Pipe is also a non-dilutive financing source, but they lend against a company’s recurring revenue contracts.

Both platforms predominantly serve digital businesses: SaaS, eComm and Content Sites.

If you’re buying one, these can be great sources of capital.

Preferred Stock Conversion

We’ll save the most creative for last.

If you read the newsletter a few weeks back, some of this may seem familiar.

A few steps here:

• Raise money from investors

• Pay them back 2x their investment

• Convert their shares to common stock

This is a powerful mechanism to limit risk and maintain upside.

Here’s a brief example on a $1 million purchase:

Say you finance $400k of a deal with investor equity.

Offer investors:

"2.0x participating preferred return that converts into 20% common equity participation."

This means you owe investors $800k (2x their investment).

Once you deliver that return, their stock converts to 20% of common equity.

You keep the remaining 80%.

Why would an investor agree to this?

• You found the deal and brought it to them.

• You take all of the debt risk; they are limited partners and have no debt exposure.

• They get 2x on their money before you get any of the distributions.

• They still get a sweet upside in the common stock.

If you structure a deal this way, please make sure you include a reasonable salary to give yourself liquidity while you pay investors their preferred return.

Final Thoughts

Rising interest rates may seem like a major obstacle.

But let me encourage you:

If you can get a deal to pencil in this environment, it's going to look that much better when interest rates eventually come back down.

The opportunity to refinance—and pull out cash tax free—will be incredible.

Until next week,

Danny

PS - What topics should I cover in an upcoming issue? Hit reply and let me know!