Getting a loan to buy a business can be a complex process, but it’s a common way for aspiring entrepreneurs to acquire the funds they need to buy a business. Here are some steps you can take and key terms to know in applying for and getting approved for a business loan:
Determine how much money you need: Before you apply for a loan, you’ll need to have a clear understanding of how much money you need to buy the business. This includes not just the purchase price, which will generally necessitate an appraisal, but also any additional expenses such as inventory and working capital.
Develop a business plan: Most lenders will want to see a comprehensive business plan that outlines your strategy for running the business and how you plan to generate revenue. This will help them assess the viability of your business and determine whether you’re a good candidate for a loan.
Check your credit score: Your credit score is one of the most important factors lenders consider when deciding whether to approve your loan application. Check your credit score and make sure it’s in good standing before you apply.
Do your research to find an SBA-approved lender: To apply for an SBA loan, you’ll need to find a lender that participates in the SBA program. The SBA 7(a) loan program is one of the SBA’s most popular loan programs, designed to help small businesses access funding to purchase, start or expand their businesses. The loan limits for SBA 7(a) loans depend on several factors, for most SBA 7(a) loans, the maximum loan amount is $5 million.
It’s important to note that while the SBA sets loan limits for the 7(a)-loan program, individual lenders may have their own limits and requirements. Borrowers should work with their lender to determine the loan amount that’s best for their business and financial situation.
Understand a key financial ratio: The debt service coverage ratio (DSCR) is a financial ratio used to evaluate a company’s ability to meet its debt obligations. Specifically, it measures the amount of cash flow available to cover debt payments, including principal and interest.
Lenders often use the DSCR to evaluate a company’s ability to repay a loan. A higher DSCR generally indicates that the company is less risky and more likely to be able to repay the loan.
The DSCR is calculated by dividing the company’s annual net operating income (NOI) by its annual debt payments. The resulting ratio represents the number of times the company’s cash flow can cover its debt obligations. For example, if a company has a DSCR of 2, it means its cash flow is twice the amount of its debt payments.
A DSCR of 1 or higher is generally considered a good indicator that a company has sufficient cash flow to cover its debt payments. However, the ideal DSCR may vary depending on the industry and other factors.
Overall, the DSCR is an important financial ratio that can help investors, lenders, and business owners assess a company’s financial health and ability to manage debt.
Getting a loan to buy a business is a big financial commitment, so make sure you do your due diligence and carefully consider all your options before you make any decisions.