The world has undeniably become different due to the pandemic. As such, the landscape from where banks operate has also changed. In this episode, Domenic Rinaldi discusses how the banks are handling M&A transactions in lending these days with the help of Doug Adams of Emerson Capital. Doug is a loan broker that specializes in helping people secure SBA loans for their acquisitions. With his expertise, he shares how deals are getting financed when the revenues of a business have been impacted positively or negatively, what the banks are looking for during underwriting, how to look at the deal structures when buying a business during this time, and more. Join in on this great conversation to learn how to best navigate these uncertain times and stay afloat.

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Doug Adams: How Banks Are Handling M&A Transactions In Lending

I’ve been fielding a ton of calls and emails from clients about the lending environment for acquisition loans. We are being joined by Doug Adams of Emerson Capital. He is a loan broker that specializes in helping people secure SBA loans for their acquisitions. SBA loans can be a great resource for deals requiring a loan of less than $5 million. He is an expert in the SBA lending field, having sourced hundreds of loans for clients. One of the big advantages of Emerson Capital is that Doug works with about eighteen banks across the country so he will have a bank for every type of transaction and situation.

In this episode, you will learn how deals are getting financed when the revenues of a business have been impacted positively or negatively. What the banks are looking for during underwriting, how to think about deal structures in value when looking to buy a business during this COVID period and how to think about developing projections on a go-forward basis, something that all of the banks are going to require.

Before we get into this episode, if you want to avoid common deal pitfalls and the risk of losing substantial dollars, you need to know how ready you are to buy a business. Because I believe that proper preparation is so critical to your deal success, we have published several free resources to help you be better prepared. You can access these resources on our website at Being prepared is critical to ensuring that you maximize revenues and minimize risks. Thank you for being here. I know you’re going to get a ton out of this episode.

Doug, welcome back to the show.

Thank you for having me. I’m happy to do it.

I’m glad to have you here. This is an important topic. I’ve been fielding a ton of phone calls and emails from clients and prospective clients about what the market’s like but also how the banks are handling M&A transactions in lending these days. As you and I both know, it’s an incredibly robust market. The short answer is the banks are lending. It’s a little different but the banks are still lending. You’re a loan broker and you have eighteen banks in your portfolio that you work with depending on the deal, size and industry. What are you seeing and hearing from the banks?

You’re right. The banks are still lending. When COVID first came out and then we had the stay-at-home orders, the lockdowns and all that, the banks were trying to find their way. The underwriters and the credit committees were learning how they should approach this. We’re scared, for lack of a better word, when it initially fell up that way. That was in March, April and May 2020. Since then, they’ve found their footing and they’re looking at a few different things. As you certainly know, SBA loans are all about cashflow. The historical cashflow in the business is there enough for the debt service that will result from the acquisition loan, a seller note, and allowing for some household cashflow that needs to be taken care of.

That approaches are still the same. The wonderful things about the SBA deals for acquisitions, the low down payment, the long-term, the good rates, are all still in effect but they have tweaked their process a little bit to more closely analyze the revenue and the cashflows in 2020. The banks are all about the less taxable year and it was the cashflow from the taxes with the add-backs that are appropriate and sufficient. Now they’re looking much more closely at the internal numbers and the year-to-date numbers. This is an interesting thing because as we know, there’ve been a number of businesses that are thriving and that this has been a decent environment for them. There are a lot that isn’t.

It’s almost like a scale of two cities. You have these businesses that are almost experiencing embarrassing riches as a result of COVID and then you have on the other side of the ledger businesses are experiencing so much pain depending on what industry.

The ones that are halfway in between there where revenues were way down in the lockdowns and the stay-at-home period of April, March, May 2020, and now they’ve come back. It’s easy for the banks to look at the ones that are thriving and say cashflow or the ones that are doing horribly and say, “We can’t do this deal because there’s not enough cashflow.” The middle ground is the interesting ones. When you look at a year-to-date profit and loss statement, it may not be looking as though it has the last few years.

It's an illustration of how willing banks are to put you in the most possible position to succeed. Share on X

A lot of that might be because in those three months from March, June or July 2020, they were way down but now they’re coming back. The banks are willing to look at this, understand that, and take that for what it is as long as they can get comfortable that it’s back to normal if there is such a thing or the numbers are enough to be annualized based on the last three months as opposed to that second quarter.

If you’re an owner of the business or you’re a buyer looking at acquiring that business and the business suffered some downturn but between June and November 2020, the businesses started to ramp back up coming out the other side. What you’re saying is the banks will give you a mulligan on those months where you were down and look at what the pre-COVID scenario was and how your rebound looks. If you’re on track with pre-COVID revenues, the bank is willing to lend to that business. Is that correct?

You’re correct. What they’re doing is they’re requesting a monthly breakdown of the Profit and Loss Statements for 2020. They want to see a P&L Statement for each of the months of 2020 to even compare them to the month of 2019 for seasonal businesses to look and see the types of things that illustrate that rebound so they have something to hang their hat on. They’ll then go a little deep with these internal months that we’re down where employee or staffing costs did the company have to get spend more money in personal protective equipment, cleaning, supplies, or overtime for employees. All those things come in the mix.

Are you saying that when the bank looks at those things, they’re willing to give the business credit because they’re considering those one-time expenses or extra-ordinary expenses because you can add it to cashflow? If you spent $50,000 on personal protective equipment, they’re going to look at that and say, “That would have been cashflow to the business and we’re going to consider some or all of that as cashflow.”

Every bank’s approach is a little bit different and as with the PPP loans. As we’ve seen, a lot of companies took in the PPP loan money, did they put it into revenue? As you look at these statements, a lot of businesses did that. It’s not necessarily wrong. It’s not according to Gap but if it’s going to be forgiven then it’s cash to the business. It offsets the lower revenue that was happening or the higher employee costs during that period of time. Each bank will look at this stuff in their own way but the bottom line with that is has the business comeback? If it has, they’re not going to penalize you for the year-to-date numbers not being high enough.

That’s great news if you own a business and you want to sell. If your business has rebounded, you’ve got a path to exiting the business with what would have been your pre-COVID value or close to it. What does this mean for a buyer though? I’m a prospective buyer of that same business and I might have some concerns. I’m walking into a situation that is fluid or we’re already in the midst of another outbreak. Who knows if it’s going to dip again? How should a buyer be thinking? What is the bank saying to buyers about that?

The approach that the buyers should take is similar to what the underwriters should be looking at and are looking at and that is, what does the future hold? If you can determine that the business has stabilized, back, historically had stable cashflows, it went down for a period, now it’s back. If you can analyze those monthly statements and get a comfort feeling that this business is back where it needs to be, then you should gain enough confidence to go ahead and do those deals especially if you’ve got the historical trends and cashflows.

It’s evident that this was attributable to the stay-at-home orders, lockdowns, and all the things that have gone with COVID. The starting point when you’re looking at any of these is the revenue. Have the revenues stayed stable? Has it gone up down by how much? Where are we? What are the prospects for the future? Everything else comes off of there. If the cashflow is a little bit lower even though the revenue was stable, it might get below and into the numbers. Is that because of increased employee costs, PPP expenses and things like that. You got to get underneath and analyze what is behind all the numbers.

That’s a good point. Let’s dive in a bit. You’re talking about getting on your knees. If revenues are trending back, it’s a good sign. It’s enough if you’re an owner of a business to engage a professional to say, “Can I take the business to market,” and a buyer to say, “This is a potential acquisition I should be looking at.” It’s diving under the hood of that car to figure out what’s going on. What are some of the finer diligence things that people need to be analyzing? For example, you had mentioned things like AR. What’s happening in a company’s aging from AR because they might be producing the revenue top line but what’s happening to their receivables? Is there an underlying customer base?

Again, these underwriters are going to be doing this as well and they’re going to ask for not just the last AR aging that we have in the past that’s been sufficient for the banks. They’re going to want to look at the monthly’s. Has there been a trend? Is the AR increasing? Is it where it was last year at this time if it’s a seasonal business or not? They look at the amounts of AR associated with your various customers. Do you have a concentration? Is the customer base diversified enough? Is there a concentration risk with one of those customers who may be having their own cashflow issues and that they had never been over 90 days before or over 30 days and now they’re over 60 and looking carefully at that stuff?

MAU 80 | M&A Transactions In Lending

M&A Transactions In Lending: The lending world for acquisitions is doing well. These banks aren’t lending, and they’ve tweaked the process a little bit, but financing is out there.


You, as a buyer, should be doing the same thing. You want to know what is your risk that your customers and your suppliers for that matter. Is this business able to get the supplies that they need? Are there any hiccups in the supply chain? Are there vendors operational and are they getting the supplies that they need on a timely basis? If you could get at these kinds of things too, it would help you understand the numbers even more so.

These are all good points. These are things that people need to be analyzing in addition to the top line.

I will add one thing to the accounts receivable aging is the general liquidity of the business. Does this business operate with a line of credit? How much is that line of credit? What do you need as a buyer going in? What will be sufficient for you so that you’re in the safest position? During this period, the SBA has tried to promote the banks to lend. They put in programs and they had a program for a while that paid six months’ worth of payments for every existing SBA loan and every newly-booked SBA loan through September 2020 so that people and the banks felt more comfortable. They were more eager to lend and buyers were happy to take advantage of that.

Some of those programs may continue. It’s been at a standstill here while the election took place. As the dust settles a little bit, they may come back with some more of those types of programs. One of the things that they also included in the CARES Act was the express line of credit for these SBA deals. Historically, the maximum unmonitored express line of credit was $350,000. The CARES Act raised that up to $1 million for businesses to put in conjunction with their 7(a) SBA acquisition loan. They want to make sure that they’re giving these businesses the best chance of succeeding. That million-dollar limit on the express lines of credit is set to expire at the end of 2020. The hope is they will extend it. We just don’t know yet but those are the things they’re looking at.

You’re hitting on such an important point which is lines of credit. The buyers often ask me if there are pitfalls in buying a business, what are some of them? Lines of credit and working capital are often overlooked. It’s in my top ten things that people need to consider. You might get the business at the right price or get a great loan package but do you have enough liquidity in the business to continue to run it for some period of time especially when you’re looking at most of these deals or asset deals so you’re not walking into the accounts receivables of the business. You’re starting from a clean balance sheet. It’s great that the SBA is signaling, “This is important. You need to think about this. We want to make sure you remain healthy.” These programs have been awesome.

Without a doubt. They want the banks to continue lending. They need these small businesses to thrive. As an example, we had a flooring business that was approved and we had put in a $350,000 line of credit. The banks came back and as part of the commitment letter in conjunction with the discussions that we had, they decided to raise that to a $750,000 line of credit. You can imagine that this buyer was very happy to get that. Whether you use it or not, if you don’t need it, great. It’s an illustration of how willing banks are to put you in the most possible position to succeed.

Knowing that the line of credit is there is amazing. You don’t have to draw down on it but having that security or insurance policies is a great thing especially now, not knowing what’s going to happen.

It’s not for an expected downturn in revenue but do you have to wait longer to get your supplies? Are your costs increasing? What you mentioned about if you’re not buying the accounts receivable, it’s 30 days before you’re going to start to get money in. You still got to pay your employee, lights on and all those things to get going.

Sometimes, 30 is optimistic. You could be 45 to 60 days to get through a complete cycle. It’s important. Doug, we’ve focused a lot on when a business hasn’t done well. Let’s take the inverse of that. We are seeing some businesses that are doing well and owners, right or wrong, are looking at this as an opportunity to maximize the value of their businesses. Some of them are experiencing 200%, 300% increases in their revenues and their net profit.

They’re coming to us every day wanting to know if their businesses worth exponentially more. The challenge with that is you don’t know if that’s the new normal for a business or they’ve experienced this nice uptick because of COVID and where it’s going to settle out. How are you advising owners of businesses in regards to value expectations? For buyers, where an owner wants to get that extra value, how can they bridge a gap potentially with that owner?

You can't get too carried away with a valuation that's higher than it has been historically. Share on X

The price that a business sells for could be 3, 4, or 5 multiple on the cashflow. Depending on the history of that industry, it will guide you in some aspects. If you are looking at a business that is thriving this 2020 because the effects of COVID have stimulated their business and the owner says, “I think my business is doing more.” The question is how temporary is that? Is that the new normal? What can be expected in the future? It’s all about future expectations. Having said that, there are some mechanisms in place when you do these SBA loans.

Besides your own due diligence and what you feel is going to be the future, the bank underwriters are going to still underwrite these loans. The requirements and the rules for SBA loans dictate that the historical cashflow has to cover the debt service. You can’t get too carried away with a valuation that’s higher than it has been historically because if you’re looking at the last taxable year, starting with that net income and the appropriate add-backs, you still have to have the proper debt coverage.

In addition, as part of every SBA loan as you well know, there’s a valuation. The valuation comes during the closing process. These valuation companies are going to be putting realistic values on the businesses and they’re going to use their own people to analyze what does the future hold. What is this business worth? I don’t think you can get too crazy even though things are doing well. It has to be sustained for a while. That might be the new normal but we don’t know that yet. It’s too soon.

There’s one other thing at play here too. When a bank looks at this, they’re going to look at the most recent year but they’re going to pay attention to the previous year. When they calculate the value, it can’t be completely out of whack with what the previous year’s revenues and cashflows produced.

One of the reasons for that is because the banks will look at the last taxable year as a third-party verification. These are the numbers that are reported to the IRS. If you’re giving them your numbers for 2020, they are internal numbers. Generally, they’re fine. They are CPA-prepared but they’re still internal numbers. The banks are required by SBA rules to go back to the last taxable year and make sure that the debt coverage is appropriate thereafter, allowing for a buyers’ household cashflow needs as well as the prior year but mostly the most recent tax year. You can’t get too carried away with the internal statement.

My experience here is that if you own a business and you’ve experienced this uptick, you have a couple of options. One, you hold onto it for another year to see if this is the new normal. If you have two years of this higher revenue and net profit performance, everybody could arrive at the conclusion that this is the new normal for that business. If you have higher expectations and the bank is uncomfortable, one of the other things you can do within boundaries is arrive at an earn-out potentially so that if the business doesn’t continue to perform at that level, the business value is ratcheted down to the pre-COVID value or some value in between. Those are options.

That is an option. As we’ve talked about a number of times, these SBA loans are wonderful for absorbing all the goodwill. They’re not about collateral. It’s all about cashflow, the small down payment, long-term and all that, however, they’ve got rules. For the banks to make sure that they’re getting these guarantees, they’ve got to make sure that the deal fits the criteria. Historically, the banks and the SBA loans are not allowed to use earnout per se as part of the purchase price.

However, as we’ve come to realize, you can build in a form of earnout by utilizing a seller note and have negative covenants triggered in the seller note that may reduce the purchase price if certain thresholds are not met. You can’t have it out there as a regular earnout as we all know in the scheme of things but under that apparatus, you can adjust for what you’re going to be paying the seller per the seller note downward if a revenue threshold is not met, employees leave, or whatever the trigger is. You can get there, it’s a little different.

For the audience, I want to make sure that we’re being clear here. You can agree to a slightly higher price or higher value with the ability to ratchet the price back if certain metrics aren’t met. Typically, those metrics are going to be revenue and cashflow. I would urge everybody to get professionals involved in this because it can be tricky. Even when you get to the legal language, it can get tricky because the last thing you want is to wind up in a lawsuit with each other over a misunderstanding about the definitions of what had to happen to achieve this additional value. The ability to derive additional value is there with the ability for the buyer to de-risk if the revenues and the cashflows don’t stay at those higher levels.

MAU 80 | M&A Transactions In Lending

M&A Transactions In Lending: If the numbers work, you’ve got the experience, reasonably good credit, and the money for a down payment, those deals will get approved.


You got to be careful with the wording and make sure that it meets the criteria.

Doug, as part of the lending package that goes into this, the buyer has to come up with projections. That has got to be a bit tricky these days sitting down, putting pen-to-paper, and looking at projections. Tell me how you’re working with folks on the projection side. What are some of the things they need to be thinking about?

The core principles of the projections, in general still hold and that is, what are the expectations for the future that this buyer will be able to achieve in terms of revenue and cashflow based on the historical performance. When you throw the wrench in of what is 2020 performance, that’s where it gets tricky. We’ve had situations where banks have asked us to give them three versions of projections. An expectation, a high expectation, and a more moderate or lower expectation. Once you’ve got a projection done and you’ve got a spreadsheet, it’s not that difficult to make different versions.

The banks will want to look at that and say, “What’s the worst-case scenario,” so that they’re making their own underwriting decisions appropriately. These are key. What are your assumptions as you do these projections? What are the reasons and the rationale of how you got to your numbers? If you are going to do a projection for a business that’s thriving and you’re putting it out at the numbers of revenue that you’re seeing, then you need to explain why that’s going to stay that way so the banks can get the comfort level to get to the same place you are as a buyer. You always have to put the details in there and what you expect it to be going forward. That’s what we’re talking about.

I’m going to put in a little plug here for you. You work with buyers and you help them through every step of this process and it’s invaluable. For folks in the audience to understand, Doug is paid by the bank. It doesn’t cost you anything to get Doug’s experience. I know you’ve been through this hundreds if not thousands of times. For the clients that we send to work with you, this is invaluable. You can make or break whether or not they’re going to get a deal done. That’s a tremendous service.

Thank you. A lot of it is about the presentation, bringing out all the things that the banks are going to be looking at, and knowing what they’re going to expect. Do you need a transferable management experience narrative? What do you hit on and those kinds of things to get the underwriters comfortable that this buyer can take over the sellers’ roles and effectively operate that business? Projections are a big part of that.

Doug, this has been awesome. As we wrap up here, any overarching comments that you would offer up to buyers, sellers or their advisors about processing loans, getting through the loan process and values.

All of the things that we normally do are still important and the cornerstone to getting deals done. You have to look at the cashflows of a given business and make sure that you have a comfort level. We have a comfort level that the banks will see it the same way in terms of the coverage ratios, how much you feel you need to take out of a business, and what the prospects for the future are. With these SBA loans, it is evident that the feeling among the SBA and the treasury department as what it will be going forward is that there will still be hopefully some stimulus out there. Whether we get CARES Act 2 or whatever the next step is, the hope is they’ll reintroduce the six months of SBA payments.

They’ve talked about increasing the guarantee for the banks which is now at 75% up to 90% to encourage them to lend even more because everybody knows how important our small businesses to our economy. They’ve talked about waving the SBA fee. All these SBA deals while they’re great in many ways, they do have a fee and that’s 2.5% to 3% times 75% of a loan amount. It gets bundled into the project costs so it’s not too painful but on a $5 million deal, that’s over $100,000.

You have to look at the cash flows of a given business and make sure that you have a comfort level. Share on X

The same with six payments being made for you and a $5 million deal, that’s over $100,000. These things have real meaning. Hopefully, some form of that will continue. The lending world for acquisitions is doing well. These banks aren’t lending and they’ve tweaked the process a little bit but financing is out there. If the numbers work, you’ve got the experience, reasonably good credit, and the money for a down payment, those deals will get approved.

Doug, I’m curious, rates are dependent on the bank, your credit history, and all that stuff. Where are rates now on an SBA loan? What’s the band now?

The highest rate that a bank can charge in the SBA world is 2.75% over prime. That’ll put you at 6%. Most of the deals are variable. We see some fixed opportunities here and there. The rate will go down from there depending on the strength and the size of the deal. If you’re looking at a $500,000 business acquisition, you’re not going to get too much lower than 5.75% for your rate on a ten-year loan. If real estate is involved and you have a longer loan because you can go up to potentially 25 years, the banks are generally willing to come down a little bit on the rate when real estate is involved.

If you’ve got a $2 million to $3 million acquisition and a nice situation where the buyer has the proper experience and the cashflow is good, I would think that you should be able to get down to 5.25% or 5%. I would say that’s the range. The typical deals in nowadays world are going to be between 5% and 6%. With some specials that are out there for some banks who will want to get more business especially with real estate and might come down below 5% every now and then. Realistically speaking, that’s where you should expect to be.

Those are great rates. That gives you a lot of leverage on deals with low debt service potentially. The ten-year term on an SBA loan makes it incredibly attractive.

There’s no prepayment penalty so these loans are a wonderful tool for acquisitions. With 10% down, you can’t touch that in the commercial world.

Doug, this has been awesome. I appreciate you being here. If folks in the M&A Unplugged Community wanted to get in touch with you, how could they reach you?

You can call me at (773) 368-9611. It’s my mobile number. I have it with me most of the time or email me at [email protected].

I love leading with the old school phone number. Let’s get on the phone and talk. That’s great. Doug, thanks for being here. I appreciate it.

Thanks for having me. You take care.

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About Doug Adams

MAU 80 | M&A Transactions In LendingDoug Adams has over 30 years experience in small business lending including: Acquisition finance structuring, Loan Structuring, Credit Underwriting, Expansion financing, Partnership buyouts and equipment financing. He brings SBA loan program expertise with well established lender relationships. Doug is the Principal and President of Emerson Capital Corp., which provides consulting services for obtaining financing for small business acquisitions, expansions and partnership buyouts.


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