You make money when you buy a business…not when you sell it.

When looking to acquire a stake or outright control of a business, it is important that you utilise debt funding correctly. Over the last few years we have worked with a number of funders who have looked to utilise debt funding to facilitate a purchase and we have taken away a number of key learnings in this process.

This topic is likely to be increasingly relevant as global interest rates continue to be persistently high, the global de-listing trend from mainstream bourses continues and challenging operating conditions see business owners looking to exit their businesses.

Warren Buffett is arguably the best investor of all time and one of his most common mantras that has been picked up is: “Price is what you pay, value is what you get” and what he essentially means is that you have an opportunity to make money when you buy a business, not only when you sell it.

What are the main considerations when looking at using debt funding to finance an acquisition?

The first is obviously liquidity. Is there enough free cash to fund the transaction and the associated interest and professional fees? A very common scenario is that investors take on expensive debt which places stress on the balance sheet and this leaves the operations and capital expenditure cash-strapped. This has a knock-on effect to the rest of the business.

The second consideration is solvency and goes hand-in-hand with the cashflows of the business. If you are not able to generate the cashflows required, you may find yourself being a forced seller.

The third is tax planning. If you are taking on debt to acquire the business, you should in principle be able to claim the tax benefits against the interest portion of the transaction. Have you considered your assessed gains or losses and how this will impact the tax picture and influence cashflows over the life of the transaction?

Your fourth consideration is around being able to do a proper Due Diligence on the asset you are acquiring. This goes beyond simply working your way through the contents of a data room of a business. Rather it extends to having an understanding of the industry and have a sounding board who can ensure that the buyer goes into a transaction with their eyes wide open.

Next up, you need to factor in the costs associated with professional services when doing a deal. This is often an element which is neglected or completely forgotten by a buyer who finds themselves faced with unexpected expenses which can impact cashflow. When doing a transaction, you should factor in approximately 5% to 15% of the deal value, depending on the size of the deal, for professional services fees.

Lastly, the importance of relationships when approaching parties for capital cannot be underestimated. Whether you are approaching bankers, private equity partners or even other private lenders, relationships will be key. If you enter discussions with a lender where you have a pre-existing relationship, you could potentially lower your cost of capital.

There is no question that it is a buyer’s market in South Africa at the moment as various economic factors are putting pressure on business owners. Whether it is a desire to emigrate or simply not having the working capital to push through this trying period, buyers have an opportunity to buy good assets at attractive prices, despite rising interest rates.

Whether buyers will be making or losing money when acquiring these deals will be heavily dependent on the funding structure of the deal. The right funding structures will not only increase the value of the transaction when you buy the asset, but will unlock future value in the business.

To take advantage of these conditions, you need a strategic CFO or partner who is able to help you structure your debt funding in such a way that you can enjoy superior returns on your investment from day 1, enabling you to bring your specialist skills into running your new asset.

Louis Naude is a Qualified Chartered Accountant and Portfolio CFO with The CFO Centre South Africa, he has more than 25 years of experience in Financial and Business Management, with extensive experience in complex group consolidation and tax structures. Louis is an ambitious professional with problem-solving proficiency and extensive senior management and financial experience. Louis’ expertise in people management and business acumen provides leadership in complex situations and ensures execution towards a common goal.