Ultimate Self-Funded SBA Acquisition Guide

This guide provides a comprehensive look at self-funded SBA acquisitions, a powerful way for entrepreneurs to acquire profitable small businesses with minimal personal capital investment. This financing strategy allows buyers to retain majority ownership while using a combination of debt, seller financing, and equity investors to fund acquisitions.

What’s a Self-Funded SBA Acquisition?

A self-funded SBA acquisition is when an entrepreneur acquires a cash-flowing small business primarily funded through an SBA 7(a) loan, typically for businesses valued between $1 million and $11 million. This is part of the Entrepreneurship Through Acquisition (ETA) model, but distinct from a traditional search fund, which is commonly pursued by graduates of top MBA programs.

Benefits for the Entrepreneur:

Use high leverage (SBA 7(a) loan) to cover up to 80% of the purchase price.
Retain majority equity ownership and control after repaying investors.
Gain access to investor capital without the need for personal liquidity.

Benefits for Investors:

High returns (35%+ IRRs and 3-4x MoM multiples).
Faster capital recycling due to structured investor payouts.

80/10/10 Self-Funded SBA Structure

The 80/10/10 structure is one of the most popular ways to finance a self-funded SBA deal. The capital structure typically includes:

1. Senior Debt (70-80% of Enterprise Value)

Source: SBA 7(a) loan.
Interest Rate: Variable, Prime + 1.0% to 3.0% (currently around 10%+ in 2024).
Amortization: 10 years.
Personal Guarantee: Required from the buyer.

2. Seller Note (10-15% of Enterprise Value)

Definition: A portion of the purchase price deferred and paid over time to the seller.
Interest Rate: 5.0% to 8.0%.
Amortization: 4 to 10 years (negotiated).
Personal Guarantee: Often requested by brokers/sellers, though buyers should push back where possible.

3. Equity (5-15% of Enterprise Value)

Equity can be raised in two ways:

Personal Equity:
- Allows complete control and avoids investor negotiations.
- Potential S-Corp tax benefits.
Investor Preferred Equity:
- Capital is raised from family, friends, or investors.
- Can be sourced via investment platforms like SMB Junction Capital Connector.

The Self-Funded Step-Up Methodology

The self-funded step-up is a valuation and investor pricing methodology, determining how much cash flow investors receive and how much ownership the entrepreneur retains.

How it Works (Example Calculation):

Investors contribute 16% of Enterprise Value as equity.
The self-funded step-up multiple is 2.0x.
16% x 2.0x = 32% investor ownership of distributions.

This method ensures aligned incentives between entrepreneurs and investors while maintaining an attractive deal structure.

Key Terms in Self-Funded Acquisitions

Self-Funded Step-Up Multiple

Market Range: 1.5x to 2.5x (varies based on deal competitiveness and business quality).
Midpoint: ~2.0x is considered standard in well-structured deals.

Liquidation Preference

Market Standard: 1.0x (investors get their original investment back before the entrepreneur receives distributions).
Why It Matters: Protects investors, ensuring they get paid before common shareholders.

Preferred Return

Market Rate: 8-14%.
Definition: Investors receive this return before the entrepreneur profits.
Why It Matters: Aligns incentives and ensures fair compensation for risk.

Acquisition Entrepreneur / CEO Salary

Market Range: $60K to $125K.
High-End Salaries: Some entrepreneurs push for $250K+ but this negatively impacts investor returns.
Best Practice: Keep salaries low and focus on business growth and debt repayment.

Note: EBITDA should always include the CEO salary to provide an accurate financial picture.

Criticism & Risks of the Self-Funded Model

This methodology, while effective, has potential risks and pitfalls, particularly for investors who lack experience vetting deals. Issues include:

Excessive CEO Salaries: A $150K salary on a $450K EBITDA business significantly impacts investor returns.
Weak Minority Protections: Investors must ensure tight operating agreements to prevent unilateral salary increases.
No Liquidation Preference: Without a 1.0x liquidation preference, investors face higher downside risk.

Who Should Invest?

Accredited Investors or those with strong knowledge of financial models, risk assessment, and deal structuring.
Those willing to actively review deal terms and negotiate protections.

Takeaways

The self-funded SBA search model is a powerful way for entrepreneurs to buy businesses with little upfront capital while ensuring strong investor returns. However, successful execution requires careful structuring:

Leverage SBA 7(a) loans and stick to the 80/10/10 structure.
Negotiate favorable investor terms (step-up multiple, liquidation preference, preferred return).
Maintain investor alignment by keeping CEO salaries modest and focusing on business growth.

When properly structured, self-funded acquisitions offer exceptional wealth-building opportunities for both entrepreneurs and investors. However, due diligence and strong deal structuring are key to avoiding pitfalls.