Canadian Small Business Acquisitions and the $2 Trillion in Baby Boomer Business to be Sold By 2030

Written by Parker Easter
JD Candidate 2023 | UCalgary Law
Co-Founder | ReNu Hygienics 
​

Most are familiar, many are excited, and a few are disgruntled; the great generational wealth asset transition (somewhere between $30-70 trillion!)[1] is among us and is well discussed. However, the conversations surrounding the $2 trillion worth of Canadian baby boomer business soon to enter the robust small and medium business mergers and acquisitions (“SBA”)[2] are far and few between.
 
Considering some studies report that as much as 62% of Canadian business owners plan to use the proceeds of their business exits to fund their retirement,[3] ensuring the demand-side of the market is equipped and able is critical to the macro-economic health of the country. Unfortunately, this requirement is met by overleveraged, unsecured, and unaccredited prospective buyers – Canadian youth. How overleveraged, unsecured, and unaccredited are our youth? Well, it is difficult to say but one Industry Canada report summed the problem up well:
 
“Very few studies containing empirical data are available in the literature describing youth SME financing, although significant anecdotal evidence of barriers to attaining financing can be found. Youth owned SMEs must overcome all of the same obstacles that any venture must overcome in their quest for capital. However, some of the obstacles are even more pronounced in this group as they do not have extensive career track records or significant personal assets to use as collateral. Compounding this is a strong likelihood of no personal credit history and often a large student loan debt.”[4]
 
Sufficient to say that while our youth will make up an uncertain, but surely sizeable, amount of the acquisitions needed to match the nearing supply, their barrier to bank loans generates concern. As such, this article sets out to provide insight to prospective buyers by vetting the main sources of SBA financing available to Canadians – even our youth.

​
The Landscape

Debt, equity, and seller financing are the three key forms of SBA financing. The best capital structure varies widely and will be unique to each buyer.[5]

Debt Financing for SBA

Debt Financing occurs when a person or entity borrows money for the purposes of an SBA in exchange for the promise that it will pay back the entire value borrowed (the “principle”) plus an additional interest fee. In addition to repayment terms, Debt Financing is invariably accompanied by a “down payment” and often with financial performance rules (covenants). Within Debt Financing, there are several vehicles to consider, however, for simplicity, discussed below includes just (1) Bank Financing, and (2) Government Financing.

1. Bank Financing
   
   Bank financing is the most traditional form of debt financing and involves borrowing money from a bank or other financial institutions. Banks provide a range of financing options, including lines of credit, term loans, and mortgages, among others. However, qualifying for bank financing can be challenging for small business owners, particularly those without a strong credit history or collateral – cue the youth. Where available to these high-risk borrowers, banks will often require a higher rate of interest or greater down payment, implying a greater chance of default, and often require the borrower to adhere to certain covenants.[6]
   
   To increase their chances of securing bank financing, small business owners should prepare a detailed business plan and financial statements that demonstrate their ability to repay the loan. This applies even in SBAs; while the past performance of the target will be a strong indicator of risk of default, the banks will want to see the buyer’s vision and the level of prudency they are bringing to the endeavor. They may also consider seeking the assistance of an accountant or private M&A lawyer who can help them navigate the financing process.
   
   
2. Government Financing
   
   Government financing is a form of debt financing that is backed by the government. The Canadian government offers several programs that provide loans, grants, and other types of financing to small businesses, including those involved in SBA transactions. These programs are designed to help Canadian businesses grow and create jobs, and they often have lower interest rates and more flexible repayment terms than traditional bank loans.
   
   One popular government financing program is the Canada Small Business Financing Program (CSBFP), which provides loans of up to $1 million to help small businesses acquire assets, such as equipment or real estate. The program is administered by the Small Business Financing Directorate of Industry Canada and is available to businesses that have gross annual revenues of $10 million or less.[7] While the CSBFP does not permit borrowers to use the funds to acquire shares (in a target acquisition – the ethos of this article, per say), an entrepreneur can leverage this program post-acquisition to catapult the new company in pursuit of their vision.
   
   

Bridging the Gap: Equity and Seller Financing for SBA

But where will one come up with the 20-30%[8] down payment often required to obtain the debt finance capital for a SBA? If one doesn’t have the capital themselves, they can look to (1) Equity Financing, or (2) Seller Financing to obtain the necessary finance.

1. Equity Financing
   
   While the owner and operator of a small business is often its first equity investor using their own savings, equity financing can also be leveraged for additional outside capital. Simply, it involves trading a portion of the target business for investment capital. In SBA transactions, equity financing can come from several sources including friends and family, angel investors, and even professional private equity or venture capital firms.
    
   When it comes to equity capital for SBAs, the dominant concern surrounds negotiating investor terms. These vary widely based on the deal, the investor, and the relationship between the investor and acquiror. In addition to the most obvious term up for negotiation, equity stake, investors may also be bothered to negotiate board representation, liquidation preference, anti-dilution protection, governance provisions, and even information rights.
   
   
2. Seller Financing for SBA
   
   Seller financing is a form of financing where the seller personally finances a portion of the purchase price. While there is no limit to the amount of seller financing you can ask a seller for (in fact, some less “salable” businesses may be 100% seller financed), it is often used to bridge the gap between traditional source financing obtained and the purchase price.[9]
   
   There are several potential advantages to this approach for the buyer: potentially a lower interest rate, more flexibility on the payback schedule, and, arguably most important, a seller with a vested interest in a successful transition and the continued success of the business. On the seller side, the seller may even reap tax benefits by exiting in this fashion.[10]

 
Conclusion

In conclusion, SBA financing can be a complex and challenging process, particularly for Canadian youth who face unique barriers to accessing financing. However, by understanding the landscape of available financing options, small business owners can increase their chances of securing financing and completing successful SBA transactions. Whether through government financing, bank financing, equity financing, seller financing, or a combination of each, there are many ways for small business owners to access the capital they need to grow and thrive.


[1] Joseph Coughlin, Millennials Are Banking On The Great Wealth Transfer, 4 Words Why You Shouldn’t Cash That Check Yet, Forbes (November 16, 2021), online: https://www.forbes.com/sites/josephcoughlin/2021/11/16/millennials-are-banking-on-the-great-wealth-transfer-4-words-why-you-shouldnt-cash-that-check-yet/?sh=47f9318b2dde. Note: it is unclear how much wealth is expected to be transferred throughout Canada specifically – articles on this topic often site both American and Canadian pundits but fail to clarify the scope.
[2] Succession Tsunami: Preparing for a decade of small business transitions in Canada, Canadian Federation of Independent Business (January 2023), online: https://www.cfib-fcei.ca/en/research-economic-analysis/succession-tsunami-preparing-for-a-decade-of-small-business-transitions.
[3] Are Your Clients Prepared To Sell Their Business? The Canadian Press (November 28, 2018), online: https://www.advisor.ca/tax/estate-planning/are-your-clients-prepared-to-sell-their-businesses/.
[4] Dr. Ted Heidrick, Financing SMEs in Canada, Government of Canada, online: https://www.ic.gc.ca/eic/site/061.nsf/vwapj/financingsmesincanadaphase1_e.pdf/$file/financingsmesincanadaphase1_e.pdf.
[5] Tom Venner, Introduction to Capital Structuring, Taureau Group, online: https://www.taureaugroup.com/resource-center/news-articles/capital-structuring-for-the-sale-of-your-business.
[6] James Chen, How Debt Financing Works, Examples, Costs, Pros & Cons (May 28, 2022), Investopedia.
[7] Canada Small Business Financing Program, Government of Canada, online: < https://ised-isde.canada.ca/site/canada-small-business-financing-program/en>.
[8] What is the minimum down payment to buy a business? , BDC, online: < https://www.bdc.ca/en/articles-tools/start-buy-business/buy-business/what-minimum-down-payment-to-buy-business>.
[9] Michael David, How to finance a business acquisition, Swoop Funding (December 21, 2022), online: https://swoopfunding.com/ca/blog/how-to-finance-a-business-acquisition/
[10] By exiting the company on a payment schedule instead of in a lump sum, the seller may assume a lower, or at least a spread-out, tax liability.