Financing a Business Acquisition in Germany: Equity, Bank Debt and Seller Loans

Financing a business acquisition starts with more than the purchase price.

A buyer needs to understand the total amount of capital required to complete the transaction and whether the financing structure will remain sustainable after closing.

Transaction costs, investment requirements, working capital and existing financing can all affect the amount of cash required. At the same time, the acquired company needs sufficient financial capacity to continue operating and investing after the change of ownership.

A sustainable acquisition financing structure therefore connects equity, bank debt and potential seller financing with the cash generation of the underlying business.

The legal and tax structuring of the financing is part of our M&A legal services.

The purchase price is not the total funding requirement

The agreed purchase price is usually the most visible number in an acquisition.

It does not necessarily represent the buyer's entire funding requirement.

Legal, financial and other transaction costs also require funding. Depending on the business, additional investment in equipment, technology or operational infrastructure may be necessary after closing. Growth can also increase working capital requirements. What M&A advisory costs when buying a business include is covered in a separate article.

Buyers therefore need a complete sources and uses analysis.

Uses identify where the money will be required. Sources identify how that capital will be provided.

This provides the basis for determining the required equity contribution and the amount that can be funded through bank debt or other financing instruments.

A simplified example illustrates the difference. A transaction with a purchase price of EUR 2.0 million, transaction costs of EUR 100,000 and an additional liquidity requirement of EUR 200,000 would have a total funding requirement of EUR 2.3 million. This could, for example, be funded with EUR 500,000 of equity, EUR 1.4 million of bank debt and a EUR 400,000 seller loan. These figures are purely illustrative and do not represent a generally applicable financing structure.

Equity creates financial capacity

Equity is an important component of many acquisition financing structures.

It reduces the amount of debt required and therefore the ongoing interest and repayment burden. It also carries the entrepreneurial risk of the transaction.

There is no universal equity percentage for a business acquisition.

The appropriate capital structure depends on the company's earnings, the stability of its cash flows, the purchase price, future investment requirements and the expectations of the financing providers.

For searchers and other acquisition entrepreneurs, equity can come from personal capital or external investors. A seller rollover can also form part of the post-acquisition ownership structure.

The amount of equity has a direct impact on both financial resilience and investor returns.

Higher leverage can increase returns on invested equity. It also increases the amount of cash that must be available for interest and principal payments.

The relevant question is therefore how much leverage the business can sustainably support.

Bank debt is ultimately supported by cash flow

Bank financing is an important component of many German SME acquisitions.

For the lender, a central issue is the ability of the financing structure to service interest and principal from available cash flows.

Historical financial performance provides an important starting point. The financing case also needs to reflect what happens after the acquisition.

Forecasts should capture the impact of earnings, working capital, capital expenditure, taxes and other cash requirements.

A profitable company can still consume significant cash through growth or investment.

Debt capacity therefore depends on the cash that remains available for debt service after these requirements have been taken into account.

The repayment profile also matters.

A loan requiring significant principal repayments immediately after closing creates a different liquidity profile from financing with a longer maturity or lower initial amortisation.

Acquisition debt needs to fit the economic development of the business.

The acquisition vehicle and the operating company need to work together

German business acquisitions are frequently structured through an acquisition vehicle or holding company.

This creates an important financing question.

The operating company generates the cash. The acquisition debt may sit at holding company level.

Cash generated by the target is not automatically available to the acquisition vehicle.

Dividends, intercompany loans and other transfers within the group must comply with applicable corporate law, tax rules and financing agreements. German capital maintenance rules, existing financing arrangements and lender covenants can restrict the movement of funds.

These cash flows therefore need to be considered when structuring the acquisition financing.

A strong EBITDA number alone does not establish how much acquisition debt can be serviced at holding company level.

The relevant amount is the cash that can actually be generated, retained where necessary and lawfully transferred through the structure.

Seller loans can bridge part of the funding requirement

A seller loan can finance part of the acquisition consideration, for example where the seller agrees to leave part of the purchase price outstanding as a loan. Its legal structure should be distinguished from a simple deferred purchase price payment.

This can provide meaningful flexibility within the financing structure.

The buyer needs less cash at closing. A senior lender may also take the seller loan into account when assessing the overall financing package, particularly where repayment of the seller loan is subordinated to the senior bank financing.

A seller loan does not automatically constitute equity.

Its economic and legal characteristics depend on the agreed terms. Maturity, interest, amortisation, ranking, security and termination rights determine how the instrument affects the financing structure.

Repayment timing is particularly important.

If senior bank debt and seller debt require substantial repayment at the same time, both compete for the cash generated by the business.

Seller financing therefore needs to be modelled together with all other debt obligations.

A seller loan and a seller rollover serve different purposes

Seller financing is sometimes discussed together with seller rollover equity. Economically, the two instruments have different consequences.

Under a seller loan, the seller remains a creditor.

Under a rollover, the seller remains or becomes a shareholder and continues to participate in the economic development of the business and potentially in a future exit.

Both structures can affect the amount of cash the buyer needs at closing.

Their economics are different.

A rollover requires analysis of ownership percentages, economic rights, dilution, governance and exit arrangements. A seller loan requires analysis of interest, maturity, repayment and ranking.

Buyers should therefore assess the two instruments separately.

German public financing programmes may form part of the structure

Public financing programmes can also be relevant to business acquisitions in Germany.

KfW currently offers financing programmes that can support qualifying business successions, acquisitions and investments.

Eligibility depends on the specific programme, the applicant, the target business and the transaction structure.

Public financing is therefore a potential component of an acquisition financing package rather than a substitute for a complete financing concept.

The current programme requirements should be reviewed for each individual transaction.

Acquisition financing needs to work after closing

A financing structure is sustainable when the business can continue to operate, invest and meet its financing obligations after the acquisition.

Once the transaction closes, interest and principal payments begin to compete with the company's other cash requirements.

Employees, suppliers, taxes, capital expenditure and growth all require liquidity.

Post-closing financial capacity is therefore part of the acquisition case itself.

A robust financing structure brings together the purchase price, the complete funding requirement and the future cash generation of the business.

Equity provides risk-bearing capital. Bank debt uses available debt service capacity. Seller financing can provide additional flexibility.

The appropriate combination depends on the specific business and transaction.

For an acquisition entrepreneur, the critical figure is ultimately the cash that remains available after closing to develop the business and service the acquisition financing reliably.

CLIQ advises buyers on the legal and tax structuring of business acquisitions, including the contractual implementation of seller loans and rollover equity.

Learn more about our:

M&A legal services

M&A advisory costs when buying a business

Post-Acquisition Accounting