How to Choose the Optimal Acquisition Financing Model for Your Transaction?

Acquisitions and mergers are among the most important strategic decisions in the world of corporate finance. Choosing the right acquisition financing model can determine the success of the entire acquisition deal, impacting cash flow, profit margins, and growth opportunities for the acquired business.

A well-chosen financing structure helps the acquiring company effectively implement its business strategy, maintain financial health, and utilise available funding solutions. Read on to learn more.

1. What are the main types of acquisition financing?
2. Is debt financing more profitable than equity financing?
3. What alternatives, such as leveraged buyouts or seller financing, might be beneficial?

In this article, we discuss the most important options related to financing and acquisition, point out their advantages and risks, and explain when it is worth considering stock swaps, bank loans, or private equity.

Main Types of Acquisition Financing

The first step in choosing an acquisition financing model is understanding the available options. Debt financing is based on bank loans, bonds, or high-yield bonds, where lenders expect a return of capital with interest. Equity financing, on the other hand, involves obtaining funds from institutional investors or through issuing bonds, stock swaps, and selling shares.

Hybrid funding solutions also exist, such as combining debt with financial sponsors. The right choice depends on financial analysis, the strength of the balance sheet, and the target company’s working capital.

Debt vs Equity: Which is More Profitable?

Debt financing can be cost-effective if the acquiring company has a strong balance sheet and stable cash flow, which reduces the risk of higher interest rates and additional fees. However, banks generally require collateral, such as assets or intellectual property.

Equity financing offers greater flexibility because it does not generate interest costs but involves the transfer of a portion of the shares to a separate entity. In practice, many companies opt for a mixed model to optimise their capital structure and adapt it to their scale-up plans.

Alternatives: Leveraged Buyouts, Owner Financing and Seller Financing

In large transactions, especially when the parent company wants to acquire a thriving target business, a leveraged buyout (LBO) is a popular solution. In this model, a fund or private equity firm finances the purchase primarily with debt, with repayment coming from the acquired business’ future cash flows.

An alternative is owner financing or seller financing, where the seller itself provides the buyer with a loan for the purchase. This solution can be quick and less expensive than a bank offer, but requires trust and thorough due diligence. Stock swaps are also increasingly used, allowing for minimising the cash used in the acquisition.

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