Even experienced 504 lenders come across situations they haven’t dealt with before. Like this question that came in the other day:

 Joe Lender. Richard, we have a 504 loan request from a lender who financed other 504 loans before he moved to our area. But it’s for a stock purchase. I told him we can finance only land, building and equipment, but he tells us he has financed tons of stock purchases. We want to do business with him. Can we do a 504 for a stock purchase?

 Me. Short answer: Yes, 504 loans can be used to purchase stock or membership interests in an LLC. So if you think 504 loans involve only land, building, machinery and equipment, you’re cutting yourself off from a good source of business.

 The SOP Says …
SBA’s requirements for using 504 loans for stock purchases are on page 322 of the SOP. Stock purchases are eligible IF AND ONLY IF the only assets in the business being acquired are 504- eligible assets. (SOP 50 10 5 K, Subpart C, IV. K.)

In practice, financing a stock purchase is easier than it sounds: The seller will probably take the cash and the ARs and expect to be paid for goodwill. What to do with the inventory will be something to negotiate in the sale. But you would expect that with any business purchase. Whatever is done with the inventory, it must be gone completely, entirely, totally from the targeted business before the 504 funds. Get the picture?

How it Works in Real Life …
The LOI says the stock purchase is $2 million. Your project cost is limited to the value of the 504-eligible assets.  If they are not worth $2 million. the difference will have to be financed separately and their total value must be de minimis compared to the value of the eligible assets. Finally, the principal of the targeted industry must depart entirely from the entity. The rupture must be complete, i.e., no seller carry.

So let’s say the appraisal on the fixed assets comes in at $1.7 million. That is your eligible project cost and you use it for structuring your financing 50-35-15. (It’s a Change of Ownership so likely the borrower has to contribute 15%) That leaves $300,000 to be paid, but not with the proceeds of the 504 and NOT BY SELLER CARRY. Whoever is financing the difference needs to provide an LOI saying they will finance it

 And What Else?
You’ll need many more documents to effect this deal: There should be a Stock Purchase Agreement that defines the purchase price and what would happen if the fixed assets don’t have enough value. The Agreement should also state that any interest in the targeted business will be fully divested by the seller after the sale. Finally, what to do about the purchase of assets that are not 504 eligible?  You’ll need to straighten this out before submitting to SBA.

Joe, this shouldn’t be hard. Others do it and so can you. But let me know if you need help with this. I’m here.

Richard Jeffrey
Senior Associate, CDC/504 Programs