Due Diligence as an Independent Sponsor

Independent sponsor dilemma and the capital gap explained

Let’s talk about the independent sponsor dilemma

You are navigating the capital gap

With independent sponsor deals, there are limited funding options

You are too big for an SBA 7A loan

You may be too small for traditional lenders and institutional private credit or private banks

There is constant capital assembly

Each transaction requires a search for new investors while also trying to originate and close the deal

Sometimes you are outmatched by larger funds

This middle gap is very challenging

Market survey: deal size, multiples, and sectors

Business services and industrials led the targeted sectors

The majority of transactions were:

• 10 to 20 million
• 20 to 50 million total enterprise value

Average multiples were roughly:

• four to six times

Understanding what other deal makers are seeing is helpful

There are trends that shift from year to year

Building SBIC capital relationships

You want to build capital relationships before you need them

Independent sponsors typically source capital from:

• SBIC
• private credit

These funds are relationship-based and selective

You need to establish yourself early in the process

You need to build confidence in the deal you bring to them

They will assess:

• quality of earnings
• revenue quality
• capital structure

What lenders and LPs require

Lenders and investors are very stringent before committing capital

They are going to look for:

• a third-party report
• verified earnings
• quality of earnings from a CPA firm

Without a third-party report, they will not entertain conversations

You need a full deal team:

• CPA firm
• attorney

Without independent analysis, you likely will not be able to raise funds

SBA vs SBIC underwriting differences

SBA 7A loans focus on tax returns

Independent sponsor deals focus on:

• financial systems
• accounting records

They rely on these systems for defendable IBIDA

Why quality of earnings is mandatory

Without a defendable quality of earnings, your deal will not close

This is not optional

It is the foundation of your capital stack

Lenders will not underwrite without adjusted IBIDA analysis

Deals with a quality of earnings closed at:

• 7.4 times earnings
• versus 7.0 without

Financial diligence priorities

You want to ensure your CPA firm is covering:

• EBITDA addbacks
• working capital PEG
• revenue concentration
• accrual basis financials

As businesses grow, they must be in line with GAAP

They must be presented on an accrual basis

Financial diligence is the foundation for raising capital

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