In recent years, the entrepreneurship through acquisition (ETA) movement has gained significant momentum, transforming how many businesses change hands. At the center of this movement are search funders — individuals or groups pooling resources to acquire established businesses, often leveraging SBA loans to make these purchases possible. But what does this trend mean for traditional SBA lending, and how should business development officers (BDOs) navigate this evolving landscape?
Understanding Search Funders and the ETA Movement
Search funders represent a growing segment of business buyers who approach acquisitions with a specific methodology. Rather than starting businesses from scratch, they seek to acquire existing operations with proven track records. The search fund model comes in two primary varieties:
Traditional Search Funds
In this approach, a group of investors pools their money to support an entrepreneur (the “searcher”) who will locate, acquire, and operate a business. The investors typically form a board and hold equity positions in the acquired company.
Self-Funded Search
This model involves an individual sponsor who uses their own resources, often supplemented with SBA financing, to acquire a business. While similar to traditional business buyers, self-funded searchers often brand themselves differently to distinguish their approach from the traditional search fund model.
As one industry expert explains, “Search funders can be an individual or a group of individuals that are getting together to pull their resources, their talents, their resources monetarily or just intellectually to be able to acquire businesses.” The movement has flourished through social media and technology, creating communities of like-minded individuals collaborating across geographical boundaries.
The Appeal of Search Funders in SBA Lending
From a lender’s perspective, search funders offer several attractive qualities:
1. Larger Loan Sizes
Search funders typically target larger acquisitions — often in the $3-5 million range — which makes them appealing to lenders looking to hit volume goals efficiently. As one lender notes, “If we’re talking to banks, it’s simply because of the loan size… typically search funders are looking for the largest acquisition they can afford.”
2. Sophisticated Borrowers
Search funders generally understand the lending process well. They’re familiar with financial documentation requirements and speak the language of banking, which streamlines the loan process. “If you’re a lender, a search funder deal can honestly be one of your easier loans to get done just because they are very sophisticated borrowers,” one expert explains.
3. Addressing the Silver Tsunami
With baby boomers retiring in record numbers, someone needs to buy their businesses. Search funders help address this “silver tsunami” by providing a path for business succession outside of family transitions. This serves an important economic function when children of business owners aren’t interested in taking over.
Potential Concerns and Criticisms
Despite these benefits, search funders have attracted some criticism within SBA lending circles:
1. Alignment with Program Spirit
Some lenders question whether certain search fund deals align with the SBA’s mission to promote access to capital for those who truly need it. One lender expresses concern: “The program of SBA is designed to promote access to capital, and I just don’t think a lot of the search funder deals that I see are just they don’t align with the spirit of the program.”
2. Experience and Balance Sheet Limitations
Many search funders are young professionals with strong educational backgrounds but limited industry experience and personal financial resources. “A lot of times it’s a super young individual, they don’t have a lot of life experience, they don’t have a super deep balance sheet, they’re probably light in liquidity, they’re light in assets, they’re light in experience in the industry,” observes one lender.
3. Personal Guarantee Considerations
When investor groups back a searcher but only the searcher signs the personal guarantee, some lenders question whether this arrangement properly aligns incentives. “That guarantor who lacks the experience and liquidity, they have access to capital but that person just doesn’t want to put their capital up,” notes a critic of some search fund structures.
4. PE-Like Behavior
Some lenders worry that search funds can function similarly to private equity firms, potentially using the SBA program to create roll-ups of multiple businesses under holding companies. This could potentially shift the program away from its focus on individual small business owners.
Best Practices for BDOs Working with Search Funders
For BDOs evaluating search fund deals, experienced lenders recommend several best practices:
1. Know Your Customer
Building relationships and thoroughly understanding the searcher’s background remains fundamental. “Know your customer and build relationships. The more you know about your customer, the less likely it is for you to get sucked into something that’s going to cause fraud,” advises one veteran lender.
2. Read the Documents Carefully
Purchase agreements and letters of intent deserve particularly close scrutiny. One lender shares a story of uncovering a situation where investors were charging assignment fees that effectively recouped their down payment — a practice that would violate SBA guidelines.
3. Focus on Transferable Experience
The most promising search funders bring genuine, applicable experience to their acquisitions. Look for “people that in the past have managed budgets, people, or operations in a real capacity,” recommends one lender.
4. Evaluate Liquidity and Skin in the Game
Strong deals typically feature searchers who have committed their own capital alongside investor funds. This demonstrates alignment between the guarantor and the success of the business.
5. Apply Standard Underwriting Principles
Despite the unique aspects of search fund deals, they should be evaluated using standard credit principles: “Transferable experience, liquidity, the performance of the target business… we’re evaluating it just like every loan, right? Sustainability of the business and propensity to pay.”
The Future of Search Funders in SBA Lending
The impact of search funders on SBA lending remains an evolving story. While performance data is still developing (most experts estimate we’re about 5-6 years into this trend), many believe we need a full 10-year cycle to truly evaluate the success of these deals.
Some lenders are concerned that if search funds push boundaries too far, regulatory reaction could follow: “I can see in the future the SBA catching wind, figuring this out and saying, ‘Uh oh, now we got to stop.'” This could potentially lead to program changes that affect all borrowers.
Others take a more optimistic view, focusing on how search funders help facilitate necessary business transitions while bringing fresh energy and ideas to established operations. As one lender puts it, “statistically buying an existing business that’s already been operational… is significantly less risky than starting a business up.”
Conclusion: Finding Balance
The search fund phenomenon represents both opportunity and challenge for the SBA lending community. While these deals can be attractive from a volume perspective and fill an important role in business succession, lenders must carefully evaluate whether individual deals align with both credit standards and program intent.
The most successful approach appears to be one of thoughtful discernment rather than categorical acceptance or rejection. As one lender summarizes, “Not every SBA lender is created equal, not every search funder is created equal as well.”
For BDOs navigating this space, the fundamentals remain unchanged: know your customer, understand the business being acquired, verify that experience transfers appropriately, ensure adequate liquidity, and focus on long-term sustainability. By applying these principles consistently, lenders can identify the search fund deals that represent solid opportunities while avoiding those that push beyond acceptable boundaries.
As the ETA movement continues to evolve, maintaining this balance will be essential to preserving the integrity of the SBA program while facilitating beneficial business transitions that keep the economy moving forward.
This article is based on insights from experienced SBA lenders discussing the impact of search funders on SBA lending. The views expressed represent various perspectives within the industry and should not be considered financial or lending advice. Always consult with qualified professionals regarding specific lending situations.
