December 13, 2022
By Nicholas P. Flint
The Small Business Investment Company Program (SBIC) is a tool for private investment fund managers—typically private equity firms—to obtain financing through the U.S. Small Business Administration (SBA) for investments in small businesses located in the United States. The SBIC Program was designed to increase the flow of investments in these small businesses by providing fund managers with favorable interest rates as compared to other lending sources. Given today’s climbing interest rates, we will likely see more private equity firms gravitate toward the SBIC Program, and in turn, more deals being closed with government-backed funds.
The SBIC Program was created through the enactment of the Small Business Investment Act of 1958 and is administered by the SBA. Loans made under the SBIC Program typically carry longer financing terms (similar to other SBA loans) and interest rates that are often lower than those available from other conventional lenders—all guaranteed by the U.S. Government. This allows private equity to invest more into companies than would otherwise be possible using private funds or funds borrowed from a more traditional lender.
Of course, as with any other program involving government-backed funds, there are hoops to jump through and “catches” along the way. First and foremost, private equity firms must obtain an SBIC license from the SBA, which comes after a rigorous application and vetting process that includes background checks on the fund’s principals and a series of hefty licensing fees. Next, the SBIC fund must be comprised of a certain minimum level of private capital, which may need to be raised by the private equity firm (and if so, is subject to additional fundraising requirements). SBIC funds may only invest in qualifying small businesses, typically companies with less than $20 million in net worth and $6 million in net profits. Finally, SBIC funds are subject to the SBA’s oversight, regular audits, and reporting requirements.
What does all of this mean for business owners potentially looking to sell their companies and to the M&A industry as a whole? As we face rising interest rates and the unknowns associated with an economic recession, institutional lenders will continue to tighten their lending practices and potential acquirers will be hesitant to borrow money at such high rates, even if they qualify. This inherently will slow down deal volume, at least with respect to buyers who are not flush with cash or who typically rely on external funding for their deals—i.e. private equity. In contrast, “strategic” buyers (companies already in the industry acquiring businesses for added synergies or to eliminate competition) do not typically rely on third party financing, meaning the deal market for strategic acquisitions should remain relatively steady. However, for those private equity buyers who don’t mind the red tape and governmental oversight, the SBIC Program provides an attractive alternative funding source that could become more prevalent in the deal market going forward.
Nicholas Flint is an associate attorney with Flint, Connolly & Walker, LLP who represents domestic and international clients on a variety of corporate and transactional matters, including mergers and acquisitions, joint ventures, private equity and venture capital transactions, financing and lending arrangements, and debt and equity offerings. In addition, Mr. Flint serves as a general business and legal advisor to his clients, counseling on matters such as corporate governance, executive compensation, regulatory compliance, and commercial contracts.