Small Business Lending – SBA Valuations

by | Accounting, Blog, Executive Development, General Business

Key Concepts for Valuing Businesses for U.S. Small Business Administration Loan Programs

“People don’t recognize opportunity because it looks like risk.” – Brad Lea

According to the Small Business Administration (“SBA”), in the United States, there are over 31 million small businesses. This number accounts for approximately 99.9% of all businesses in the United States, and it has been growing steadily year-over-year.

Generally, the SBA defines a small business as an enterprise that employs fewer than 500 employees. In 2019, according to, the SBA loan volume had reached more than $28 billion nationwide, with SBA 7(a) lending program accounting for over 50,000 loans.

In 2020 small businesses throughout the country have struggled. However, many showed incredible resiliency and the ability to pivot and adapt their operations to the new environment. According to an article posted in Business News Daily, “Capital One recently surveyed small business owners and found that 67% expressed confidence that their businesses will return to pre-pandemic operations and revenue in 2021.” In light of the recent pandemic, shopping local and supporting small businesses has never been more essential. The current economic reports show mixed results; however, as the economy revives and “baby boomers” – business owners – continue to retire and sell their businesses, the need for small business financing options will continue to rise. The SBA loan programs such as SBA 7(a), microloans, or 504/CDC represent attractive options for business owners to access funding. For example, through the SBA 7(a) loan program, a business owner can borrow up to $5 million and use the loan proceeds to purchase a business (i.e., acquisition/ change in ownership) or fund working capital needs. There are hundreds of lenders in the United States, including traditional banking institutions and intermediary financial enterprises. Each participating institution initiates and services the loan to a small business. However, the SBA guarantees a portion of the loan if a borrower defaults on its obligation.

The SBA issues Standard Operating Procedures (SOP 50 10 6), the latest version dated: effective October 1, 2020, guides SBA’s lending policies and procedures. Not all businesses are eligible to apply for the SBA funding programs; some ineligible enterprises include but are not limited to the following: any business engaged in lending such as banking institutions, life insurance companies, investment companies, etc. Other ineligible businesses include apartment buildings, mobile parks, businesses selling through a pyramid-structure or multi-level distribution network channels, businesses that derive revenue from marijuana-related activities or companies engaged in political or lobbying activities, or speculation. Please note this list is not all-inclusive.

One of the SBA lending program requirements is third- and independent-party valuations from a qualified source are required if there is a change of ownership (i.e., business acquisition). This also includes if there is a close relationship between family members or existing partners (partnership buyout). Business valuation requirements apply to both special-purpose properties and non-special purpose properties. SBA defines a ‘special purpose property’ as the property with limited, i.e., specific market use, construction, and layout, such as an amusement park, a swimming pool, a golf course, a winery, a tennis court, etc. All valuation engagements performed for the SBA loan financing purposes must adhere to the SBA SOP’s guidelines. According to the SBA SOP, Chapter 4 (p. 362), Section IV: “non-special purpose properties – if the amount being financed (including any 7(a), 504, seller, or other financings) minus the appraised value of the real estate and/or equipment being financed is $250,000 or less, the lender may perform its own valuation of the business being sold. If the amount being financed (including any 7(a), 504, seller, or other financings) minus the appraised value of the real estate and/or equipment is greater than $250,000 or if there is a close relationship between the buyer and seller (for example, transactions between existing owners or family members), the lender must obtain an independent business valuation from a qualified source.”

The SBA defines a qualified source (p. 534) with respect to business valuations, as a professional who specializes in performing business valuations regularly and receives compensation for their services, and is accredited by at least one of the following organizations:

Accredited Senior Appraiser (ASA) accredited through the American Society of Appraisers;

Accredited in Business Valuation (ABV) accredited through the American Institute of Certified Public Accountants;

Certified Valuation Analyst (CVA) accredited through the National Association of Certified Valuators and Analysts; and

Business Certified Appraiser (BCA) accredited through the International Society of Business Appraisers.

When it comes to valuing ‘special-purpose properties’ and their entities, such as amusement parks, bowling alleys, golf courses, farms, hospitals, theatres, swimming pools, gas stations, or any other property that has a unique physical design, special construction, or a limited-market use and layout, a certified general real property appraiser must allocate the value of the business to its individual components of the transaction including land, building, equipment, and intangible assets (a simplified version of the PPA analysis). Per the SBA SOP, the subject company’s intangible assets’ value equals fair market value less working capital and fixed assets (pp. 235-236 of the SOP). In addition, the valuation report has to comply with the Uniform Standards of Professional Appraisal Practice (USPAP). According to the SBA SOP, “the certified general real property appraiser must have completed no less than four going concern appraisals of equivalent special use property as the property being appraised, within the last 36 months, as identified in the qualifications portion of the appraisal report” (p. 363 of the SOP).

Similar to buying a house, the lender orders a business valuation to assess whether an independent and qualified appraisal supports the purchase price or the seller’s asking price. The lender facilitates the valuation process and provides the company’s historical financial information, purchase agreement, letter of intent (LOI), terms of the deal, responses to the qualitative questionnaire, and the lender is responsible for paying the valuation fee. Based on SOP’s guidelines, the lender may not accept a valuation report prepared independently for the loan applicant (the buyer) or the seller. A business valuation must specify whether the deal is structured as an asset or a stock purchase and if any debt is assumed. The valuation report must ultimately state the appraiser’s conclusion of value, present the appraiser’s qualifications and credentials discussed above and have his or her signature.

A valuation analyst typically assumes a going concern premise of value and fair market value (FMV) as the standard of value. The appraisal subject’s historical earning, usually, three years represents the most credible course of financial information for SBA loan financing purposes. Consequently, the use of the forecasted earnings is discouraged due to its potentially speculative nature unless reviewed, vetted, and approved by the lender. The capitalization of earnings technique under the income approach is the preferred methodology, along with the guideline merged and acquired company method, under the market approach. Similar to other valuation engagements, a valuation analyst must review the subject company’s historical financial statements and make the appropriate normalization adjustments, thereby removing any discretionary, non-recurring, or personal charges. Typical add-backs and adjustments include owner’s compensation, travel, meals and entertainment, use of a cellphone or an automobile. Any unrelated revenue streams are adjusted off as well. The qualitative questionnaire and the interviews with the seller(s) provide additional insights into business operations, financial strength, growth prospects, and risk factors associated with the appraisal subject. If the valuation analyst is using the market approach, several factors including but not limited to the following should be analyzed to determine if any adjustments to the market multiples would be warranted: owner’s involvement, financial strength, customer concentration, size of the company/ revenues, growth prospects, brand recognition, management depth, employee relations, quality of clients, product mix, etc. Also, as part of the due diligence process, a thorough valuation analysis should include an economic outlook overview and industry considerations in which the subject company operates, along with the financial ratio analysis. More importantly, the report should discuss how the economic and industry factors impact the subject company and its discount rate and growth rate assumptions.

The purpose of the SBA business valuation assignment is to assess whether the value of the business supports the purchase price. In partnership buyout scenarios, where the subject of appraisal is less than 100% interest, for SBA valuation purposes, valuation adjustments (i.e., discounts) typically do not apply. For the latest guidance, valuation professionals specializing in providing SBA-related valuation services must follow and be aware of ever-changing SBA SOP guidelines as they relate to business acquisition transactions. The quote referenced at the beginning of this article states, “People don’t recognize opportunity because it looks like risk.” – Brad Lea (Entrepreneur and CEO of LightSpeed VT); as business valuation professionals, we know very well that a certain level of risk accompanies business opportunities and prospects of growth. SBA works with small businesses throughout the country, which are subject to greater risk; however, where risk is found, there is also an opportunity to make an impact, to empower businesses and growth. The rising volumes of SBA loans throughout the country present an ample opportunity to valuation professionals. This is a competitive area, with many firms specializing and offering this type of service, often at lower rates than other types of engagements. However, the SBA valuation engagements are discussed with less rigor among our community members even though, every year, thousands of small business owners depend on our opinion of value. The National Association of Government Guaranteed Lenders (NAGGL serves to support the lending institutions. As valuation professionals, I believe we can provide valuable insights, share and promote best valuation practices to help the lenders and small businesses around the country survive, grow, and thrive.

Resource: SBA Lender and Development Company Loan Programs: SOP 50 10 5 (K) will be replaced by SOP 50 10 6 (dated: effective October 1, 2020)


Written By: Nataliya Kalava

Ms. Kalava is the founder and president of American Valuations. Nataliya has over ten years of experience in the field of finance.