Bridging the Gap: A Loan Officer’s Guide to Purchase Price vs. Opinion of ValuePlaying for the Team
While not a common thing, as a loan officer, you’ve seen it happen: a motivated buyer and a ready seller bring you a signed Letter of Intent (LOI) with a $2M price tag, only for the independent appraisal (SBA or Conventional) to come back at $1.7M.
This “valuation gap” can stall a deal or kill it entirely if not managed correctly. Understanding why these numbers diverge allows you to manage client expectations early and keep the underwriting process moving.
Why the “Agreed Price” Rarely Matches the “Appraised Value”
The purchase price is often a reflection of sentiment and strategy, while the business valuation is a reflection of market data and risk mitigation. Fair Market value business valuation is what “should” be. Negotiation is closer to what it actually is.
Here is where the confusion typically starts:
Arm’s Length vs. Negotiated Pricing
- The Buyer’s View: They may be paying a premium for “strategic fit”—perhaps the acquisition eliminates a competitor or provides a specific geographic footprint.
- The SBA and Bank View: Appraisers must seek the “Fair Market Value” via an arm’s length standard. They look for what a typical buyer would pay, not what a specific buyer is willing to overpay for.
The Complexity of Earnouts and Seller Financing
- Deal Structure: Sellers often inflate the purchase price in exchange for carrying a note (seller financing) or accepting an earnout.
- The Valuation Reality: SBA-approved appraisers generally value the business based on historical cash flows. The SBA discourages the use of forecasts. Larger businesses may use forecasts, but they usually must restrict growth to proven levels. They are often skeptical of “pro-forma” valuations based on future earnouts that haven’t happened yet. If the price is high because the seller is “betting on the future,” the appraisal likely won’t follow suit.
The “Goodwill” Hurdle
- Intangible Assets: Buyers often justify a high price based on brand equity or “blue sky.”
- Scrutiny: While the SBA and Bank Policy allow for goodwill, the appraisal must tie that value to verifiable cash flow. If the “blue sky” isn’t supported by the last two or three years of tax returns, the appraiser may have to haircut that value, leaving a gap that the buyer must cover with additional equity
Understanding “Overpayment Risk”
From a credit perspective, the SBA views a price-to-value gap as a primary indicator of Default Risk.
- Debt Service Coverage Ratio (DSCR): If a buyer overpays, they are effectively taking on more debt than the business’s historical earnings can comfortably support.
- Collateral Shortfall: Since SBA loans are often under-collateralized by hard assets, the business valuation is the primary “security.” Overpaying means the bank is financing “air” that may not exist if the bank has to liquidate the business in two years.
Why the Valuation is a Tool, Not a Roadblock
When a valuation comes in low, it’s not just a compliance checkbox—it’s a protection mechanism for the bank, the SBA, and the borrower.
When you encounter a valuation gap, use it as a pivot point for a “Value Conversation.” Whether it requires a price reduction, a larger down payment from the buyer, or a larger seller carry-back, the bank-required business valuation ensures the deal is built on a foundation of math rather than just optimism.
