Deal Terms You Can Expect

2misi.com

When it comes to selling a business, there are a number of scenarios that you may encounter that involve far more than just the purchase price. You may also come across terms that are new to you. The good news is that despite the number of possibilities, they are all fairly "standard". There are really three main areas that you want to be aware of prior to selling the business:

Purchase Price/Valuation

As you can probably imagine, the value that you have for the business will likely differ from the buyer's assessment. The first thing to understand as a seller is that whatever you think the business is "worth" is not necessarily the "value". You have an emotional investment in the entity. Your years of hard work are tied to it and so naturally, to you, that is "worth" quite a bit.

However, a buyer will initially look at the business strictly from a logical perspective and will determine a value based upon the provable historical financial data, industry comparables, asset values, and return on investment, etc. As you can see the spheres of logic and emotion are operating independently.

The objective of course is to get the two perspectives to intermingle; meaning that you the seller need to understand what is logically a proper value for the business, and the buyer may need to lessen their rigidity and look to some of the benefits of owning the business and thereby be willing to pay a reasonable premium for a solid business they can grow.

All This is Easier Said Than Done!

If you do not have experience in business valuations, then you clearly want to engage competent professionals
to do so. You can have a formal valuation done, but those usually only apply in larger sales plus, they do not
always reflect the real world. Nevertheless, they can be an excellent learning tool and basis from which to begin.
Your accountant can assist you, however they generally place too much emphasis on the Balance Sheet for
valuations whereas a small business buyer is looking for income and therefore will pay more attention to the Profit & Loss Statements (P & Ls). A business supervisor will generally utilize a more simplistic approach and may over emphasize what it will take to sell the business quickly. However, any good supervisor will likely provide you with a much more realistic valuation based upon the general market versus other sources. It does behoove you nevertheless, to consider having a valuation done from all perspectives since valuations are an art, not a science and with a range of opinions you will be in a much better position to deal with the buyer and your expectations will likely be at the right level.

Above all, the market will dictate the valuation of your business so if you overprice it, after going through an extended period of no offers or "low balls", you will begin to see what the market will bear. If you're way off, you may need to adjust your thinking.

Financial Terms

There are three basic possibilities for the actual deal terms: all cash, seller financing, third party financing

All Cash

Although the concept that a potential buyer will write you a big, fat check for your selling price is enticing; it's highly unlikely. All cash deals only happen in a small percentage of small business sales and the seller will usually have to take a "haircut" of 15 to 25 percent off their selling price. While these deals do happen, it is not common. 

Seller Financing

You undoubtedly have to make a decision about financing part of the purchase. This is not usually too attractive for a business owner. The main fear is you will not get your money, and that can happen. However; seller financing does represent the majority of deal terms and by offering it you can absolutely obtain a better purchase price from the buyer.

The amount of seller financing averages around thirty to fifty percent of the purchase price with the percentage declining as deals get larger. In other words, the smaller the sale price the greater the amount of seller participation usually. This makes perfect sense since the margin of error and risk in
the buyer's eyes increases for a smaller business.

 
Third Party Financing

I don't know about you but I get an onslaught of solicitations from my own bank about all of their "fantastic" programs that can help small businesses. The big banks have done a wonderful job of marketing and conveying the impression that their vaults are wide open for entrepreneurs. As you know, that is definitely not the case. The problem is that most business buyers don't know it; but they'll learn quickly.

 
Performance Clauses and Earnouts

In some transactions, part of the purchase price may be tied to the business' future performance. This generally happens when:

• The business has experienced a recent surge in revenue/profitability and the buyer wants to be certain it is sustainable
• The business has recently landed a significant future contract and the seller wants to receive the benefits of it in the purchase price.
• There is a large percentage of the company's revenue tied to a very limited number of clients. Should any of them no longer remain a client after the sale, it can significantly impact the business
• The business has been in decline but measures have been taken to get the business back on track.
• If you tie the purchase price to future performance is a way to deal with all of these situations however; the conditions can be cumbersome unless there is very detailed and specific language to measure the results. 

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