Selling a Business

The closing is the formal transfer of a business. It usually also represents the successful culmination of many months of hard work, extensive negotiations, lots of give and take, and ultimately a satisfactory meeting of the minds.  The document governing the closing is the Purchase and Sale Agreement.  It generally covers the following:

• A description of the transaction – Is it a stock or asset sale?

• Terms of the agreement – This covers the price and terms and how it is to be paid.  It should also include the status of any management that will remain with the business.

• Representations and Warranties – These are usually negotiated after the Letter of Intent is agreed upon.  Both buyer and seller want protection from any misrepresentations.  The warranties provide assurances that everything is as represented.

•  Conditions and Covenants – These include non-competes and agreements to do or not to do certain things.

There are four key steps that must be undertaken before the sale of a business can close:

1. The seller must show satisfactory evidence that he or she has the legal right to act on behalf of the selling company and the legal authority to sell the business.

2. The buyer’s representatives must have completed the due diligence process, and claims and representations made by the seller must have been substantiated.

3. The necessary financing must have been secured, and the proper paperwork and appropriate liens must be in place so funds can be released.

4. All representations and warranties must be in place, with remedies made available to the buyer in case of seller’s breech.

There are two major elements of the closing that take place simultaneously:

• Corporate Closing: The actual transfer of the corporate stock or assets based on the provisions of the Purchase and Sale Agreement.  Stockholder approvals are in, litigation and environmental issues satisfied, representations and warranties signed, leases transferred, employee and board member resignations, etc. completed, and necessary covenants and conditions performed.  In other words, all of the paperwork outlined in the Purchase and Sale Agreement has been completed.

• Financial Closing: The paperwork and legal documentation necessary to provide funding has been executed. Once all of the conditions of funding have been met, titles and assets are transferred to the purchaser, and the funds delivered to the seller.

It is best if a pre-closing is held a week or so prior to the actual closing.  Documents can be reviewed and agreed upon, loose ends tied up, and any open matters closed.  By doing a pre-closing, the actual closing becomes a mere formality, rather than requiring more negotiation and discussion.

The closing is not a time to cut costs – or corners.  Since mistakes can be very expensive, both sides require expert advice.  Hopefully, both sides are in complete agreement and any disagreements were resolved at the pre-closing meeting.  A closing should be a time for celebration!

Another important factor relating to the asking price is the amount of cash involved in the sale. There is an old saying that the higher the full-price, the lower the down payment – and vice-versa. The sale of almost any business involves some seller financing. The smaller the down payment, the higher likelihood of a quick sale. No seller wants to take back his or her business because the buyer wasn’t successful. On the other hand, a buyer wants to make sure that the business will not only pay for itself, but also provide sufficient income for his or her family’s needs.

What it all boils down to is that the seller wants the buyer to be successful and the buyer wants to buy a successful business. With the amount of capital required in today’s market to buy a business, sellers should feel optimistic that they are dealing with successful buyers.

A Valuable Service

Screening and qualifying buyer prospects is perhaps the business broker’s most valuable service. Business brokerage industry statistics indicate that over 90 percent of buyer prospects who call on business-for-sale ads are unqualified for some reason. The successful business broker survives by mastering qualifying and screening techniques!

Maintaining Confidentiality

Confidentiality is always a major concern. Sellers feel that maintaining confidentiality is important in safeguarding the current business. They don’t want the word to leak out to customers, suppliers, competitors – and especially the employees. This is an area where a business broker professional can be especially helpful. They use non-specific descriptions, screen and qualify buyers and require buyers to sign confidentiality agreements before showing businesses or providing specific information.

However, even under the best of circumstances, rumors can fly. There are basically two ways sellers can muffle the business-for-sale problem. The first is to explain that over the years there have been people who have inquired about whether the business might be for sale. These inquiries are unavoidable and they do happen.

The other way is to handle the matter directly and to explain that you have been considering retiring and now may be the right time. The employees, especially the key ones, should be told prior to putting the business on the market so they don’t hear the rumors second-hand. They should be told that they are very important to the business’s success and that a new owner would most likely be happy to retain them. When the sale is complete, they can be offered a bonus for helping in the process. Sellers should do whatever it takes to keep the employees from deserting the ship and keep them on deck to maintain business as usual. Once employees have been dealt with openly and fairly, they will understand that discretion will help protect their future.

The Future of the Business

Sellers may feel that they have built the platform for the future growth of the business. It is only natural for them to want to share in any extraordinary profits in what they feel they have helped create. Sometimes, if the price is low enough and it allows a buyer to purchase the business, he or she may be willing to provide some type of earn-out or royalty based on any substantial increase in sales. The professional business broker can offer advice on how to make this work for everyone. However, everyone has to agree that no one can predict the future. As mentioned earlier, the buyer is hoping to buy the future, but is not willing to pay for it.

What Buyers Think

Many buyers think that the business they buy should be able to pay for itself. They are wary of sellers who demand all cash. Is the seller really saying that the business can’t support any debt, or is he or she saying that the business isn’t any good and I want my cash out of it now, just in case?

Many business owners would like to receive all-cash for their business when selling. And yet they are often told that this is really not possible. Why? Most people are accustomed to financing just about everything – home, car, vacation home, even college for their children. The first question business brokers are often asked is, “How much money will I have to invest to buy that business?”

Seller financing is usually necessary because of the lack of outside financing available. Certainly, some is available, but less than 90 percent of small business sales receive outside financing when selling. If you are selling, you may be one of the few lucky ones, but the business better be absolutely perfect.

If a seller is not willing to finance the sale, many buyers suspect a problem. After all, a business should be able to pay for itself and provide a reasonable income for a buyer. A buyer then wants to know what is wrong with the business that the seller wants all cash?

Aside from this, even if a buyer has all of the necessary funds, he or she may want to spend their money on improving the business, adding equipment, building inventory, or just keep it for working capital.

Another similar issue that is raised by sellers is that, if they are willing to finance the sale, they want some outside collateral to secure the loan on their business. They want to make sure that they get all of their money – with no risk. Buyers are very sensitive about this issue. Again, they raise the point about the business being able to pay for itself. They may feel that the seller wants additional security because of concerns about the business’s ability to generate a reasonable profit. This is not a reassuring signal to the buyer. Most buyers are already using most of their capital for the down payment, and they generally are very reluctant about using their home or retirement funds for additional collateral.

The services of a business broker professional can usually provide guidance in the overall financing process. And financing is often the key to the successful selling of a business.

Structuring the purchase of a business is an issue that should be faced early in the selling decision. Ultimately, the final structure of the sale will be determined by actual negotiations between buyer and seller, but the seller must still answer the following questions:

• What is the lowest amount of cash acceptable from the sale?
• Has consideration been given to paying off all unsecured creditors and a portion of the closing costs? (Both are, in most cases, the seller’s responsibility.)
• Is there any long-term or secured debt that can be assumed by the buyer? (This may make more cash available to the seller.)
• What is an acceptable interest rate for the seller-financed sale?
• Will the business be able to service the debt and still provide a return acceptable to a buyer in relation to the down payment required? (This is a particularly important question for the seller to address.)
• What are the tax consequences of the sale?

Recent studies indicate that the more favorable the terms, the higher the price. In fact, one study found that offering favorable terms might increase the total selling price by 30 percent. A business broker professional can advise you on the all-important issue of seller financing.

The professional business broker is a good source for assistance in structuring the sale of a business. Although they are not able to provide legal advice, business brokers are the experts of preference when the arena is the business marketplace. Brokers will use their knowledge of previous sales, current market conditions, and outside financing strategies, if applicable or available.

A business generally represents a seller’s largest financial asset. How the sale is structured may mean the difference between the success or failure of the transaction. The best sale structuring will result in the best deal possible for both buyer and seller. A business broker can be the key player in accomplishing this goal.

When contemplating the sale of a business, an important option to consider is seller financing. Many potential buyers don’t have the necessary capital or lender resources to pay cash. Even if they do, they are often reluctant to put such a hefty sum of cash into what, for them, is a new and untried venture.

Why the hesitation? The typical buyer feels that, if the business is really all that it’s “advertised” to be, it should pay for itself. Buyers often interpret the seller’s insistence on all cash as a lack of confidence–in the business, in the buyer’s chances to succeed, or both.

The buyer’s interpretation has some basis in fact. The primary reason sellers shy away from offering terms is their fear that the buyer will be unsuccessful. If the buyer should cease payments–for any reason–the seller would be forced either to take back the business or forfeit the balance of the note.

The seller who operates under the influence of this fear should take a hard look at the upside of seller financing. Statistics show that sellers receive a significantly higher purchase price if they decide to accept terms. On average, a seller who sells for all cash receives approximately 70 percent of the asking price. This adds up to approximately 16 percent difference on a business listed for $150,000, meaning that the seller who is willing to accept terms will receive approximately $24,000 more than the seller who is asking for all cash.

Even with these compelling reasons to accept terms, sellers may still be reluctant. Selling a business can be perceived as a once-in-a-lifetime opportunity to hit the cash jackpot. Therefore, it is important to note that seller financing has advantages that, in many instances, far outweigh the immediate satisfaction of cash-in-hand.

•  Seller financing greatly increases the chances that the business will sell.
• The seller offering terms will command a much higher price.
• The interest on a seller-financed deal will add significantly to the actual selling price. (For example, a seller carry-back note at eight percent carried over nine years will double the amount carried. Over a nine-year period, $100,000 at eight percent will result in the seller receiving $200,000.)
• With interest rates currently the lowest in years, sellers can get a much higher rate from a buyer than they can get from any financial institution.
• The tax consequences of accepting terms can be much more advantageous than those of an all-cash sale.
• Financing the sale helps assure the success of both the sale and the business, since the buyer will perceive the offer of terms as a vote of confidence.

Obviously, there are no guarantees that the buyer will be sucessful in operating the business. However, it is well to note that, in most transactions, buyers are putting a substantial amount of personal cash on the line–in many cases, their entire capital. Although this investment doesn’t insure success, it does mean that the buyer will work hard to support such a commitment.

There are many ways to structure the seller-financed sale that make sense for both buyer and seller. Creative financing is an area where your business broker professional can be of help. He or she can recommend a variety of payment plans that, in many cases, can mean the difference between a successful transaction and one that is not. Serious sellers owe it to themselves to consider financing the sale. By lending a helping hand to buyers, they will, in most cases, be helping themselves as well.