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WES S03E08: Deal Structuring For Sellers

Justin Cooke May 17, 2017

Subscribe to our VIP LISTNot all deal structures are the same…

In Season 2, we published an episode to look at how buyers could use deal structuring to their advantage.

Well – it’s time to do the same thing again from a seller’s perspective!

These are fun episodes for us. We love to work and massage deals to see how we can make them beneficial for both parties.

Most of this comes down to really understanding where the other party is coming from and looking for opportunities to meet their needs and extend your own interests to get the deal done.

We definitely had fun recording this one – we hope you like it!

 

Are you digging the show? Please stop by iTunes and leave us a review! We’ll give you a mention on the show and we’d love to hear your feedback!

Listen To The Full Interview:

What You’ll Learn From This Episode:

  •  Seller Financing
  • Earn-Outs
  • Balloon Loans
  • In-perpetuity payments
  • Outside financing
  • Seller Retained Equity
  • Investor/Sweat-Equity Partnership

 Featured On The Show:


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Ace Chapman:                   Even from the seller perspective, you as the seller wanna be savvy when it comes to setting up the deal structure that’s gonna work best for you.

Speaker 2:                           Buying and selling businesses just got a lot easier, welcome to the Web Equity Show. Where thousands of successful entrepreneurs go to learn about buying, growing, and selling online businesses. Your hosts Justin Cook and Ace Chapman share their real life advice, examples, and expert interviews to help you build and grow your own online portfolio. Now to your hosts, Justin and Ace.

Justin Cook:                        Welcome back to the Web Equity Show, I’m your host Justin Cook, I’m here with my co-host extraordinaire Ace Chapman. What’s going on buddy?

Ace Chapman:                   What is up, sir? So good to be here with you man.

Justin Cook:                        Yeah, dude, we were talking some fun stuff today. We’re talking deal structures. How do we get the buyers and sellers together? How do we get them to work out a deal? What does that deal look like? How do we make it happen? That’s what we’re getting into today, and it’s gonna be a lot of fun ’cause this is something we both really dig.

Ace Chapman:                   Well, I before this season, I felt like that all of the listeners are mostly buyers. I talked to a lot of buyers and I realized since we started this season, focus on the sellers. We have a lot of listeners that are sellers out there, so this has been cool bringing them out of hiding and interacting with us now.

Justin Cook:                        Yeah, they’re curious, man. I mean there’s a lot of people that are kinda building online businesses. And either they’ve never heard about selling their business before, or they’re just now hearing about it and they’re like, really? This is an asset that people wanna buy. Get out of her, right? It’s pretty cool.

Ace Chapman:                   Like, now we’re kinda getting into the nitty gritty of getting the deal done. I mean we’ve talked about the due diligence from the seller perspective, getting ready, having all of the paperwork together. And that’s not near as much fun, at least to a guy like me as getting into the deal structure. So even from the seller perspective, you as the seller wanna be savvy when it comes to setting up the deal structure that’s gonna work best for you.

Justin Cook:                        Yeah, this is the shit that gets sellers super nervous though, right? Especially when you’re trying to work out a deal and you’re like, am I gettin’ screwed? How am I gettin’ screwed? And so I think hopefully we can cut through some of that clutter, cut through some of that noise. And explain what’s good from a seller’s perspective in terms of deal structures. And we should mention that it may be true that 100% cash upfront offer at your list price, I mean that’s exactly what you want. Exactly what you’re asking for. But sometimes there are deal structures that may actually be better for the seller. We’re gonna talk about that a little bit as well.

Ace Chapman:                   So basically one of the things we did before, and this was back season two, episode seven. If you wanna go back to that, we talked about deal structures. At that point we talked about it from the perspective of buyers. So some of these things will be obviously the same structure, but we wanna talk about it from the seller’s standpoint and some of the risk factors you want to take into consideration, and benefits, pros and cons of when and how to use those deal structures from the seller’s perspective.

Justin Cook:                        Yeah, but I was thinking about this, it’s a little awkward because I feel like just last season we were like, okay here’s how you pull one over on a seller. Here’s how you need to work out, right? Do this, do that, and now we’re like. All right sellers, here’s your ammunition. Here’s where you’re coming in this deal. Yeah.

Ace Chapman:                   Even the playing field.

Justin Cook:                        Yeah, for sure. All right, man, before we do that let’s do some listener love. First up we’ve got a couple of five start iTunes reviews. First one says, insightful info from two clear experts. Five stars from Cole South. Great actual content from two guys who really know their stuff. Definitely changed the way I looked at things when it comes to buying and selling online businesses. Highly recommended. Thanks Cole.

                                                We had another one, amazing podcast, 10/10. Five starts from Music Guru. All seasons are really well done, I’ve been binging my way through them. Super informative, insightful advice from seasoned entrepreneurs. Keep up the great work Ace and Justin. Well thank you Music Guru. Maybe you can teach us a little bit about the music industry. I don’t know anything about that business.

                                                You know a little bit Ace, no?

Ace Chapman:                   As many deals as I’ve done, I’ve never done anything in the music industry. Did have a modeling agency for a little while. But yeah, that’s as close to the entertainment world as I go to.

Justin Cook:                        The modeling agency, that’s kind of a weird business, huh?

Ace Chapman:                   Yeah, it was. It was really interesting. It’s a whole world. I mean everybody focuses on the big time models, but every advertisement you see on TV, every little local car, newspaper ad. You know we’d have people that even today people still have to get models for print ads because that still exists. So yeah, all those small things we represented folks that did all that stuff.

Justin Cook:                        Models for print ads, man, that sounds like a dying industry.

Ace Chapman:                   I know, right? It’s like, let me get in and out of this. The biggest thing was [crosstalk 00:05:09].

Justin Cook:                        It almost like what do you do, model for print ads, someone’s like, oh. So sorry about that. Like what’s your next job? Are you training, are you in school now?

Ace Chapman:                   You better be looking for your next opportunity ’cause this is not on the uptrend.

Justin Cook:                        Oh, that’s so funny man. All right, man, let’s get into the heart of this week’s episode.

                                                All right, buddy, we’re talking deal structures for sellers and there are seven main ways to structure a deal. We’re gonna cover the advantages and disadvantages of each from a seller’s perspective. Like when to use one, when not to use one as a seller. I think it’s important to keep in mind Ace that you can mix and max with these deal structures, so it’s not like you only do number one. You only do number two. You only do number three. Like you can use two, three, and a dash on number five and get the deal done. You know what I mean?

Ace Chapman:                   And when you’re saying that too, you wanna kinda just mention it depends on the size of the deal. You know, one of the things that does get frustrating is when somebody’s doing a small $80,000 deal and they’re trying to mix two and three and three of these. But the normal deal structure, especially when you get over a quarter a million, half a million is definitely to have two or three of these so sellers want to expect that.

Justin Cook:                        Yeah, I’m doing a $15,000 Amazon affiliate site purchase, I’m gonna give you 50% upfront, I’m gonna give you the other 50% over three years. That’s gonna be an earn out based on profit. Maybe a little balloon payment. No no no. We’re not doing that.

Ace Chapman:                   Yeah. Walk away from that buyer.

Justin Cook:                        Yeah. Let’s get into this, number one is, seller financing. And basically seller financing is it’s an easy ask from the buyer’s perspective. Just saying, hey seller, I’ll give you 80% in cash, I’d like to finance the other 20% over some period of time. Sometimes it’s six months, sometimes it’s 12 months. Sometimes it’s 36 months, it just depends on what they’re asking for and what the terms are. But from a seller’s perspective if you’re gonna use this one of the things you really wanna look at is seeing how you can hold some leverage.

                                                You know, if you agree to finance the deal and they retain full control of the business, how do you have any leverage to make sure they pay that additional, 15, 20, 30%, whatever they finance? And one of the ways you can do this is to hold the domain. We actually do this for some of our clients. [inaudible 00:07:23] hold onto the domain during the seller financing period. And you can also find escrow companies do this, attorneys will do this for you. So there are places you can go to hold some piece of the business in escrow while you get the financing piece done.

                                                You also wanna trust that the buyer’s gonna continue to run and grow the business through the financing period. So if you get a sense that that’s not likely, that the buyer’s not gonna be successful at say over a 36 month period doing an earn out, the business goes caput you’re not likely to get the rest of your seller financing, so that’s definitely something to consider.

                                                You know as we, instead of the other episode pumping up the buyers telling them what they should do to you sellers, you know we told them, look always ask for seller financing. What can it hurt? They could say no. And from a seller’s perspective you should always ask for an interest rate, get something attractive in interest on the financing you’re doing for them. You’re taking a risk, so why not get a return on that risk and it doesn’t hurt to ask.

Ace Chapman:                   Yeah. It’s one of those things that I’m amazed at the sellers that don’t ask for this. And we get a lot of interest free loans on the seller financing. So hopefully nobody is listening to this that’s gonna sell me a business.

Justin Cook:                        Do you feel like you’re just kinda screwing yourself for this episode? You’re like, this is exactly [crosstalk 00:08:40] to charge anymore money.

Ace Chapman:                   Yeah. Like as soon as the seller tells me they listen to the Web Equity Show I’m like, next. Nah.

Justin Cook:                        No, none of that stuff. So here’s one I think is interesting, let me see if I can explain it properly. So the idea is, if you can’t get more than 50% of the difference in the offers upfront, you may not wanna do it. So let me give an example. Let’s say there’s a $700,000 list price, and you’ve got two offers to the seller. You’ve got either $500,000 in cash upfront, or you’ve got $400,000 and $300,000 over 12 months. Right? So the difference between 400 and 500,000 is $100,000. If you’re not getting that or better in the earn outs. If you’re not getting $200,000 or more in the earn out, you should do it.

                                                So for example, in that same scenario, if you’re doing $400,000 upfront and let’s say $150,000 in cash over 12 months. To hell with that, take the $500,000 upfront. That’s my recommendation, what do you think Ace?

Ace Chapman:                   Yeah, I love that rule. I mean it’s great to have rules of thumb. At the end of the day it really comes down what the seller’s really comfortable with. And some of the things that we’ll talk about with when to use, when not to use. And depends on the buyer, but yeah, like having that rule I think it at least gets you from being way outta wack where you’ve got $400,000 and the difference in the price is so tiny that it’s not worth stretching out over the course of five years or something crazy.

Justin Cook:                        Yeah.

Ace Chapman:                   So yeah, it makes a lot of sense.

Justin Cook:                        I think it matters too, like how long of a period you’re financing it for. So you need maybe a bit less if it’s only 12 months. You need a bit more if it’s 24 months. You need even more than that if it’s 36 months. So make sure that you’re getting more in the earn out depending on how long the earn out period is. In terms of like total value for the business.

                                                Sometimes you don’t wanna use seller financing. And one of them would be if you can’t live with never seeing a finance payment. So if the cash upfront you’re getting, now it’s not ideal. But if you only got that and you would hate yourself, you would cry every morning when you woke up. And you just couldn’t go on, like that would be a bad deal. You need to get at least enough cash upfront whereas if you got nothing else, you wouldn’t be happy but you could live with it.

Ace Chapman:                   This is a good point to mention, that this is risky. You know I think some people take for granted it’s like, oh I’m gonna get this certain amount over this period of time and they still feel like, okay that’s my money and it’s definitely coming. But the reason we mention this is because no, this is a risk. You are financing something. You are the bank. Sometimes the bank doesn’t get paid and they take losses for that. So you wanna really treat it that way when you’re setting up this kinda deal.

Justin Cook:                        And I generally would say, you know as a seller, don’t get less than 50% cash upfront. Now, I’ve seen those deals done, I think we’ve been a part of those deals where sometimes that happens. But as a general rule, yeah less than 50% cash upfront doesn’t seem right to me.

Ace Chapman:                   Yeah. And here’s the thing again that we have to preface, it doesn’t depend on your business. You know there are businesses out there that listen to this and they just don’t have a great business. Or it’s very very young, or it just has issues. And they’re like no, Justin and Ace said never to take less than 50%. And it’s like, if you see across the board that nobody’s willing to pay you that, and you really do wanna sell, then that’s when it’s time to understand like okay well my business in the marketplace I’m getting feedback that it doesn’t align with that.

Justin Cook:                        Yeah, that’s right. If you get a bunch of people that are coming from different places and different approaches to buying businesses and it’s kind of like you’re always hearing like less than 50% cash upfront, something going on there. There’s some trust issues, there’s some reasons that they won’t give you more than that probably.

                                                One other reason that you don’t wanna use if you think that it’s unlikely that the buyer will run the biz and/or pay you out over the period of they’ve got, say you run a credit report. Or you’ve got, they have a history of not paying their bills or something, I would require more cash upfront. Not that I wouldn’t necessarily do the deal. But I’d require more cash upfront and put less into financing.

                                                All right man, let’s talk about earn outs, which is number two. There’s a couple of different ways you can do an earn out. The first one would be like milestone based. So let’s say I do an earn out that’s based over three months, over six months, over nine months, over 12 months. You hit those certain milestones and you get paid out at those milestones. And they can be just actually milestones in the actual business too, if you accomplish this or accomplish that. Although that’s much more rare.

                                                You can also do an earn out that’s profit based, that’s tied to the net profit of the business. Although as a seller I don’t really recommend that. Then the third one would be revenue based. So tied to the overall gross revenue and growth rate of the business. So as the business continues to grow and do well, you’re paid out no matter how profitable the business is.

                                                So let’s talk about when a seller might use an earn out. If you believe the buyer has a really excellent plan or opportunity to grow the business, you buy-in. Right? You’re buying into what they’re doing. You’re like, you know what, I’ll take an earn out. I think your plans … And you go, well I know you wanna save a little bit of that cash to buy inventory or put it back into the business for growth, I believe in what you’re doing. Yeah I’ll take an earn out that’s based on gross profit. ‘Cause it gives me a chance for upside, right? Like if you’re able to grow it over the next 12 or 24 months, I can make a lot more money than taking the cash upfront. So I’m in on that deal.

Ace Chapman:                   And it also shows to that buyer, you get the better buyer when your offer to them entices them to come to you because you still gotta understand as a seller, you are competing against the other sellers. So if you have a seller, or you’ve got one seller as a buyer that says, all right, I trust you. I can tell you’ve done this before. I’m willing to finance this 50% on an earn out. And then you get that same buyer and you’re like, man this guy can really really kill it. But you have this rule where you’re like, oh well I really want 25%. The 25% that goes to somebody who’s going to kill the business and has no talent is a lot worse than the 50% that somebody who’s gonna kill it in the business.

Justin Cook:                        Yeah. I’ve seen this happen recently with FBA businesses where they wanna keep a little bit of cash outta the deal that the buyer does so that they can reinvest in inventory and they’ve got a really good plan of experience there. And you see a lot of that FBA businesses, or SBA sellers that are maybe less experienced than the buyers. And so they’re like, huh, okay yup I’ll partner up on this deal with you. Let you keep a little extra cash and then I’ll get a piece of the longterm.

                                                Another thing with earn outs, if you’re going to be providing consulting or guidance longer term, I think earn outs can be helpful because if you’re gonna be for the next 12 months, you’re gonna do monthly calls, you’re gonna do quarterly meetups or whatever, meetings with them. You wanna have some upside in the longer term success of the business. So if you’re gonna be doing that and staying involved and doing some consulting, you might as well get some of that upside.

                                                And then I think one of the things you can do as a seller, and to your benefit if you’re doing earn outs, is you can put in things like month, year, quarter minimums. Like I need to get paid at least this amount. You can cap the timeframe. So it needs to be fully paid up out by this date. Or then you can use it in conjunction with the balloon payment, or balloon loans we’re gonna talk about next. So there are ways to kinda keep it just not going forever. Right? Try to make sure you lock up a minimum per month or per quarter. Make sure that you’re not gonna be doing this earn out for the next eight years, things like that.

Ace Chapman:                   The other part of this is when not to use it. And it’s one of the things from a buyer’s perspective, you know we really encouraged this back in season two that you want it tied to the profit as a buyer. Well the truth is as a seller you really want it tied to the revenue. You want it tied to something that isn’t as easily manipulated. And with the profit that’s something that can be manipulated and one of the ways around it, if you do have a buyer that’s determined to really focus on the profit, is you can basically agree on the onset.

                                                You can agree these are the expenses that are gonna be included. You can’t just come in and spend all the money and say, oh well that means there’s no profit for you. I’m not making payments, and you get into that eight year loan earn out like we talked about.

Justin Cook:                        Yeah.

Ace Chapman:                   The other part is you wanna stay away from the newbie buyers when you’re doing an earn out. You know they’re gonna talk about how you combine this with some of the other things, but if you tied this to let’s say a balloon payment, maybe that’s a little more secure depending on how much cash they have. But if you don’t believe in their plan for your business, you don’t think they’re gonna be able to grow the business. Or they’re just brand new, this is one you want to be careful of.

                                                Then the final thing is, you don’t wanna be in any way tied to the business anymore. If you know, I’m completely done with this business. I don’t wanna talk about it. I don’t wanna think about it. Like as soon as this closed, I wanna walk away and never have an email come into my inbox about this again, then you wanna stay away from this because a lot of times the reason the buyer’s gonna do this is he does want you tied into the business. And then at the end of the day there may be something with earn outs go down and you’ve gotta get more involved. But regardless, you’re gonna have to be collecting and making sure that those payments are coming in.

Justin Cook:                        Yeah, sometimes you’re just done, right man? Like you’re just not emotionally connected to the business anymore. You’re just not interested. And if you don’t wanna be involved in it, that’s not a good time to be getting in bed with a new buyer who’s all motivated and fired up about it. And now you’re trying to track these earn outs. Or you just don’t wanna be involved with the buyer himself, or herself either. Right? That happens too.

Ace Chapman:                   Yeah.

Justin Cook:                        I don’t wanna be associated with this person. No. Let’s talk about the third option you have, which is balloon loans. Now we talked about using this in coordination with earn outs, so we’ll talk about how that works. But one of the ways you can do a balloon loan is a super short-term ones. It’s like 30 or 60 or 90 days. Normally this is like after some fixed thing has happened, so like training. Right, I wanna make sure, I’m a newbie I wanna make sure that I’ve got some training. And so it’s kind of a drop sell for you as a seller. You can say, look I’m gonna ensure that you get the training ’cause you’re giving me 90% upfront. I’ll take 10% after the 30 days of training, just like I said I would get you up to speed. I’ll get paid based on the training, things like that.

                                                You can also attach it to seller financing or earn out, and it’s a way to just cap it. So you say like let’s say it’s based on profit, but it has to break certain minimums per month or it doesn’t get paid. But the total amount is $100,000. So it’s based on profits, some months if I don’t hit certain tiers I don’t get paid, or whatever. That could drag out for two years, or three years. And I’m like, no. At the end of 12 months, I want my $100,000. So if in 12 months I’ve made 60 back, you owe me 40 at the end of 12 months.

                                                You know what I mean? So it’s a way to still, you know just to cap it at 12 or six months or 18 months or whatever it is you want. The other thing you can do, which I rarely see, is a straight balloon loan. Where you’re like, look I’ll pay you 80% upfront, you’re gonna pay me 20% in 24 months. Or you’re gonna pay me 10% in 12 months. 10% in another 12 months. You just don’t see those as often, they’re normally tied to some amount of money coming in over time.

Ace Chapman:                   Yeah, the biggest danger with this, for you as the seller, is that buyer kinda hits the dirt with the business and it’s just gettin’ through, it’s not making any money. And you really don’t have any way of keeping tabs on it until you hit that two year mark and they’re like, hey this thing just isn’t working. I mean, when I’ve sold a business earn out in addition to me getting money on a regular basis, which is always fun. But there’s also the bigger factor of each month I can kinda see where’s the business trending? I can see if I need to check-in and say, hey what’s going on? Do we need to figure something out?

                                                That allows me to keep tabs. So when should you use the balloon loan?

Justin Cook:                        Well I wanna say really quick. I don’t really like balloon loans, man. I gotta say, the thing I don’t like about balloon loans is the fact that if you’re not staying involved in the business, you’re not involved with it, and you have a balloon loan at 12 months or 24 months or whatever, trying to come back and collect on that when you now have zero relationship. You’re putting the buyer in a position where, okay they agreed to it, but now it’s been two years, who knows where they’re at or what they’re up to. And trying to go and collect is just a really tough thing to have to do.

                                                But there are sometimes where you’d wanna use it.

Ace Chapman:                   It is. That’s the bottom line. This isn’t something, especially a loan that you wanna use. You wanna use it combination with some of the other things, but there are sometimes. So like I said, you wanna use this as a tack-on to an earn out. You know there’s a certain earn out period that allows them to come in, get comfortable with the business, make sure you’re still somewhat tied in for a year. You want those checks to be as big as possible on a monthly basis. But then at the end of the year they pay off whatever that balance is.

                                                The other time is you can use this as a negotiation tactic. You know, especially if you have that buyer and you feel like, hey this is an easy business to run. Even though the person may be let’s say a newbie. You know they’re gonna be able to learn the business and run it, but this is the first time they’ve ever done anything like this. And so they’re just nervous and scared. And so you can use this as a negotiation tactic and say, hey I know the price is here, here’s what I’m willing to do. We’ll do this payment of earn out on 25% of the deal. And then you give me the balloon at the end of it.

                                                And one of the other times that I think is important to have as a component of this is doing this in deals where you do have that in between person like a broker. Because you need somebody who’s gonna monitor, keep both sides accountable for what they’re supposed to do. And make sure at the end there’s somebody in between that’s holding those assets so that if the person doesn’t pay you the seller, you’re able to get the business back and continue running that business. And then go get to sell it again. You know even if it was messed up you can fix it and sell it all over again.

Justin Cook:                        Yeah. I mean there are I think quite a few reasons to not use a balloon loan, definitely not as a standalone. But even sometimes in conjunction with earn outs or seller financing. If you don’t really have any clarity that the buyer’s gonna have the cash at the end of the period, like if they’re putting all their cash into the deal, you don’t see that the business is gonna be able to cash them up in that period of time. That’s probably not the best deal. Or if that end of deal cash is critical for you, so if you’ve got a whole bunch of money tied up in the end of deal or end of term balloon payment, and you’ve got your hopes and dreams tied to that money, that’s not a good idea.

                                                There’s a chance it’s not gonna get paid, so be careful with that. Let’s talk the fourth option, which is in perpetuity payments. And this is generally used in conjunction with continued work, or if you’re gonna keep PBN links or some kind of SEO strategy going for the business longterm. And this is something that a seller, you as a seller, can offer to the buyer if they’re worried about, let’s say for example, you pulling the PBN links.

                                                Or that you’re not gonna do continued work that you’ve agreed to do. Right? So it’s a way for them to basically give you money, get you used to getting that money and then not wanting to turn away. It’s something you can ask for if you have PBN links to it. It’s something you can ask for if you’re gonna be doing continued work you can basically setup a longer term relationship with them. And sometimes that’s a valuable thing to have. Sometimes like the buyer is in a space that you’re interested in, or that you have other interests in. And you’re like, look I wanna maintain a relationship with you, I’ll continue to do this, this, or that for the business. And we can potentially do other deals together in the future.

Ace Chapman:                   Yeah. That’s so really powerful, even as a buyer. I love to do deals like this because the seller built the business. You know when I’m talking to the seller it’s like, okay you’re the person that’s behind this. And so if I can keep them tied in for a longer period of time that’s a win for me.

Justin Cook:                        Yeah, you don’t wanna use this I think if you’re cutting your price to more than you would make over 24 months. So say for example that you’re giving them a deal, right? For $50,000 off, or $100,000 off, or whatever, and you’re not making more than that in 24 months with them then it’s probably not really worth your while. You also don’t wanna do this deal if you don’t want a longterm partnership with the buyer or any relationship to the business.

                                                You know, an in perpetuity payment for work you’re doing, or something that you’re doing definitely keeps you involved with both the business and the buyer. And if that’s not interesting to you, which it may not be, and you need to think about if you’re gonna be agreeing to that deal you probably shouldn’t do it.

                                                All right man, the fifth point is outside financing. And this would be hard money, credit cards, personal lines of credit, SBA loans, bringing other investors, you know all different forms of outside financing. Which we’re seeing a bit more in our industry. A lot of it’s just the institutional money hasn’t been available. But we’re seeing a little bit more so it’d be interesting to see how that shapes out in a couple years.

                                                When to use? If you’ve got a verified buyer that is pre-approved in some form that’s helpful. If they’ve gone through the work and the hassle of getting pre-approved for an SBA loan for example, that may be good for you, may be helpful for you. Or, when you don’t have other similar offers on the table with cash upfront. So if it’s kind of like, this is the offer you got and the only one you’ve got so far, you might as well do down the rabbit hole a little bit unless you get something else on the table.

Ace Chapman:                   The other thing that I wanna mention here is that it’s really powerful to just go and get these things pre-approved yourself. So that you’re not even depending on that potential buyer, you’re building the relationship. You’re going to let’s say you’re gonna do an SBA loan. If I’m a seller and I know, hey this deal probably buyers aren’t gonna want some financing on it, I’m gonna go to the bank. I’m gonna get my deal pre-approved by the bank, and then anytime somebody contacts me and they’re saying, hey I think I wanna get an SBA loan. I wanna contact them with my bank. That way I know it’s real, I know when they’re gettin’ approved just by the people that know my deal. And that makes things a lot, lot easier on both sides.

Justin Cook:                        That’s true. It’s usually attached to the deal, let’s be honest. So they’re gonna need to know those details. If you do that as a seller you’re gonna make it a lot easier for your potential buyer. Also you’re opening or widening your buyer pool. So maybe they don’t have all the cash upfront required, but with the SBA loan it gets them there. And it gives them the opportunity to buy your business which they may not have had otherwise.

                                                There’s sometimes you don’t wanna work with outside financing or buyer with outside financing though. You know, one of the times you do not wanna use it is if they haven’t started the approval process, so they don’t have anything in place. Or, ’cause sometimes it can take quite a while. It can take a while to get the loan, so the money put together. And you may not wanna lock yourself in with that exclusive period with someone who’s trying to get financing. I really suggest that thing is to not be exclusive with them while they’re trying to get the financing. ‘Cause you may be losing deals that would be otherwise interested in your business.

                                                The other thing is, if you have a better offer on the table and it doesn’t require them to go out and get financing, it just kinda makes it easy. So if both sides are equal, and you’ve got one with cash in hand, you know the bird in the hand is worth two in the bush. Isn’t that the saying, buddy?

Ace Chapman:                   Yeah. It is. So be smart.

Justin Cook:                        Number six is seller retained equity. This is just basically where the seller’s keeping a piece of the business longterm. It’s pretty illiquid they’re position. They’re keeping like 10% of the business or whatever, 20%. But there are some times where this is interesting. Let’s say the business is growing really really fast. Super quick. And you as a seller don’t really wanna sell but you need a good chunk of cash for your other business. For whatever reason you’ve got this development project. You’ve got these developers, whatever you need to pay for. And you need that cash for that business but your lie, God I hate to drop this one ’cause it’s quick, it’s fast moving and it’s got opportunity. You may wanna keep some equity in it.

                                                And I think critically is if you trust the buyer to grow or expand the business really rapidly. So you know the buyer, or kind of know their story and what they’re up to. It may be of interest, particularly if it’s like a strategic or somebody you worked with before. You may even do a deal where you take 25% less cash and only keep 20% of equity because you believe in the upside of the value so much.

Ace Chapman:                   One of the things that I think this is we’re seeing a lot right now of this happening. And it hadn’t really been the case until the popularity of the FBA business model in particular. It’s just people have an amazing business, it’s going really really well. They’re making a ton of money, and they’re completely broke.

Justin Cook:                        Yeah.

Ace Chapman:                   And it’s because of the amount of cash that it takes to get the inventory, keep it there, make sure that you don’t run out of inventory. Just all of those things, you’re tying up a lot of cash. And so depending on the deal, these kind of deals can really make sense in the right business when you know here’s this problem that we have right now. This person can relieve that problem. And it could be something totally different like, Facebook marketing expert that you really believe in, whatever. But they’re bringing something to the table, money or skills, and I know that’s gonna have a direct effect on the bottom line.

Justin Cook:                        Yeah, in terms of like not wanting to keep seller retained equity, I mean it’s not very common. So most of the time sellers aren’t doing this, they’re not keeping a piece of the business. I’d say there are more very specific reasons to do it. Most of the time you wouldn’t. But when not to use, you know if you don’t trust or believe in the buyer’s plan, or the buyer himself/herself, or you just again have no interest in being tied to the business longterm, seller retained equity definitely ties you in.

                                                It’s a passive position. It’s also illiquid, as I mentioned before, so trying to get out of that. And you’re basically stuck on the whims of the majority shareholders. So whatever they’re trying to do and with the business you’re kinda stuck with, and you can work it out with opt-in agreements but now we’re getting into this like, you know it can be messy. So you better [crosstalk 00:31:01], you gotta be on the same page with the buyer if you’re gonna make this work.

Ace Chapman:                   Yeah.

Justin Cook:                        Let’s talk number seven, which is kinda the investor sweat equity partnership. Which we just talked about before where you’ve got someone who’s kinda the operator. You got an investor and they’re kinda lookin’ for deals. Maybe they got a couple of investors lined up. As a seller you don’t particularly care about this deal. I mean if you’ve got a much larger deal, let’s say seven figure plus, it’s likely not gonna be one guy lookin’ to buy your business. It’s often gonna be partners, it’s gonna be operators with investors. It’s gonna be multiple people involved in the deal.

                                                So if it’s larger just know that you’re likely gonna be working with multiple parties. When you don’t wanna do this as a seller, where this gets kind of convoluted is when there’s no clear decision maker. If you’re working with a team and you talk to Harry one week, and then you talk to Frank the next week, and neither one of them were making decisions and they say, oh you need to talk to Sally ’cause she does this P and you’re like, oh my God I don’t know who I’m dealing with here. I don’t know. Like they don’t seem to have their stuff together. I don’t know how to do this deal.

                                                That can be really messy. And it’s especially true with new funds or with these new equity partners where they don’t really know what they’re doing, and they’re trying to figure it out and see whose responsible for what. And you’ve got multiple decision makers. It can be a bit of a mess as from a seller’s perspective. And that’s especially true if you’ve got another offer on the table. If it’s close, and you’re not dealing with eight decision makers, and it’s a couple of people and they seem to have their stuff together, it’s pretty clear who the better buyer for you is gonna be.

Ace Chapman:                   Yeah, one of the thing I will say is, it’s one thing to talk about how big a headache that’s gonna be on the backend. You know, once you own the business, or what’s going on there. If they’re completely new and it’s a new group. But the other side is, it’s also a really big pain during the due diligence process. I mean we’ve had people come to us and get deals done because they’re frustrated that they’ve spent two months and all the investors have different questions. And people are holding back and they don’t wanna close the deal. And all of these different things that come into play that just cause deals to fall apart in the end.

                                                So if you’re deciding between a couple of buyers and one is one real decision maker and the other is a group, that’s something to keep in mind before you even sign the contract.

Justin Cook:                        Absolutely. And it’s pretty clear kind of the newbies, or they got multiple decision makers versus the groups that kind of have their stuff together. You’ll know it when you see it. That’s the best way to put it. All right, man, let’s wrap this episode up. Just to touch on a couple of points. As we mentioned at the top of the show, full cash upfront offer is usually the best deal for the seller, but not necessarily always. Especially if you really believe in the buyer and their plan and you want to be associated with that business.

                                                It’s better to negotiate a beneficial deal structure than not to get a deal at all. Again, that’s usually true, it’s not always true. But if you’re getting a deal structure that works for you, and you understand which ones are better for you and which ones are not, I think that’s good. One this else too is you should rely on your broker. Brokers can be really helpful when it comes to deal structure because, and this is the dirty little secret, they’re more interested in getting a deal done, not necessarily getting a deal done with terms that are favorable to you as a seller.

                                                So you’re broker’s job is to get the deal done, not necessarily to get you the best deal, if that makes sense. They normally get a percentage of the deal, so if they knock a few points off of the final price, so they knock some dollars off the final price, it’s only a small percentage to them. So they’d rather get the deal done. So just keep that in mind and make sure that the terms and that the structure makes sense for you. Go back and re-listen to this episode if you don’t think your broker’s doing your right. Come have a listen to this one.

                                                And then if you’re not using a broker, it’s always a good idea to get a second opinion from someone who actually has experience in selling businesses. Ace, we talked before we got on the show man. Like this crushes my soul. If I have a friend, like a friend, right? A close friend that sells their business and doesn’t even call me, it just, oh I thought you were busy. Or just like, no. How dare you? Like you absolutely should call me and talk to me about it.

                                                You know, [inaudible 00:35:21] me, but like let me at least talk to you buddy. Let me at least give you some advice. Let me at least hear what you’re doing. It may be a bad deal, like oh my God I can get you a much bet … Like not as a like a salesy way, but like no no no, it’s worth more than that. We can do more. You know what I mean?

Ace Chapman:                   Yeah. It’s so funny man. I’ve definitely had it happen on the buy side where I’ve had friends that I sit down, I’ve talked to about this stuff. It’s just on a very high level. You know we’re not going in depth. And then they come back a year later and they’re like, oh I need help with this business, it’s a nightmare. I’m like, what? You bought a business? You never mentioned it to me, like what were you thinking?

                                                So yeah, that’s amazing.

Justin Cook:                        Yeah, boy. All right, that’s it for this episode. If you dit it, please head over to WebEquityShow.com and leave us a comment to let us know what you think. You can also drop us a review on iTunes, and we greatly appreciate it. Next week we’re gonna be talking about negotiations. How to negotiate the deal with your buyer. You know, when they say this, what do they really mean? Those are the details we’re gonna get into. I hope you stick with us.

Ace Chapman:                   Thanks so much for checking out the show.

Speaker 2:                           Thanks for listening to the Web Equity Show. Now is your chance to be a part of the action. Go to www.webequityshow.com/gift and send us your business acquisition or exit question and have it answered on the show.

 

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