It seems that most of the Letters of Intent we receive on behalf of our clients include the buyer requesting some amount of owner financing. While there are many things to consider when deciding how to respond, our preference would be for our clients to finance as little as possible, or none. There is no standard answer, but it’s important to understand why the buyer is requesting owner financing. There are limitless reasons, but some of the common ones include:
- The buyer may be stretching their down payment to buy the business. In this case, the seller may have a high level of confidence in the buyer and agree to finance a small amount. Or the seller may consider this a risky situation and want no part of it.
- The seller may be asking a premium price for the business. It would be reasonable for a seller to carry some of the purchase price if they are receiving a premium. Or sometimes there is simply a difference in opinion between the buyer and seller as to what the business is worth, and that gap could be filled with some seller terms.
- The business might be light on assets and the bank may not be willing to loan the entire purchase price without collateral. Sometimes the most efficient means of getting a deal done is to bridge a gap for the buyer.
- There may be a real or perceived risk with transferring the business to new ownership, or a heavy concentration with one customer may pose a threat to a new owner. Showing the buyer that the seller still has skin in the game can often make a deal.
Seller financing could be in the form of a note payable, interest-free payments in the future, contingency payments or earn-outs based on future milestones. If the seller does agree to finance a portion of the purchase price, interest rates are certainly negotiable and can be tied to a percentage above current bank rates or based upon the risk associated with the loan. We like to see notes to the seller personally guaranteed by the buyer which are usually subordinated behind the bank.
If we have a really good buyer/seller match and both sides are eager to do a deal, we sometimes suggest our sellers finance a small portion – say 5 or 10% -- because it can go a long way to comfort the buyer.
For advice on any form of seller financing, call us at 913.648.0185.