When I ask a business owner who wants to sell his business whether or not he’s willing to finance a portion of the purchase price himself, the answer is usually “No.” Generally, that means that he is either not motivated to sell in this environment (where banks aren’t able to lend as much to potential buyers as they were a few years ago,) or he hasn’t carefully weighed the benefits of seller financing. We can’t do much about the banking environment so let’s focus on the latter.
Seller financing has risks associated with it: The seller becomes the bank. Banks are in the business of managing risk. The current reality is that more and more buy-sell transactions are being done this way and if the seller financing option is taken off the table, many buyers will walk away. Considering selling your business? Read on to learn about the benefits of seller financing:
1. Faster sale: If a buyer is serious and has approached a bank (or five), they know it can be tough to secure traditional – and even SBA – financing right now. When a seller is willing to carry a portion of the note, the business will often sell faster and sometimes at a higher price.
2. Flexibility: The seller creates the payment schedule, sets the interest rate (typically at more than he/she is earning on their current portfolio) and the loan conditions.
3. Down Payment: The seller can request a down payment that will put immediate cash in their pocket. If the seller is carrying the entire purchase price, a down payment of 20-30% is not unreasonable. There may even be tax advantages to the seller so they should consult their tax advisor.
4. Protection: The seller still has a vested interest in the sold business, so it’s reasonable to request monthly financials, inventory levels, employee/client satisfaction reports, etc. Some sellers will hire a business consultant to keep track of those things and raise red flags when necessary. Worst case scenario, the seller can foreclose and take the business back, keeping all the payments made to that point. This is analogous to the bank repossessing a car except that in this case, the seller takes back his business.
We already know that seller financing has some associated risks. Here are proven ways to reduce their likelihood: First, if the agreement is improperly documented, the seller could be left without recourse should the buyer default. Take the time to carefully document both parties’ rights and responsibilities. Business brokers, attorneys, and accountants can help you close all the loopholes and make sure you aren’t left holding the bag. Second, the buyer could take over and wreck the business which can severely diminish the seller’s collateral position. The seller should do as much due diligence on the buyer as the buyer will do on the business. Research the buyer’s business track record. If they’ve been successful in the past, chances are that they’ll be successful this time. The converse is also true.
The bottom line is this: Seller financing is an excellent option for many business owners. Sellers should take advantage of a business broker’s abilities to provide them with ALL their options and the result will be the successful transfer of their business.