Seller financing a business for sale is when the owner is willing to personally finance a portion of the purchase price. Oftentimes, this increases the likelihood of selling your business. While it is tempting to consider because of the heightened chance of a faster sale, seller financing your business is a serious consideration that needs to be deeply evaluated before attempting. What should you know before seller financing a business for sale?
6 tips to consider when seller financing a business for sale:
1. DO assess the risks. You will be tied to the business long after the sale is complete.
Unlike a cash sale where the seller can comfortably walk away from the business with money in the bank when you seller finances a business, the seller continues to be tied to the business for a pre-determined amount of time after the sale is complete. If the business succeeds, the new owner pays back the principal with interest and everyone is happy. But if the new owner fails, the seller could suffer the loss of interest income and incur additional costs to collect the debt.
The bottom line is that a seller-financed sale needs to be evaluated as a business investment. Like any other investment, there is a certain amount of risk inherent in the decision. If you are comfortable enough to invest in the new owner, then it could be beneficial to finance the sale yourself. You’ll likely close the deal more quickly, receive a higher asking price and earn income from collected interest.
2. DO leverage the benefits of an interest-earning investment.
Your willingness to carry the note in a seller-financed transaction is an interest-earning investment. If the buyer is good investment risk, the seller stands to reap substantial benefits from self-financing. Too many owners view sellers financing a business as a desperate measure to unload the business when they should be viewing it as a resource for enhancing the benefits of the sale.
Right out of the gate, your willingness to hold paper increases the final selling price of the business. Partially-financed sales typically result in a price that is more than 15 percent higher than their cash sale counterparts. That means you can leverage your willingness to finance as a bargaining tool during negotiations.
The other big benefit of offering seller financing is the potential to multiply the principal value of your business through future interest payments. As you might expect, a financed sale garners a much higher rate of return than many other investment vehicles with a 5-7 year note at 8-10 percent interest as the norm. Remain firm on charging the amount of interest you feel is appropriate for the market and the level of risk you are assuming.
3. DO advertise seller financing when you list your business for sale.
Advertising seller financing in your business for sale listing can be a big plus that attracts more buyers. If you are comfortable with financing part of the sale, you should include that information as a selling point in your marketing efforts. Offering seller financing attracts a larger pool of serious buyers, including those who may not otherwise have the ability to secure financing at your asking price.
4. DON’T waive the down payment. A healthy down payment can minimize your risk.
Seller financing a business for sale can be a risky venture. However, a healthy down payment can minimize your exposure by distributing an equal or greater amount of the risk to the buyer. Unlike home mortgage lenders, who sometimes require a down payment of 15 percent or less, business loans usually require a much higher upfront investment.
Generally speaking, it’s in your best interest to finance no more than 20 to 50 percent of the sale price. If you decide to finance more than that, you need to have a legitimate reason for doing so. For example, if you are selling the business to a family member, you may have a vested interest in financing an amount beyond the normal range. Yet, as your financing commitment increases, so does your risk.
5. DON’T do it yourself. Get legal and professional advice from someone you trust.
By definition, seller-financed business for sale transactions contain shades of do-it-yourself. Instead of relying on professional lenders for financing, the seller assumes the responsibility for a percentage of the buyer’s investment. Get someone with professional experience to assist you.
6. DON’T be pressured. Trust your instincts.
There’s a good chance that potential buyers will try to push for a seller-financed business deal. This is particularly true for buyers that are unable to secure financing from traditional lending sources due to an inadequate down payment or other borrowing obstacles.
No matter how anxious you are to sell the business, caving into buyer pressure for the sole purpose of closing the deal is a big mistake. When a buyer pushes too hard for seller financing, take a step back and conduct a simple reality check. If you aren’t completely comfortable with financing the buyer’s purchase, walk away and wait for a better buyer candidate to emerge.
Do you want to improve the value of your business? Click here for your FREE Value Builder Score!
Talk to us today!
Edwin Mysogland, CVA, CEPA, CMEA
Managing Partner, Indiana Business Advisors