Can a Seller get all cash?
Yes, but only if a bank finances the difference between the Buyer's down payment and the selling price.
Why doesn't the Buyer just pay all cash for the business?
When buying a business, the down payment is normally equal to the Seller's Discretionary Earnings (SDE). For example, A Seller who is asking $1 million for his/her business with an SDE of $300,000 can expect to attract a Buyer with $300,000 down payment. The reason for this is simple. If a buyer had $1 million for a down payment, he would be able to buy a much larger business with a cash flow of approximately $1 million.
How much down payment can a Seller expect?
Again, the down payment is usually equal to the Seller's Discretionary Earnings. How do I know a Buyer won't buy a business, make a down payment and then run off with the assets?
Rule #1, when you sell your business, you should like and TRUST the Buyer. If you do not, do not sell them your business. A typical Buyer is putting his/her life savings down on a business, they want to be successful. Practically speaking, because the down payment is equal to the SDE, the down payment is normally more money than the value of the hard assets.
Is getting bank financing difficult?
Yes, because the selling price of most small businesses is made up of mostly goodwill which a bank can't repossess. Banks can get SBA guarantees but this requires squeaky clean financials from the Seller and the Buyer putting his personal residence at risk. If your business has clean financials and you have them for over three years, yes, SBA financing is possible.
What does all of this mean? Someone has to finance the difference between the down payment and the selling price. There are two choices; either a bank or the Seller finances the difference. Let's discuss those choices and the risks associated with each.
Choice #1 - Bank or Bank with SBA Guarantee
• Normally the Bank requires the seller to take a small subordinated note.
• If a Buyer gets into trouble and misses payments, the bank forecloses and shuts down the business.
• Next, the bank has an auction. Auction proceeds normally will not cover the bank note (remember a small business is mostly goodwill, not many hard assets).
• Lifelong employees are laid-off; some are like relatives to the Seller.
• Lifelong vendors or creditors are not paid; some have become the Seller’s personal friends
• The customers have no place to acquire goods & services; some have become the Seller’s personal friends
• The business is closed and the Seller’s legacy is gone, gone forever.
• The conclusion - the Seller’s note is worth nothing, the Buyer lost his/her down payment and the business is gone.
Choice #2 - Seller financing
• Seller doesn’t pay taxes on sale proceeds.
• Seller gets a very good return on his/her money (typically 7 to 8%) and a very nice monthly income (typically 10 years).
• Seller's note is protected and the Seller is kept up-to-date on the health of the business through monthly P&L's, monthly Balance Sheet's, Right to Offset, inventory minimums, etc.
• If a Buyer gets into trouble, it comes as no surprise, because seller already knows the health of the business through the monthly reports.
• Together, the Buyer and Seller work out the problem, perhaps a payment or two is late, but the business continues, the Seller's note is safe and the Buyer's down payment is safe.
• Employees jobs are safe, creditors are safe and clients continue to get goods and services.
• Therefore, the SELLER is in control!
For additional information, contact Sunbelt of the Greater Bay Area.