Investing in a company? What to look for.January 12, 2023
What are deferred payments?
- Deferred payments are structured payments for your business over a specified period. A buyer will typically offer you a certain % for your company when the deal completes, with the rest of the money to be paid typically anywhere from 1-3 years.
- The deferred payments of 1-3 years post sale is not set in stone, it could be paid within 6 months of the deal being finalised and likewise, depending on the amount to be deferred could take longer than 3 years.
When should you consider a deal with deferred payments?
- With deals that have payments deferred, they are wide ranging and like everything, some deals with deferred payments are good for the seller and others are not.
- In our experience, when considering taking deferred payments you should be looking for the buyer to pay a decent amount for the business on day 1. We recommend looking for at least 70% on day 1, with the rest to be paid out in no more than 3 years. This example indicates to a buyer that you are serious about selling your business, but also flexible in accepting some of the value over the next few years. Credible and genuine buyers will have no issue paying this amount on day 1 as they understand the worth and value of the business to their own growth plans.
- If a buyer is offering at least 70% on day 1, with the rest to be deferred in no longer than 3 years, then we would advise that would be a good deal and it is important to work with buyers on this and also to understand the current economic climate when it comes to lending/finance is not as easy as it was a few years ago.
When shouldn’t you consider a deal with deferred payments?
- Your business in most cases you will have built up over the years into being very well established and profitable, so that is why a buyer should be paying a significant majority for your business upfront. With deferred payments, in essence a buyer is using the future profits of your own business to pay the agreed future payments, they are not using their own money or external finance after the initial day 1 payment has been made.
- So, if a buyer is looking to offer below 70% upfront, say 50% on day 1 then we would advise to proceed with caution, as lets says the total value is £1 Million, if it is 50% upfront, they are only actually paying you £500k for your business. The remaining £500k will be paid using the future profits of the business and we do not believe this is right. The future profits of the business should only be used to pay for a minority of the overall deal value with all the years’ worth of work you have put into your business.
- If a buyer is not willing to increase their day 1 % to what we believe is a reasonable amount, then that also tells us a lot about the buyer and that they may not be 100% credible and genuine as they are wanting to get your business for a low price.
What happens if the business goes downhill and the buyer is unable to make future payments?
- In our dealings with multiple deals that contain deferred payments, the number 1 concern from sellers with accepting future payments is if things change and the buyer in the future is not able to make the payments initially agreed.
- This is a completely fair concern and we work with solicitors that have mass amounts of experience in completing on the sale of businesses.
- The key is to ensure that you are protected in your sale purchase agreement and have protections/indemnities in place. The main one is to have a guarantee of shares in place until all the agreed value for the business has been paid to you fully. This means that should a buyer default with any of the payments, then you will be able to take control of your business back from the buyer.
- To summarise, in the right scenario deals with deferred payments can be a great way to sell your business and you can potentially achieve a higher sale price than to a buyer paying for everything on day 1, as there is the opportunity for you to earn more from the sale depending on future performance.
- Know your worth. Truly understand the value of your business, by speaking to your accountant as well as advisors and when you are getting similar feedback you know that you are in the right rough ball park figure. Do not be afraid to tell this to buyers and to make it clear you are looking for a decent percentage to be paid for straight away. If you are willing to accept less than 70% upfront, that is great but keep that to yourself as it is a useful tool you can use when it comes to negotiating a deal if needs be.
- For buyers looking to fund a significant part of the deal through payments in the future, be very wary and have your wits about you as it has happened so many times in our industry, where sellers agree to that and they never ended up being paid what they should be.