Monday, October 5, 2015

[VIEWER QUESTION] What's the right amount of vendor financing? 20%?

This week I'm asked what amount of vendor financing is ideal when doing a business transaction.  Listen to me talk about the largest and smallest amounts I've seen done on deals.

It is David Barnett once again and this week the question I received was is it normal when you buy a business for the vendor to finance to 20% of the purchase price? Now I have done other videos about vendor financing or vendor take back notes. And this is the first time I have had a question about the normal level of financing that we might expect for a seller to do. The reality is that the amount of financing that a seller has to do relates to two things; number one how quickly does the seller want to move the business? The biggest impediment to selling a business is the access to financing. So, when I was a business broker and I had sellers that wanted to sell a business very quickly. I would advise them that if they were more willing to hold more paper on the deal or do a bigger vendor take back. Then we would likely be able to sell the business faster.

The second consideration  involved is how many and what kind of tangible goods are included in this business sale? The amount of tangible goods included in this business is going to determine what kind of traditional or institutional bank financing that we are going to be able to obtain.  So, if there are hard assets in the business such as equipment, machinery, vehicles etcetera. Then we are going to be able to bring a traditional bank lender in; that means we are going to be able to get more traditional financing. We don't have to ask the vendor for as much vendor financing; now in the question it mentions 20% but in my experience I have seen across the spectrum. Equipment intensive businesses where the buyer had lots of money, the buyer was able to get bank financing. And basically asked for 10%-15% vendor financing just to give them a little bit more security and to give them all the positive advantages that I talked about in other videos about why you need to do a vendor take back when you are buying a business.

In other cases I have had service oriented businesses without a lot of equipment and material and they have sold with, I have had one that sold with 75% vendor financing. So, quite literally the buyer put in 25% and the seller finance the balance. There was even a period of time back after the financial crisis of 2009 were we did several deals in my business broker shop, without any banks involved at all. They were entirely deals with buyers and sellers where the buyer would put down money, either from saving or perhaps from a personal debt tool like a line of credit for example. They would put down their money and the vendor would finance the balance; and most of those deals it was between 40%-60% vendor financing, so there is no hard and fast rule when it comes to the amount of vendor financing that you might expect in a deal. Basically, it's completely up to negotiation and it is important that when you are buying a business that you ask, ask for the world. They are just going to say no, that is fine, that is part of negotiating.

And from the seller's point of view offering a greater amount of vendor financing can help sell the business more quickly. But more importantly, it can help you actually sell it for a value closer to its true value. Because, the difficulty of course is always getting financing for that goodwill component and no bank is going to finance a 100% of the equipment for example. So the buyer needs to have some equity to offset what the bank is going to give him and in order for a seller to enjoy that last  little bit of value to bring the price of the transaction up to where it should be if it is a profitable business. The seller has to be there to finance it, there is just no other place to get the cash and I have often had sellers tell me that they didn't want to finance a buyer when they sold their business. 

And I advise them that, quite frankly what would happen is because they weren't willing to finance buyers wouldn't be able to put a deal together. The business would sit on the market for years and years and eventually the seller would start to lower the price to the point where they would end up with the same cash on closing as they would have if they had sold years earlier and would have been willing to accept some amount of vendor financing. So, it is really a win win tool for both; it can help secure the buyers position, it can help offset some of the risk by transferring it from the buyer to the seller. I have explained that in other videos and really buyers should be asking for as much vendor financing as they can get. And sellers should be using vendor financing as a way to get the price that they are after.

Anyway, I hope that answers the question and don't forget if you enjoy my videos and you like what I have to say please share and like the videos that is how I grow my viewership and to make sure that you always get the latest stuff that I put out. Be sure to put yourself on my email list. I send out an email every week.          

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