Purchase Considerations in M&A

Purchase Considerations in M&A

Marjory Loebe


December 19, 2022

You’ve decided to sell your privately-held business. You’ve refined all your business processes and procedures, and the company financials are all in line. You’ve had a professional M&A Readiness Valuation performed on your business, established realistic goals and expectations, and selected a highly-qualified M&A Transaction Advisor who has helped you source a buyer. Now what?

When it comes time to review the various forms of purchase consideration, it is important to understand the various forms and determine which will benefit you the most based upon your personal goals. In some cases, it will be a straight-forward purchase, but in other cases, the terms will be more intricate. Knowing this information will help you at the time you and your advisory team are determining which suitor is the best candidate to succeed you and are negotiating final terms with this buyer and their team.

In the context of an acquisition, purchase consideration is the total payment made by the buyer to the seller based on the agreed-upon value of the business (aka Enterprise Value) and typically includes both cash and non-cash considerations. Non-cash considerations can include securities, financial instruments, equipment, and other assets that are agreed upon by both parties.

Let’s review some purchase considerations and how they would benefit you.

Cash at Close

Cash at close consideration is self-explanatory. It’s the amount of cash a buyer will pay the seller at the time of closing. This is obviously the most desirable form of consideration for a seller because there will basically be no delay between deal close and receipt of the payment. However, I have experienced only a very few instances where a business purchase will be exclusively a cash-at-close scenario.

Deferred Consideration

Deferred consideration can be in the form of an earn out or a seller note. Since deferred consideration is usually paid out with future cash flows of the business, this form of purchase consideration can ease a buyer’s concern over any equity gaps the seller may have.

Earn Out

An earn out is deferred compensation that is dependent on the business reaching certain milestones, achieving certain performance or retention obligations, etc. Earn outs are not guaranteed payments, which makes them both deferred and contingent.

Seller Notes

A seller note essentially means the seller is self-financing all or part of the transaction and involves fixed amounts of cash paid from buyer to seller over a specific period. Seller notes are most common in small business transactions since attractive seller financing often translates into a higher selling price than an all-cash deal.

Seller notes are also often used when a business has challenging characteristics – for example:

• There is high customer concentration

• There are additional capital growth needs

• The business is highly capital intensive

• The business is cyclical in nature

• There are unpredictable or seasonal revenue patterns

Amortized Seller Notes: When a buyer is not able to finance an acquisition in full, a portion of the acquisition can be funded by the seller. The buyer repays principal and interest to the seller over a fixed amount of time. This is often referred to as an installment note. The repayment period could be 5, 7, or 10 years and is utilized to maximize leverage and reduce the amount of required buyer equity. This type of consideration can prove beneficial to a seller in search of residual income and the potential tax benefits of receiving payment over time instead of in a lump sum. Amortized seller notes are also looked upon rather favorably by lenders who can see that the seller still has “skin in the game.”

Forgivable Seller Notes: Much like an amortized seller note, a forgivable seller note requires repayment of principal and interest over a fixed period. The difference is there are trigger events that could make the debt forgivable. An example might be retaining the top three customers for the next two years after closing. As a seller, forgivable seller notes will benefit you most if you have a buyer that is hesitant or less interested. A forgivable seller note consideration serves to mitigate key risk factors for a buyer that could adversely impact the value of the business moving forward.

This list is not exhaustive but covers the most often used purchase considerations in the sale of a business. Armed with this information, you will hopefully be better equipped to negotiate terms that meet your personal goals and are favorable to you. A qualified M&A Advisor will always provide you with guidance on the pros and any cons of each consideration, but it never hurts to know what to expect at the time of negotiations.

If any of this resonates with you, we encourage you to take our M&A Discovery Questionnaire and talk with us to see if your business makes the cut as one who can still command a great exit in this M&A environment. We will be in touch quickly to discuss the results. Click here to take the assessment.

Gilbert & Pardue Transaction Advisors (GaP) is a Houston-based business advisory firm serving lower middle market and middle market business owners from coast to coast through representation for Mergers & Acquisitions (M&A).

Matt Gilbert and Bret Pardue established GaP to provide owners of lower middle market and middle market businesses – those businesses generally enjoying annual revenue of $10-$80 million – with the quality of M&A representation and value-enhancement services previously only available to upper middle and large businesses. GaP brings highly experienced executives, sophisticated financial and marketing products, proven-effective processes, and fully-integrated expertise to every engagement. No other M&A firm serving the lower middle and middle markets provides the quality of representation and transactional expertise that we do.

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