Vendor finance is an arrangement whereby the vendor agrees to lend all or part of the purchase price to the purchaser over an agreed timeframe with set terms and conditions. This is one of the best declarations of good faith a Vendor can provide a Purchaser in support of the continuing earning power of the business.
The terms of the loan from the Vendor to the Purchaser normally include.
- The amount of the loan
- The rate of interest to be charged on the loan (if any)
- The rest (interval) period of the interest calculation
- The amount of repayment if interest and principal
- The dates on which the repayment is to be made (repayment schedule)
- Provisions for early repayment and for default of repayment.
Benefits to Purchasers
- Provides confidence about the business
- Reduces/Mitigates Risk
- Cash can be used to develop and grow the business
- Provides finance to buy the business when unable to source funding through traditional lenders such as banks
Benefits to Vendors
- Attracts more buyers
- Can drive price higher
- Receive higher interest rate compared to bank deposit rates
- A way of securing a sale when banks’ appetite for lending is low ( start-up business, poor financials, poor economy)
Structure examples for Vendor Finance
- Interest only with one principal payment paid at the end of the term
- Interest and principal paid over agreed timeframe; monthly, quarterly etc
- Stock Draw Down only
- Earn Out Formula – payments based on a financial performance of the business
When would Vendor Finance not suit the Vendor (all cash required)
- Money required for new venture / acquisition
- Retiring
- Emigrating
- Lack of confidence in Purchaser’s ability
Where is the protection for the Vendor?
It is common for a GSA (General Security Agreement) to be drafted up by the vendor’s lawyer. This GSA will normally be held over the assets of the business or private assets owned by the vendor or a combination of both. The GSA can also be held over the whole business.
When offering a loan to the purchaser to buy the business both parties need to be confident that the business is financially capable of servicing the debt and can meet the obligations as set out in the terms and conditions of the loan.
Vendor finance is common practice in other countries such as USA where approximately 70% of privately owned SME’s sales include some portion of lending by the seller to the purchaser.
For more information on selling your business or a business valuation, get in touch today.
