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7 things to do before signing a Letter of Intent
You may be years away from selling your business, but it’s never too early to understand what the process involves. If you have ever promised your child a treat in return for good behavior, you know all about negotiating leverage. When selling an attractive business, you also have leverage....but only up to the point where you sign a letter of intent (LOI), which almost always includes a “no shop” clause requiring you to terminate discussions with other potential buyers while your newfound “buyer” does due diligence.
After you sign the LOI, the balance of power in the negotiation swings heavily in favor of the buyer, who can then take their time investigating your company. At the same time, with each passing day, you will likely become more psychologically committed to selling your business. Savvy buyers know this and can drag out diligence for months, coming up with things that justify lowering their offer price or demanding better terms. With your leverage diminished and other suitors sidelined, you are then left with the unattractive options of either accepting the inferior terms or walking away.
Here are seven things you can do, before you even put your business up for sale and before signing an LOI, to minimize the chances of your deal dragging on for too long and becoming watered down:
1. Make sure your customer contracts have “successor” clauses.
Ask customers to sign long-term, standardized contracts when possible. In the contract, include a clause stating that the obligations of the contract survive any change in company ownership.
2. Nurture and prepare a group of 10 to 15 “reference-able” customers.
Acquirers will want to ask your customers why they do business with you instead of your competitors. So consider cultivating and nurturing a group of customers to act as references during due diligence.
3. Ensure your management team is all on the same page.
During due diligence, acquirers will want to interview your managers without you in the room. They want to find out if everyone in your company is pulling in the same direction.
4. Consider the quality of your financials.
An acquirer will have more confidence in your numbers and will perceive less risk if your books are reviewed or audited by a recognized accounting firm. At the very least, you'll want your accountant to produce "compiled" financials for you.
5. Disclose the risks up front.
Every company has some risk factors. Disclose any legal or accounting “hiccups” before you sign the LOI.
6. Negotiate down the due diligence period.
Most acquirers will ask for a period of 60 or 90 days to complete their due diligence. You may be able to negotiate this down to 45 days, or perhaps even 30 days with some financial buyers. If nothing else, you'll alert the acquirer to the fact that you're not willing to see the diligence drag out past the agreed-to close date.
7. Make it clear there are others at the table.
Explain that, while you think the offer they are making is the strongest and you intend to honor the “no shop” agreement, there are other interested parties at the table.
If you take all seven of these steps, you will protect the value of your business as the balance of power in the negotiations to sell your company swings from you to the buyer.