Negotiating the Terms of Your Exit

What to prioritize when selling your business

By Andrea N. Canfield

t is estimated that 40 percent of small business or franchise owners in the United States are “Baby Boomers,” people born between 1946 and 1964. It is further estimated that between now and 2030, roughly 10,000 Baby Boomers will retire each day.

As a result, experts predict that all industries will experience an unprecedented increase in the purchase and sale of businesses. For contractors in Alaska, the retirement wave is not only being driven by the age of business owners but also by labor shortages, supply chain delays, and all of the challenges caused by inflation.

So, with retirement top-of-mind, how do contractors prepare to exit their business? The answer for most is to get a good deal for the business that they built (or that their parents built) from the ground up.

In my experience as a deal attorney on some of the largest transactions in Alaska, getting a good deal requires business owners to prioritize a few considerations early on in the negotiation process. This article will examine those considerations and suggest ways in which contractors can successfully negotiate a good deal for their business.

Before selling a business, it is important for a business owner to negotiate and understand the terms of the sale. Often parties will verbally negotiate the high-level terms and ask lawyers to fill in the holes in the purchase and sale documents. While that approach may seem helpful in keeping the transaction quick and informal, it usually leads to confusion, delays, and re-drafting.

As an alternative, business owners should request a written term sheet or letter of intent that will serve as the basis for the negotiation of the sale. Term sheets are largely non-binding, with only a few provisions—such as those related to confidentiality, expenses, and exclusivity—that impose enforceable obligations on the business owner and the buyer.

Although they are non-binding, term sheets are signed by each party to the sale and therefore provide written evidence of the parties’ discussions. A term sheet is a great way for business owners to avoid lengthy negotiation on terms that were tentatively agreed to by the parties.

A business can be sold in a number of different ways. To name a few, a business owner can (a) sell the business assets or (b) sell the ownership interest in the entity that owns the business assets or (c) merge the entity that owns the business assets with an entity owned by the buyer.

In addition, a business can be sold on the same day that the purchase and sale documents are signed or on some other day in the future after the purchase and sale documents are signed.

Regardless of the business at issue, the way in which the business is sold—or the structure of the sale—often determines the number of purchase and sale documents, the amount of detail needed in the purchase and sale documents, and the time that it will take to complete the sale.

As a result, it is important for business owners to think through the pros and cons of the various structures that are available to them for the sale of their business.

Purchase price discussions are typically the most important discussions to business owners as they prepare to sell their business. In fact, the purchase price often dictates the negotiation environment.

For instance, if the business owner is happy with the purchase price, the business owner may “give” on a lot of the other terms of the sale. However, it is common for business owners to tie their happiness with the purchase price to the amount of cash the business owner is to receive at the close of the sale. In short, if the purchase price involves deferred or contingent payments, business owners tend to be less happy with the sale.

While many business owners live by the adage “cash is king,” business owners who are open to alternatives to all cash at closing have an opportunity to gain significant negotiation leverage. Purchasing a business involves risk, especially in our current economic climate. If a buyer of a business can reallocate some of that risk by either paying a portion of the purchase price a year or two after the sale closes or conditioning a portion of the purchase price on the performance of the business after the sale, the buyer will be much more likely to agree to the purchase.

So, if a sale is the ultimate goal, business owners should consider alternatives to the traditional all cash at closing model.

As more business owners contemplate selling their businesses to retire, the transition period—or the time period after closing that is required to successfully transition a business from the business owner to the buyer—has become an important aspect of negotiating the sale. Buyers often require business owners to remain employed by the business for a set time period after the close of the sale to minimize the risk of losing customers and employees.

Although that requirement is logical, business owners who are focused on retirement tend to refuse to accept it as a condition of the sale. As an alternative, business owners should consider significantly limiting their commitment to the business and the buyer during the transition period by including a cap on the amount of hours the business owner must be in the office or actively working for the business or by structuring the commitment to be an informal consulting arrangement.

In sum, negotiating a successful exit requires thoughtful planning. If an exit is in your future, you should start planning now.