By Brian Slipka-CEO of Sunbelt Business Advisors of Minnesota

Click here to read the original article published by Forbes

When business transitions take place, several things can go wrong. Oftentimes, business buyers fail to secure capital, deals fall through at the last minute, or buyers try to change the terms at the eleventh hour. A grasp of the fundamentals of a sales structure can help alleviate these potential challenges.

In my years of experience leading companies through various transitions, including acquisitions and sales, I have seen what it takes to prepare a deal that satisfies all parties involved. Selling a business involves more than just the price; while price is a crucial factor, it is only one of the four essential components of a business sale that require careful consideration.

These components play a significant role in determining the post-sale tax implications. A competent deal team, which includes professionals such as an attorney, accountant and business broker, should possess a thorough understanding of these components.

1. Transaction Structure

Many small-business transactions are asset sales. In an asset sale, the seller retains the existing legal entity and sells both the tangible and intangible assets of the business. The buyer obtains these assets through a newly established entity.

In a minority of transactions, small businesses undergo a stock or equity sale. In this scenario, the owner sells the company shares or member units to a new owner, transferring all assets and liabilities to the buyer, unless explicitly excluded.

Not surprisingly, most small-business buyers favor an asset sale to steer clear of potential undisclosed liabilities that may have arisen under the current owner.

In both asset sales and stock sales, it is critical that the parties define what is included and what is excluded from the transaction. In most cases, these are “cash-free/debt-free” transactions. The seller retains all the cash in the business and delivers the business free and clear of all debt.

2. Sale Price

Upon accepting a buyer’s offer, an owner commits to the proposed price; however, there is a possibility that this figure might undergo changes before the closing date. Throughout the due diligence process, the buyer might discover undisclosed issues with the business. If these issues are materially significant, the buyer may request concessions. This is where effective negotiation skills come into play.

The price will likely be pegged to the company’s financial performance. If this performance declines, it is likely that the buyer will ask for a price reduction. Sellers who anticipate a decline during the due diligence period should disclose this in advance of accepting an offer and understand the implications.

An owner might choose to make a minor concession on the price while simultaneously insisting on a more advantageous tax allocation. This strategic move aims to decrease the tax burden and ultimately can result in similar or even larger overall proceeds.

3. Allocation Of Purchase Price

It’s not what a business owner sells for, it’s what the sale nets. This component is often misunderstood and overlooked by business owners. Tax allocation should be taken into consideration for both tangible assets like equipment and real estate as well as intangible assets like goodwill. Allocating the price of these different types of assets will have a significant impact on net after-tax proceeds. A business seller should understand the net after-tax proceeds before accepting an offer.

4. Terms

This component refers to the payment arrangement for the business acquisition. All-cash transactions are infrequent. Even in bank-financed deals, the banks prefer that sellers carry 10% or 20% in seller financing to be paid by the buyer over several years. Seller financing signals to both banks and buyers that the seller believes in the future of the business.

A flexible payment structure can close the gap between the buyer and seller on price, enhancing the attractiveness and feasibility of the transaction for both sides. Additionally, seller financing has the potential to generate significant interest earnings for the seller and, in many instances, deferred taxes.

In the process of selling a business, understanding the fundamentals of a sale structure is critical to navigating potential pitfalls. Beyond the headline price, the transaction structure, sale price negotiations, allocation of purchase price, and payment terms all play pivotal roles.

A well-crafted sale structure is not just about closing the deal; it’s about maximizing an entrepreneur’s life’s work.

The information provided here is not investment, tax or financial advice. You should consult with a licensed professional for advice concerning your specific situation.

About Sunbelt Business Advisors of Minnesota

The Sunbelt Business Advisors Minneapolis office is the largest office in the Sunbelt network with a staff of over 50 advisors, associates, analysts, and business development representatives. In 2021 the firm was recognized by the International Business Brokers Association as the #1 firm in the country and the first firm in history to sweep all three first-in class awards. Sunbelt provides services to business owners interested in selling their businesses, assistance with merger and acquisition activities, complimentary business value assessments, and advice to business owners seeking to maximize their life’s work when they exit. The firm provides business brokerage and mergers & acquisitions services for companies with revenues from $500,000 to $150 million. More information is available at www.sunbeltmidwest.com (<Under $5 million revenue) and www.tnma.com ($5 – $150 million in revenue).