Making an Offer to Buy a Business
Have you been thinking of buying a business and finally have a business you are interested in buying? The next step is drafting an initial offer to let the seller know your interest in buying the business. This initial written offer is known as a letter of intent. As a buyer, it puts your proposal in writing. A “letter of intent” is not a binding legal document but rather a document to lead to a discussion and then to a formal purchase offer. Below we discuss items to include in your letter of intent and steps to make an offer to buy a business.
Items to Include in a Letter of Intent
A letter of intent can include many different items such as price, purchase structure, terms, and conditions the potential buyer is proposing. Putting these items in writing can help the seller clearly understand and thoughtfully respond to your proposal. Be sure to include an end date of sale and the date during which the offer is good.
When you present an initial offer to buy a business, you should not offer an unrealistically low price nor your best offer. With the first, the buyer may throw it out immediately without consideration. With the latter, the buyer may have little room to negotiate the price or other terms. The initial offer is typically lower than you think you will end up buying or selling the business for.
In deciding your initial offer, it is wise to consult with your lawyer, broker, and potentially obtain a business valuation to understand the value of a company. However, many buyers opt to wait till the due diligence process before obtaining a business valuation. Peak Business Valuation, business appraiser Utah, is here to help you understand the value of a potential business you are looking to buy.
The letter of intent should include details about the proposed payment structure. This includes how much cash will be put down as closing for a down payment, what kind of financing is necessary, and if a percentage of that is through seller financing. See Structuring a Business Purchase for more information.
Next, the buyer will propose the purchase structure. In most cases, small businesses sell as an asset purchase but sometimes the transaction is structured as a stock purchase. For more information on purchase structures, see Asset vs Stock Purchase.
Terms and Conditions
A letter of intent may include several other terms and conditions. Here are just a few of the terms and conditions it may include:
- Any exclusions or additions to the business offering
- Who and how the current liabilities will be paid?
- A reasonable time frame for the due diligence process
- A statement of confidentiality when reviewing private information and financial statements
- Cancellation options and a nonbinding agreement clause
- An exclusivity agreement during the due diligence process
- A requirement for the current owner to maintain “business as usual” during the sales process
- The offer is contingent on obtaining the needed financing
The letter of intent will also stipulate that all the information provided by the seller is accurate including financial information, assets, equipment, inventory, licenses, leases, etc.
Seller’s Future Involvement
Last, a buyer’s proposal typically outlines an after-sell transition period for the seller. This may include ongoing involvement in the business if a large portion of the transaction includes seller financing. Many buyers also request the seller to sign a non-compete agreement for a certain period.
Post Letter of Intent
Once the buyer makes an initial written offer, the transaction usually goes into the negotiation phase. During this phase communication between the buyer and seller is critical. More than likely there will be a counteroffer to the original offer. As a buyer, you can either accept this offer or continue counteroffers until the price and terms are acceptable to both parties. For negotiation strategies, see Negotiating a Business Purchase.
The Purchase Offer or Agreement
Once both parties agree to a price, terms, and conditions, the next step is drafting and signing the purchase offer or agreement. This is a more comprehensive document that details the negotiated terms and conditions. It includes all terms, conditions, warranties, conditions, assets, financing, transitioning, etc. Once both parties sign the Offer to Purchase, this document becomes legally binding.
Due Diligence Process
Once the buyer and seller agree to the purchase offer, the due diligence process begins. An important piece of the due diligence process is obtaining a business valuation. A business valuation can help you understand the strengths and weaknesses of the business and help you understand the fair market value of the business. Working with a business valuation expert like Peak Business Valuation, business appraiser Utah, can be invaluable in analyzing financial statements and reviewing the company’s operations. They may discover items that may warrant a reduction in the purchase price. For more information see Due Diligence Checklist: Buying a Business.
Involve an Attorney and Broker
As with any legal document, review the letter of intent with your attorney and broker. Making an offer to buy a business comes with many legal and financial implications.
Becoming as informed as possible in all aspects of buying a business can increase your chances of successfully buying the company and ensuring a smooth transition. We love educating business buyers and helping them understand the value of the business they are looking to purchase.
Peak Business Valuation, business appraiser Utah, loves to work with individuals looking to buy a business. We are happy to discuss any questions you may have. Please reach out via email or by scheduling your free consultation below.
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