- The seller( typically) only wants to hold a note for three to five years, which decreases the annual cash flow to the buyer due to the higher payments. Typical SBA loan terms are 10 years.
- The seller feels he has a right to review the financials of the business and has some type of interest in the operation moving forward. This creates many different concerns between the buyer and seller post closing.
- The buyer gives up negotiating advantages when determining the selling price of the business. Typically, the buyer gets a better price for an all cash transaction and the seller no longer waits to collect his funds.
As a major broker advocate, we also see the sellers, when including a seller financing note, require the broker to either negotiate their fee or assist in the financing of that seller note. Again, both of which we are strongly against.
With all the above said there are times we support and even suggest seller notes and here are the scenarios we feel them to be appropriate:
- To assist in bridging a down payment (equity) gap or shortfall. (As of 2018, this note must be on full standby for the full loan term to be considered equity)
- To reduce the annual debt service to allow the lender coverage ratios to become acceptable when securing an approval.
- To allow an aggressively growing business to sell for slightly higher than it would normally be sold for.
Earn outs have been against SBA rules for many years now, but we feel there are times when this is the most appropriate method for faster growing companies. In these cases, based on specific criteria, we do support “forgivable” seller notes, not to be confused with a standard seller note. A forgivable note is one that includes milestones, or revenue targets, that would allow a portion of the note to be “forgiven” if the business does not reach those preset goals. I’m not going into the details in this writing, but I wanted you to know that these are an option in certain transactions.