Funds for Business Purchase - Seller Financing

My favorite bed and breakfast was sold last year to a nice couple. I talked with the new owners, who were very excited to own this great business. They said, "We're in it for the long run." Well, the "long run" proved to be less than a year. The business is now back to being run by the original owner. What happened? The seller had to take back the business because she had provided the loan to the buyers: Seller financing.

Seller financing is just like it sounds; the seller acts as a banker, allowing the new owner to pay back the purchase price or the value of the business assets over a period of time. One variation is called an "earnout," meaning the buyer pays back the seller based on the earnings of the business, over a period of time. The better the earnings, the faster the seller gets his/her money back. Earn-outs are a good incentive for buyers to work on a smooth transition and to keep the buyer interested in the company.

Here are some benefits and drawbacks of seller financing:

Benefits:

• As I mentioned above, seller financing keeps the seller motivated to help the business succeed.
  
• It allows the new business owner to buy a business without having to go to a bank, a definite advantage in a tough credit market.
  
• Since the business is purchased over a period of years, on "installment," the seller can spread gains over this time, instead of taking the gain in one year.
  
• The deal can be structured any way the two parties agree to, for payments, interest rates, loan period, or any other details.

• If the buyer has no security interest in the deal, he/she has less incentive to work hard. The seller may have to spend more time and energy getting the business going and keeping an eye on it.
  
• The biggest drawback is illustrated above. If the buyer walks away or runs the business aground, the seller is forced to take back the business and get it running again, or lose the investment. This may be tough if the seller has retired and moved to Florida, or is physically unable to take on the challenge again.

If you are buying a business, ask the seller about the possibility of financing. If you are selling a business, consider financing. In either case, seller financing might be the only way a business sale will be accomplished in these tough times.