How common is seller financing in a deal?

April 15, 2021

by a searcher from IE Business School in Montreal, QC, Canada

Hey everyone,
I have been looking for data on how common it is to get seller financing in a deal and at what percent of the total entreprise value and approximately what interest rate, any good links or recomendations?

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Reply by a searcher
from Babson College in Boston, MA, USA

Comments above covered this pretty well. Two quick additions: (1) Look at you debt service coverage ratio and your FCF available for growth. Your first year is the riskiest as you’ll be the least experienced. The first year is often a year to learn about what you bought, save up cash to apply in year 2 for whatever application raises EV the most (organic/inorganic growth, retire debt, or some combo). Your DSCR determines how much cushion you’ll have. Seller Notes can help. Deferring payment on principal and possibly interest can allow you to have a higher DSCR in year one, The size of the Seller note often matters less than the amortization schedule and whether or not you can set off claims against it. The Seller note is your margin of error against the Seller not representing material aspects of the business accurately. Size matters, but terms and claims set off matters at least as much.

lastly, note size increases as the variability of earnings increase. Notes are sized to bridge the difference in valuation between the best years earnings, and the average/worst earnings years.

This should show up when you model base/best/worse case scenarios. You’ll need to size the note to ensure you can service your senior debt payments under your worst case scenario.. This means you’ll increase the % of seller debt until you can maintain a 1.5 DSCR under your worse case.

Reply by a searcher
from IE Business School in Seattle, WA, USA

Hi Amanda. I think you will find a lot of variability in what Sellers will agree to, but I usually start negotiations at###-###-#### % of the purchase price, with my goal being to end up with at least 10% of the purchase price as a Seller Note. I start high & work down because it can be an "easy give", & it's much harder to start low & increase later. As for interest rate I usually set it slightly below whatever my senior creditor is offering on their loan, with the goal of not exceeding the senior note rate. Sellers don't like this & usually ask for higher interest rate since they're taking a subordinated position, however I simply tell them my bank isn't ok with someone else getting a higher rate (regardless of whether the bank actually feels this way or not). On the few deals I've looked at where the Sellers won't finance any of it, I walk away from the deal. It's a red flag for me, but it's also difficult to find an SBA lender who doesn't want some form of Seller financing. I've also found a lot of variability on the term of the Seller Note, & whether it's interest only, full standby with balloon, or normal amortization. This is all up for negotiation just like any other deal term, so it will ultimately come down to what you & the Seller can agree on. Good luck!

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