I’m going to take you through what seller financing in the online business world is, how it’s used and most importantly, how you can best leverage this tool to get the best deal possible on an online business acquisition.
I’m George Moulos from Ecommerce Brokers, I’m an online business broker that has been helping people build, buy, and sell online businesses for over a decade. We’ve sold millions of dollars worth of online businesses and with our buyside service Elite Acquirers we’ve helped buyers acquire millions of dollars worth of online businesses.
1. What Is Seller Financing?
Seller financing is also called owner financing and in a simple definition it is where the seller of an online business will get an agreed upon portion of the price for the business upfront and then the buyer loans the remaining amount from the seller and that remaining amount must be paid back by the buyer to the seller over an agreed upon time, at agreed upon installments, sometimes with an interest rate and this does not depend on the post-acquisition performance of the business.
Seller Financing Explained in 5 Points:
1. Seller gives buyer a loan on a portion of the purchase price
2. The loan is paid over an agreed upon period of time
3. The loan is paid at agreed upon intervals
4. An agreed upon interest rate is applied to the loan
5. The buyer pays the loan no matter how the business performs
The seller is essentially acting as a lender taking the position that a bank would typically take. It is the most common online business financing and deal structure option in 2023 and almost 90% of deals in 2022 were reported to have involved some amount of seller financing.
To give you a real life example, we recently helped a buyer who we represented via our Elite Acquirers buy side program acquire a petcare business that was valued at $650,000 USD. He had $230,00 USD in available capital for an acquisition and so we negotiated seller financing on this deal. We agreed with the seller to pay 35% of the deal upfront and the remaining 65% amount over 2 years at quarterly installments at 2% interest. This seller financing tool massively empowers a buyer to make larger acquisitions and also derisk their deals.
For this reason seller financing has increased in popularity over the years!
When I, George Moulos, founder and lead broker at Ecommerce Brokers, first started selling businesses in 2012 seller financing was a rarity in deals. Nowadays it is the norm. The aggregator and covid ecommerce boom of 2020-2022 popularised the concept and took it from a financing concept that was used around 50% of the time to almost 90% of the time in 2022.
There are risks involved for the seller as you can imagine. There are pros and cons of seller financing and it isn’t all sunshine and roses. Let’s get stuck into the nuts and bolts of this tool so you can best use this tool knowing full well how best to use and what pitfalls to avoid.
2. What Are The Other Financing Options?
Before we start diving deeper than anyone ever has into the subject of seller financing lets start by comparing seller financing to the other ways to finance a deal first.
The reality is most people who want to buy businesses aren’t in the $1,000,000 to $50,000,000 USD range that some of our deals at Ecommerce Brokers are priced at. Most people looking to buy online businesses have $50,000 to $500,000 USD to make an acquisition. For this reason understanding the financing tools and identifying which would be best for you can make your starting capital 3 to 4 times more powerful. Let’s dig into what these options for buyers are:
- Earn Out:
- An earn out is where the buyer will pay for a portion of the deal upfront and the remaining amount will be paid as a percentage of revenue or profit over a period of time to the seller. This is a great tool, the optimal tool to de-risk a deal for a buyer, as you can imagine it isn’t a sellers preference. This type of financing is used when the business is either super young or very unpredictable. That’s why it is used for riskier deals. In an earn out agreement the buyer will estimate what the business should continue to do in terms of revenue and profit as a minimum and also what would be success in terms of growth. In that way earn out minimums and maximums can be set. In the event of minimums not being met a lower amount would be paid on that specific payment period. In the event revenue or profit has increased and reached the maximum goal, the seller will benefit from this and receive a higher amount for that period.
- Here is an example:
- A business might be worth $1,000,000 USD. The buyer agrees to pay $750,000 USD upfront and then pay the remaining $250,000 USD as an earn out over the following 12 months. The $250,000 USD value would roughly equate to the profit the seller would expect from their portion of the earn out deal. Some earn out agreements will be 50% earn out, 70% and even 100%. But the seller could receive little to nothing i the business tanks post acquisition.
- This is an old school method but is still sometimes used. This is essentially a loan against the buyers property, also known as a second mortgage. As you can imagine this method is greater risk as there is more at stake for a buyer.
- Family and Friends:
- Some buyers have the liberty of asking people they know to loan them the amount for the acquisition. If this can be a powerful tool
- Raising Capital:
- Raising capital from investors to acquire ecommerce businesses used to be a hard sell to the investor and VC world but during the aggregator boom of the 2020-2022 period this was all the rage and it seemed like anyone with a good powerpoint pitch could raise a few million dollars to acquire online businesses. This is still a viable option as mainstream investors who usually buy traditional brick and mortar businesses or retail businesses are looking to diversify their portfolios and get on the online businesses trend before they get left behind. That being said, they are looking for people they can trust and people with the right experience in marketing and ecommerce.
- If you have investors or VC connections this is a great way to find the startup capital to start your acquisition journey. That being said you are spending other people’s money and are responsible for bringing in a return for them.
- Retirement Savings and Funds:
- This is a method corporate professionals in their thirties and forties have used in the past to finance their acquisitions. For those with this risk appetite this is a good way to have a cash flowing business that can be used as an alternative to a 9-5 job and can be run from anywhere in the world and can be operated for decades into retirement.
- The simplest method of financing is of course going straight to your bank and asking for a small loan. Depending on your country, bank, assets, job and credit score this massively differs but is a powerful tool for the majority of business buyers in the USA who have access to this powerful tool.
- SBA Loan:
- A Small Business Administration loan is a business loan guaranteed by the US Small Business Administration and issued by their participating banks. They have quite stringent lending standards but if you do happen to qualify for a SBA loan you will then have access to low interest rates and healthy terms that makes them a great option to help in the acquisition of an online business. We’ll be coming out with an article and video on this specific method as it is popularly used in the online business buying world.
3. How Do You Structure A Seller Financing Deal For A Business?
Structuring a seller financing deal to suit your needs as a buyer and still be an deal that the seller will accept is the biggest thing you need to consider going into your first deal.
The structure of a deal shouldn’t just prioritise the paying as little as you can upfront. There are aspects and minor negotiations within the deal that can really change how the deal gets done.
The first thing to consider is how much can you, and do you want to put down as an upfront payment. That question is really answered by how much cash you have available for the transaction. If you’re planning to put your own cash down as the upfront payment, say $100,000 and that’s all you have to commit to the acquisition and business, I would put down a maximum of $80,000 or 80% of that cash as the upfront payment as there are minor expenses in doing a deal like broker fees, legal fees, transaction fees, escrow fees etc. The next thing you’ll want to consider is that the business may need cash flow to operate so having a few thousand dollars, or even tens of thousands of dollars may be necessary on day one of owning the business. If you have your $100,000 cash to spend on the business and are also getting $100,000 loan from a bank for example you have more money to put down in your upfront portion and more money to put towards the cash flow of the business.
Another thing to consider before locking in your upfront amount is that if you want to grow the business beyond what it is currently doing you’re going to have to set aside funds for this. Of your $100,000 USD cash you might set $10,000 USD aside for fees, $20,000 USD aside for growth and put down $70,000 USD as an upfront payment.
Seller Financed Portion
You’ve established that you can put down a certain amount of funds for your acquisition and now you want to see how much you can seller finance for your deal.
Generally speaking for a strong, stable and growing online business seller financing over 50% of the deal is a rarity and only done for sellers that are desperate to sell. Which is a major red flag. When you see “80-100% seller finance available” you really need to ask yourself why is such a great deal possible and available?”. It’s a major concern and should be seen with suspicion as it’s rarely the case where a good seller with a good business will give their business to you for nothing upfront.
That being said if you’re looking for a turnaround business and looking to fix or recover a business to its previous glory these sorts of deals are possible because sellers want to get the business off their hands for as little trouble as possible. Again, only possible when the sellers are desperate or completely time strapped.
With that being said if you are in the majority of business buyers looking for a healthy, growing, stable and defensible business from $50,000 to $50,000,000 USD you’re likely not going to be able to seller finance more than 50% of the deal. That does however set the standard for what is your best case seller financing scenario. 50%. Getting half of the deal financed is rare, especially if it is a good and growing business and the seller has a broker. If the business is declining or stagnating and the seller is unrepresented they do sometimes accept up to 50% seller financing.
The best method is simply to ask the seller if they would accept 50% upfront and 50% over a year. They’ll likely push back and tell you that they’re only comfortable with 30-40%. 30% or 40% seller financed is the average across the industry. From the top ten online business brokerages, like Ecommerce Brokers and the marketplaces 30-40% is what is usually seen as a fair and reasonable amount to seller finance. The bigger the deals get, going into the one million plus range, the smaller the percentage is usually accepted to be seller financed.
The 30-40% mark should be your goal and rock bottom deal that you should offer a seller.
4. What Is An Example of Seller Financing?
Back to our example. If you have $100,000 USD in cash, $70,000 to put down as an upfront payment, then you can ask and expect to buy around the $120,000 to $100,000 mark. That will mean the deal looks like the below:
- $120,000 USD valuation
- $70,000 USD paid upfront
- $50,000 USD paid over a year
- Quarterly installments of roughly $12,500 plus interest
- 5% Interest
- $10,000 for fees (legal, broker, escrow, transaction etc)
- $20,000 for growth
This is what you can expect from an average deal of this size.
5. Benefits of Seller Financing
The biggest benefit of seller financing is that you can acquire a bigger business that is generating better revenue and net profit than you normally would be able to. This means that after your repayment period you will fully own your own business that is generating, on average 30-40% more revenue and profits than you would have been able to. It can take some buyers 1-3 years on average to grow an acquired business by 30% to 40% on the conservative end. Being able to do that within 12 months or shorter right off the bat with seller financing makes it clear why seller financing is used in 90% of deals these days.
The other big reason to use seller financing is the derisking power of it. There is always inherent risk in buying a business. We as buyers can conduct as much thorough due diligence as we want during the preliminary and later due diligence phase but the reality is that as many tax returns, expense reports, profit and loss sheets, PayPal and Stripe statements we view we can never 100% guarantee the health, stability and return on a business acquisition.
We’ve been lucky enough in our ten years of helping people buy and sell businesses that we’ve never seen a business fall apart right after an acquisition but we have heard about these horror stories. This isn’t always because the seller has withheld information or because they were misleading. Often it is a change in the industry or regulation. We all look back at covid as a good time for ecommerce but for a buyer who acquired a travel accessory business this was a major catastrophe and lead to their new acquisition from a marketplace going from $140,000 in profit a month to less than 5% of that. Many brokers also know of another acquisition of a keto brand that 2 weeks after acquisition the FDA sent a cease and desist to the business and revenue went to $0.
Taking this into consideration seller financing can help hedge risk and divert payment over a longer period of time.
6. Should YOU Use Seller Financing?
There is of course risk involved in any acquisition of an online business and seller financing isn’t for everyone. It is for buyers who want to make their dollar go further and really want to leverage their upfront funds in an acquisition. There is of course still risk involved.
Don’t forget, some sellers, usually of the best and strongest businesses won’t be interested in seller financing much or any of their business. So if this is one of your requirements for a deal it might mean you simply have to buy a smaller business.
My personal opinion, is that if you’re a serious online business buyer you must look to seller finance between 50-10% of any deal you do. More than anything it shows that the seller has faith in the business. It’s a major green flag.
7. Don’t Forget About Working Capital!
This is the mistake first time buyers make when they close their first acquisition, especially those buying without a buy side broker. Luckily you don’t need to fall into that trap as you’ve got access to Ecommerce Brokers Elite Acquirers Service. We help buyers source, analyse, negotiate, close and then strategise growth for their acquisitions. Feel free to check out a testimonial from one of our buy side clients below:
This big mistake is that buyers will commit almost 100% of their funds to the upfront payment in a seller financed deal and leave no funds for the working capital the business will need for it’s operation, let along for its growth!
This can lead to the business immediately falling into a 3-4 month slump post acquisition as the working capital needs to be built back up, at the same time the seller financing repayments need to be made. This is added pressure on a buyer that can easily be avoided.
8. How To Show You’re The Right Buyer to A Seller?
Now that you’re well equipped with your seller financing tool and your upfront cash payment structure in hand you now need to show that you are in fact a good buyer to a seller. You’re now in competition with a long line of other buyers who want to seller finance a deal just like you and don’t forget some buyers will have the ability to pay 100% of the deal upfront.
The question we need to ask ourselves is “What can we do to show that we are strong buyers to a seller to close a deal over other seller finance options?”. The answer is more important than you might think because in a seller financed deal it is more than just your money that the seller is interested in. Your experience as a successful marketer, ecommerce business operator and professional is vital for a seller to know and understand because over the seller finance period they need to know and be confident that you will make the repayments.
Here is an example that does and can happen:
- Buyer One is willing to pay 90% cash upfront and 10% over a year for an acquisition however has zero ecommerce business experience, no experience in running ads and has never seen a Facebook or Shopify backend. However this buyer has the funds secured from an investor.
- Buyer Two is an ecommerce professional who has operated multiple ecommerce businesses and owns a marketing agency that specialises in ecommerce businesses. She has a team ready to deploy on her acquisition to grow the business and has a spare $100,000 USD that she plans to invest in the businesses growth. However she has offered the same price and only 70% cash upfront and 30% over a year in seller financing.
In these cases a seller tends to go with option 2. This is why presenting yourself, and of course being a competent buyer with a growth plan is of the utmost importance in securing a deal.
9. How To Write Up a Seller Financing Agreement?
You’ve done the hard part of finding a business and seller that agreed to your seller financing terms and now you need to put it in writing.
First things first, get a good ecommerce lawyer or attorney. This is vital. A standard lawyer or attorney with no experience putting together online business sales will likely charge you way too much, over analyse and complicate the deal and in some cases completely destroy the transaction. There is a growing pool of highly competent ecommerce lawyers in the USA, Canada and Australia with Europe quickly catching up.
These lawyers are efficient and competent. They’ll put together your seller’s note (seller financing agreement) and should also be the attorney you use to write and complete your sales agreement or asset purchase agreement.
In this agreement they will set out what you agreed upon with the seller regarding price and seller financing terms. The smaller items will also be finalised. These smaller points include what interest rate should be applied to the seller financed amount, what frequency the payments should be made, on what dates, to what bank accounts etc. Most importantly for a seller they will also stipulate what happens if the buyer fails to make payments. This is usually up for negotiation. Sometimes a penalty will apply that the buyer must pay. In other cases sellers will request assets of the buyer be used as guarantees for the financing amount, although rare. In some cases, usually for smaller businesses, the seller will request that if the payments fail to be made, they will buy back the business for a reduced amount or get it back for free.
This agreement is critically important to secure your interests and the interests of the seller.
10. Questions and Answers:
A. Is Seller Financing Risky?
Every online business acquisition, business acquisition and investment has it’s own risk profile that every buyer should evaluate and compare to other opportunities, but when it comes to seller financing it is more of a derisking measure than anything else and should be seen as a helpful derisking tool that all buyers should utilize.
B. Is Seller Financing A Good Idea For Seller?
This is a great question that sellers really should consider. The answer is YES! For sellers they may thinking that they won’t seller their business unless they get 100% cash at close. This is a privilege that most sellers unfortunately can’t expect. Most sellers don’t have a sustainable, stable, growing, defensible and aged online business that is in that top 10% of businesses that sell and don’t need seller financing to get a deal done.
Most sellers will require some form of seller financing to get a deal across the line. For that reason seller financing is a good idea for a seller.
C. Top 10 Do’s and Don’ts of the Seller Financing Process
- Use an online business broker to source and negotiate your deals
- Set aside some of your upfront cash for working capital
- Set aside some of your upfront cash for transaction fees
- Set aside some of your upfront cash for business growth
- Be a hard negotiator and ask for as much as 50% seller financed and work your way down (you’ll be surprised what sellers are up for and the worst they can say is no!)
- Get a good ecommerce focused lawyer to write your seller note and agreement
- Be transparent and open with your seller post acquisition
- Make your repayments a week or two early if you can
- Don’t work with a seller that is difficult or stubborn even if it is a good deal, you’ll need to work with them for many months to some degree
- Don’t use seller financing if you can’t take on the risk of potentially not being able to make the repayments
- Don’t look for only 80-100% seller financed deals as this will get you only low quality businesses
- Don’t forget about extra expenses post acquisition
- Don’t forget to have plan B and C if you can’t make the repayment from the profits of the business
- Don’t overlook professional advice fro bankers, brokers and lawyers
- Don’t jump on the first deal you find
- Don’t forget about some deals forever just because they rejected your offer. Check back in after a month or two
- Don’t present your experience as a buyer poorly
- Don’t present your post acquisition plans poorly
D. What Is The Downside Of Seller Owner Financing For The Seller?
Risk that the buyer doesn’t make the repayments and defaults on the seller financing loan. This is why it is important to have a strong seller financing agreement or sellers note so that you are protected
E. What are the tax benefits of seller financing?
Although you’ll need to talk to your accountant to fully know what you’ll be taxed and if it is more or less, generally speaking for a seller, seller financing arrangements lead to reduced taxation as a whole over the business transaction compared to a 100% sale.
F. What Is The Difference Between Owner Financing and Seller Financing?
They are different terms for the same thing.
G. What is SBA Seller Financing?
SBA loans or small business association loans are available to those who qualify in the USA. This is different to seller financing. You could use part of your own cash, part of a SBA loan and part seller financing for a deal. It does mean increased risk.
H. Can You Finance An Online Business?
Absolutely you can. Financing an online business acquisition is the most popular method of acquisition in 2022 and 2023. Financing an acquisition in some way or another is important for a buyer to make their initial acquisition capital as powerful as possible and to de-risk their acquisition.
In conclusion seller financing is a powerful tool that almost all sellers are using to increase their business buying power and you should to. As mentioned above you must ensure you have the right research done and have professionals to consult in the field. This is why using a buy side broker like our brokers at Ecommerce Brokers buy side service Elite Acquirers is such a powerful tool for buyers that online business acquirers have been using for years.
If you’re looking to make your first acquisition, or if you’re looking to add your third, tenth or thirtieth business to your portfolio and want to get experienced and efficiently sourced, negotiated and closed online businesses feel free to contact us here and book a call.
Feel free to look at our other articles and videos on how to buy and sell online businesses on our YouTube channel below!