Becoming a Better Business Broker Day 8: Navigating the Legal Landscape

April 19, 2024

Welcome back to Becoming a Better Business Broker in 30 Days!

This concise series title describes exactly what we hope you get out it - becoming a broker that can close more deals with less work.

If you missed yesterday, check out Managing Post-Sale Transitions.

Before we start today's topic, Navigating the Legal Landscape, we want to re-iterate our promise from yesterday - we will try (our best) to make this topic entertaining.

You'll want to pay attention as, in some ways, there is a lot of 'legal' work that we do as business brokers.

But don't get it confused, we are definitely not lawyers, no matter how much you told your parents you, "just weren't all that interested in Law School" when you really just didn't have the grades to get in 😂

So whether you view yourself as a character of Suits (while you red-line a non-binding LOI) or see legal as a 'necessary evil' in getting a deal done - this article is for you.

Understanding the Basics

While you don't need to become a lawyer to become a business broker, you're putting your client at a serious disadvantage if you aren't fluent in the basic terms & documents.

This includes, but is not limited to:

  1. Non-Disclosure Agreements (NDAs): Protecting the confidentiality of the information exchanged between Buyer & Seller during the deal-making process.
  2. Letters of Intent (LOIs): The non-binding document (more on this later), that confirms the commercial terms agreed between the Buyer and Seller before the final contracts (and legally binding) documents are drawn up by the lawyers.
  3. Purchase Agreements: The nitty-gritty of the sale. Purchase Agreements are legal contracts that include a lot of 'lawyer' stuff like indemnification clauses, reps & warranties, security agreements, closing schedules, and other thrilling topics.
  4. Non-Compete Agreements: Often a part of the final deal, ensuring the seller doesn't start a competing business immediately after the sale.
  5. Employment Agreements: These are not applicable in every sale, as they generally only apply to owners staying on post-purchase, but the terms of these agreements are crucial.

Here's a quick breakdown of the common negotiation points and what to look out for with each document.

1) Non-Disclosure Agreements (NDAs)

Common Negotiation Points:

  • The scope of confidentiality.
  • Duration of the agreement.
  • Parties involved and obligations.

What To Watch For:

  • Using too broad definitions of confidential information with unreasonable time frames.
  • Private Equity buyers will red-line your entire NDA, rendering it useless. We've found this a good 'not a good fit' exercise.

Best Practices:

This is up to your discretion but many brokers will have a blanket NDA with buyers for their entire firm, rather than deal-specific NDAs. Our firm started in this camp before moving to deal with specific NDAs. Why? One, it's easier to track (not constantly searching your CRM for the last NDA signed) and, two, it provides more comfort to your seller client (as they can see the NDA specific to their business).

Important Buyer Feedback: we've heard rumours from buyers that some brokers will try to incorporate a broker commission agreement into their NDA so that if a buyer buys any business in the future - that broker is owed a commission. Not only is this not standard, it's behaviour that gives our industry a bad name - so please remove this term if it exists in your NDA.

2) Letters of Intent (LOIs)

Common Negotiation Points:

  • Purchase price and payment terms (is there an earn-out? VTB? Holdback of funds?).
  • Buyer exclusivity period.
  • Conditions precedent to Closing Date (lease transfer, key employee interviews, financial review).
  • Which sections of the LOI are binding vs. non-binding (see best practices below).

What To Watch For:

  • Binding vs. non-binding terms confusion.
  • Vague descriptions of due diligence processes and no target closing date.
  • Insufficient detail on transaction structure.
  • No mention of working capital or, even worse, a working capital peg that seems artificially high.
  • No mention of an owner transition plan or training or the plan is vague (i.e. 3 months of training).
  • Break fees if the Seller (or Buyer) backs out of the deal.

Best Practices

LOIs are very important for setting expectations and preserving confidentiality - and that's about it. They shouldn't 'lock' your Buyer or Seller into any specific conditions - since diligence hasn't even started yet. So any commercial terms (purchase price, VTB payments, earn-out provisions, transition & training plan,

That said, the following conditions in your LOI should be binding:

  • Confidentiality (neither Buyer nor Seller should be posting on social media about the LOI they received and/or who it's with).
  • Normal course of business - your Seller won't resemble the 2011 Cleveland Cavaliers and run their business into the ground.
  • Exclusivity - there are mixed opinions on this (we feel exclusivity is fair to a Buyer if the period is less than 60 days) but if your client has agreed to exclusively work with a Buyer - there is no point in it being non-binding.

Side Note: This is another point of contention from a recent deal - sharing the client list. This is particularly tricky when working with a strategic Buyer within the same industry. There isn't a perfect solution to this problem (as a Buyer will want to see the client names before wiring millions of dollars; presenting a risk to the Seller) other than making this the final condition to closing the deal in the LOI.

3) Purchase Agreements

Common Negotiation Points:

  • Representations and warranties - representations are statements about past and current facts, while warranties are promises that those facts are true. R&Ws provide a baseline for legal recourse if 💩 hits the fan after the deal closes.
  • Indemnification clauses - this is promised compensation from the Seller to the Buyer for any losses arising from breaches of representations, covenants, and warranties.
  • Security of Vendor Take-Back Notes - VTBs are a form of Seller Financing, often a Seller lawyer will advise that the Buyer should give the Seller collateral in exchange for any Seller Financing. Often this is in the form of financial assets, but depending on the nature of the lawyer, this collateral may 'overstep' what is normal (i.e. a Buyer's priceless family heirlooms, their hopes & dreams, or soul).

Best Practices:

  • Typically, we're not going to be able to 'out lawyer' anyone on a given deal (because, again, we're not lawyers) but we can definitely play lifeguard ⛑. What do we mean by this? Well, when a lawyer starts to provide 'business advice' such as on the valuation - you need to blow your whistle and nip that in the bud. Likewise, if you think a term is overreaching, you can (doing this quietly works best) point this out to the lawyer in a gentle manner. Ensure that everyone stays in their lane - this includes yourself - so don't go rogue and start redlining legally binding docs.

4) Non-Compete Agreements

Common Negotiation Points:

  • The duration of the non-compete
  • Geographic Restrictions
  • Scope of prohibited activities

What To Watch For:

  • Excessively long non-compete periods
  • Broad geographic limitations
  • Vague definitions of competitive activities

Best Practices

Again, you're not a lawyer here so try and stay out of the way. Ideally, you'll start (or have an existing) network of good corporate lawyers who understand what is normal and won't overreach here.

5) Employment Agreements

Common Negotiation Points:

  • Term of employment and type (full-time employee? Part-time? Contractor?)
  • Compensation, including salary, bonuses, and benefits
  • Roles and responsibilities

What To Watch For:

  • Lack of clarity on job expectations - remember your Seller is going from the 'Boss' to having the job (in some cases this could be the first time in decades). Make sure you coach them so that they can't come in guns blazing every day and tell the Buyer how to run the company.
  • Inadequate provisions for termination
  • Restrictions post-employment

Best Practices

Do a lot of the heavy lifting for the lawyers here. Have several buyer-seller meetings that don't talk about price and terms, instead, focus on what life looks like for the Seller post-acquisition. What does the Seller love about their job and what they currently hate - does the buyer help fill in these gaps? The more clarity you can bring to the lawyers on the post-acquisition employment the better.

For more on this topic, check out yesterday's article, Managing Post-Sale Transitions.

Leveraging Legal Counsel

Since we're not lawyers, probably the best thing you can do post-LOI is to 'stay in your lane' and guide the outcome of the deal. Here are a few pointers:

  • Early Engagement: Involve legal counsel early in the process. Something we've done is actually draft an LOI from a fictional buyer and present it to the Seller's lawyer before listing. This gives them an opportunity to red-line the document so we can make changes. We can then provide that revised LOI template to a Buyer with confidence that the Seller's lawyer won't make many changes
  • Specialization Matters: Ensure both Buyer and Seller are using legal counsel that specializes in business transactions - offer a contact list of good lawyers if they need a recommendation. The right lawyer can offer invaluable advice on structuring the deal to avoid future legal pitfalls. If your Seller's lawyer looks like this - run.
  • Client Representation: Remind your client (early and often) that while you can provide business advice, legal advice should come from their licensed attorney. This protects you and ensures your clients receive the best possible guidance.

Conclusion: Become A Legal Compass

As we wrap up today's guide on navigating the legal landscape, remember that your role as a business broker is to act as a compass, guiding Buyers and Sellers through the complexities (and drama) of legal and business challenges. While you don't need to be a lawyer, your ability to understand legal concepts, recognize when to involve legal counsel, and navigate common legal challenges can significantly impact the success of a deal and give both Buyer and Seller valuable advice without getting charged every 7.5 minutes (we had to get 1 jab in on lawyers in this article - hey we were pretty nice).

Stay tuned for Day 9, where we'll explore Different Financing Options For Business Sales

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