Different Methodologies to Structure a Partial Business Sale?

As with any business sale, there are numerous ways to structure the deal. However, there are a few key deal components that will help guide the overall structure of a partial sale: guaranteed vs. revenue share, length of the deal, and tax treatment of payments. When reviewing the business, the key factors in determining the deal structure are the client demographics and the recurring revenue being generated from the portion of the business being sold. In most cases, the recurring revenue is low (one of the reasons for the sale), but the future revenue potential is high.

Below are three different deal structure methodologies, using averages from the businesses that were analyzed, that incorporate different deal components:

EXAMPLE 1

This example would pay the seller 40% of the recurring revenue being generated as an upfront down payment, and then a 50% revenue share on all future revenue for 5 years. This methodology provides the seller with a smaller percentage upfront, but more future revenue opportunity with a 5-year earnout. While this option provides the most upside to the seller, it also has benefits to the buyer, as there is less in a guaranteed down payment, and the tax treatment of the ongoing payments is favorable.

EXAMPLE 2

This example would pay the seller 100% of the recurring revenue being generated as an upfront downpayment and then a 50% revenue share on all future revenue for 3 years. This methodology provides the seller with a 1X recurring revenue as a downpayment, along with the opportunity to participate in future revenue for 3 years. If revenue remained flat, the seller would receive approximately 2.3X the revenue sold, and with a 10% increase, they would receive 2.6X the revenue sold.

EXAMPLE 3

This example would pay the seller 150% of the recurring revenue being generated in a one-time payment. This payment would be paid as goodwill (8594). While this method provides the lowest total payout, 1.5X recurring revenue, it does provide the seller with a one-time payment upfront with favorable tax treatment, while providing the buyer with 100% of the upside. Generally, in these types of deals, there would be a contingency after 12 months to ensure recurring revenue performed as expected.

The goal of these types of partnerships is to transition these clients to a firm that will provide them a dedicated advisor, allowing the firm to provide proactive advice and expand the relationship with the client, increasing revenue for the buyer and seller. That being said, for an advisor with a 3-year time frame before retirement, even if revenue remains flat, they can essentially keep revenue the same while reducing the number of clients they are working with by 80-90%.