Awaiting Response

Prior to purchasing controlling interests in a small business a buyer normally drafts a Letter of Intent (“LOI”) and sends it to the seller. This document outlines the key terms of the verbal agreement and next steps. I try to craft the LOI document to match our verbal agreement and follow the structure of our yet-to-be-drafted, legally-binding, purchase agreement. Our attorneys do a pretty good job, but I summarize several pages with “normal reps and warranties.”

Anyways, we have another LOI outstanding. I expect to receive a signed version back by the end of this week. This is our first in a few months… which is a crazy thing to admit. Still, I estimate 85% of the LOI’s were fulfilled as first agreed. The shared trust assures it. If either of us dislike the deal, we don’t sign it. We go back to discussions or move on.

In some cases, the written document more clearly reveals aspects of our verbal agreement. Things like “net working capital” can be confusing to a fast paced owner. If I can get them to slow down, and listen, I’ll walk through the math and the reasons and precision of my offer while seated together. This is a strange skill of mine that isn’t quite negotiating in the present, but navigating a probable future. If they draw down inventory between now and closing, we will pay less. We have to replenish it. Anyways, if they have questions, I want to address them beforehand. We might not be a fit and I want us on the same page. Sometimes they don’t think straight when in person and we need to put it in writing so they can think, review and discuss it without me in the room.

Before I write a LOI, we discuss the seller’s goals and our ability and interest to fulfill them. We suggest various ideas and the seller agrees or disagrees. Sometimes they make special requests (don’t change this or that.) I either agree or disagree. Price is always a factor, but often times there are timelines, staff situations, permits, vendors or other factors we need to iron out. Somethings cannot be known up front. Others can be. Do we have the cash to close? Yes.

My goal is to take on all the future risk and leave them with the historical risks. I want to get paid for the risks we take. They normally share this goal and agree to the general theme … or they move on quickly after observing me hold my ground. I can bring numerous other things besides price maximization to the relationship. The business is more nuanced than that alone. And frankly, we settle on a price range early and once we meet, we begin to work through the challenges of the various special requests.

My ideal seller says something along the lines of, “I think this is a pretty good business but there are areas I was wanting to work on and just didn’t get around to them yet. The risk and timeline did not match up with what I wanted to do.” I ask about them, and share some of my ideas. We bond over a few of these ideas. Sometimes, I have very specific ideas that may be jarring to them. Things like “we want to move out of this location.” Or, “I’m not sure I can afford to employ these three people here.” I want to get their reaction and comfort with us making some changes after closing. We often discuss our interests in holding the business for a long time but in certain circumstances we may want to sell. How do they feel about that?

I have purchased businesses that need a lot of changes, and some businesses I wish I had not changed a thing. Each situation is unique. The ideal for LEV is different than it was for me as an individual before LEV. Before LEV, I wanted problems that I knew how to fix. In this way I garnered some immediate benefit directly after installing my changes. With LEV, I am more inclined to buy businesses that are without severe problems from people I trust, and who place trust in me. I need to place a manager into a situation however and that alone is likely to change the dynamic somewhat, even if for no other reason than because the seller is beginning to change roles. We want businesses that can hold stable or undergo a phase change. We don’t commit to an eternal growth objective above all else. We want to grow where the return on reinvested capital is highest.

Anyways, back to waiting on the LOI response. Two bad situations stand out in my memory. The first was an accepted LOI from a seller two states away. He and I had banged out the details of the deal over a weekend and we were ready to go. I sent it, he signed it, and Monday morning Mikel and I were driving toward him when the broker called: “you should not have had direct contact with my client. He is going a different direction.” We turned around and drove home. I never heard from him again. My assumption is that an influential key employee and the broker convinced him to abandon his word and take a higher price.

The second memorable LOI went all the way through closing. The seller basically ignored everything said or written anywhere. Perhaps he is on drugs? In this case, maybe I am the idiot?

Most of the time, the written LOI helps honest, thoughtful sellers consider the ramifications of selling the business. Are they okay with this deal? Did they understand things clearly? Several times, I write a LOI after a verbal agreement and the seller calls me to ask clarifying questions. If we don’t have overlap, we shouldn’t do the deal. Many, many times, aggressive sellers take their business to a broker after meeting with us. Sometimes this accomplishes their goals. Other times, they come back to us, a pre-existing relationship, and we revisit the earlier terms without the broker. I often find myself less inclined to pay as much as I had offered before. It’s been shopped to get a higher price and was found lacking. I was okay at the price before when I did not know what others might pay. Now that I know, the broker listed, unsold auction has me in a stronger position. I am still fine to proceed. I don’t care that no one else bought it. I am not required to sell it, and will likely prove out the biggest risks most buyers foresee –the risk of failure after the seller leaves. However, I see little reason to pay up for something you have proven has a limited market.

I don’t wish that pain on anyone. But, sometimes people need to explore all their alternatives before making a decision. We are only the best alternative for a portion of the market.

I’ll keep you posted. Until then, I am awaiting a response.