Purchase Price Negotiations and Signing

After the prospective buyers have performed due diligence, the actual sales negotiation begins. The seller received non-binding, orientative offers from the interested parties, which are now validated against the background of the results of the due diligence.

Prospective buyers will try to close the deal, pushing through as many discounts as possible from their initial offer and getting the most comprehensive guarantees from sellers. Sellers also want to close the deal, but pursue the interests of achieving the highest possible purchase price and remaining as free as possible from consequential risks. That prospective buyers offer less than sellers would like is completely normal and the usual starting point for any negotiation.

In some cases, despite a comprehensive due diligence process, prospective buyers have an asking price that differs significantly from that of the seller. The difference may result from findings that have only emerged from the due diligence process. Regardless of whether they were known to the seller beforehand or not, they inevitably lead to purchase price reductions.

If the due diligence has not revealed any surprises, the difference in the rule is explained by different expectations of future earnings. Obviously, there are still uncertainties or a compromise between the two objectives has to be negotiated. Residual uncertainties always remain in negotiations about companies. Therefore, game theory models can help in negotiating transactions.

But the immediate sales price paid, which results from the perceived value of the company is usually not the only compensation component in company sales. One possible solution is an earn-out arrangement under which the seller is initially paid a base price and, in each of the following financial years, additional earnings-related, i.e. variable, purchase price components. For this, not only concrete earnings expectations but also the clearest possible framework conditions should be defined and agreed. The best basis for this is a business plan showing planned sales activities, planned costs and depreciation. In this way, both parties are relatively certain that future financial statements will be prepared “free of manipulation”. By the way, the sum of the full earnout payments can be agreed to be somewhat higher than an immediate payment would be. They are risky and they occur later and must be discounted to present value. Sellers who offer earnout arrangements or accept them show prospective buyers that they believe in the future of their company. If they do not accept earnout provisions, they signal the opposite to prospective buyers and thus do not promote the negotiation process. With an earnout arrangement, sellers and buyers are also committed to the transferred company for the longer term. Their interests in making the company successful are congruent and give the buyer more transaction security. Such an agreement is specially useful when the due diligence reveals uncertainties which cannot sufficienty be covered by guarantees. Such a transition period can be quite useful if the responsibilities are clarified.

Prospective buyers are occasionally prepared to make concessions to pay more if they can pay later. However, the payment obligation must be made binding in the purchase agreement, even if the due date is set for dates in the future. Sellers are best advised to secure such payments with a bank guarantee. Spreading the payment of the purchase price over several years can bring tax advantages for the seller.

Other ways of overcoming differences in the purchase price include generous compensation for careful familiarization process.

Separating the sale of the business from the sale of the commercial property can also be a way to reach a deal. Some prospective buyers want to gain confidence in the business first before investing in commercial real estate. In addition, the purchase of commercial property increases the overall commitment and ties up more capital. If sellers have confidence in their company’s operations, they can offer a long-term lease. Often, the agreed rent can even be higher than the market price if the buyer gains flexibility.

If, despite probing various options to overcome the difference in purchase price expectations, no convergence can be reached, both parties must present the alternative scenario of a failure of the negotiation. Perhaps a further concession will then turn out to be the better option after all. But be careful: Making concessions only because you have already put so much effort into due diligence and negotiation so far makes no sense.

In most cases, it makes sense for the seller to withdraw surplus liquidity from his company before the transaction, provided that corresponding balance sheet profits have been booked. This makes the transaction volume leaner, and the buyer may even be relieved, because the value of business shares cannot be depreciated for tax purposes.

Agreement on a purchase contract including guarantees leads to the conclusion of the contract (signing).


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