short enough from the Vendor's point of view; and
sufficiently long from the Purchasers' point of view to enable them to fund the Purchase Price out of the cash flow of the Business.

Pre-Agreement of the Purchase Price

When designing a Vendor Finance Strategy, it is helpful to estimate or pre-agree the Purchase Price of the Outgoing Proprietor ’s Equity.

This makes it easier to formulate funding strategies for the Pre-agreed Purchase Price now (when there is less emotion involved).

For example, if the value of the Equity might be $400,000 at the time of Retirement or Death, the Proprietors can examine the cash-flow implications of:

a future Bank Loan; or
Vendor Finance.

Examples of Vendor Finance Strategies

Below are examples of strategies that deal with situations where:

a Bank Loan or Finance for some of the Price is available;
some Insurance Cover is available (for an Insured Event); and
no Insurance Cover is available.

Bank Loan or Finance

One option is to fund any shortfall with a loan from a Bank.

However, the parties should not lightly assume that Bank Finance would be available at the time of the Un-funded Event.

For example, Bank Finance might not be practical if the Bank was likely to question the amount of the Pre-agreed Purchase Price or the ability of the Purchasers to service the Loan at the time of the Un-funded Event.

If this is possible, then the parties should consider Vendor Finance.

Bank Loan Funds Upfront Instalment

IGS often drafts Vendor Finance Provisions that require an upfront Instalment to be paid to the Vendor.

It would normally be expected that the Purchasers could fund this Instalment out of their existing resources or by way of Bank Loan.

In these circumstances, it would be necessary to dislose the Vendor Finance arrangements to the Bank in order to obtain approval of the Bank Loan.

Some Insurance Cover

If the Pre-agreed Sale Price was $400,000 and the only Insurance Cover available was for $200,000, the Vendor Finance Provisions could provide that the Purchase Price of $400,000 will be paid in:

one upfront payment of $200,000 (funded by the Insurance Proceeds); and
four annual instalments of $50,000 per annum (plus interest).

The Vendor Finance arrangements effectively fund payment of the shortfall of $200,000.

Once these arrangements are formulated (at least tentatively), the Purchasers can examine the commercial and cash flow implications of funding the shortfall out of their share of the profits of the Business.

No Insurance Cover

If the Pre-agreed Sale Price is $400,000 and no Insurance Cover is available, then the parties need to determine whether the Price will be funded by:

a combination of an upfront payment and instalments; or
just instalments.

Upfront Payment and Instalments

The Vendor Finance Provisions could provide that the Purchase Price of $400,000 will be paid in:

one upfront payment of $200,000 (funded by a Bank Loan); and
four annual instalments of $50,000 per annum (plus interest).

Where part of the Price is funded by a Bank Loan, the Purchasers would need to fund both:

the principal and interest payments owing to the Bank; and
the instalments and interest owing to the Vendors.

Instalments

The Vendor Finance Provisions could provide that the Purchase Price of $400,000 will be paid in:

four annual instalments of $100,000 per annum (plus interest); or
eight annual instalments of $50,000 per annum (plus interest).

How Many Instalments?

The number and amount of the instalments should take into account both:

the need of the Vendors; and
the cash flow of the Purchasers.

The decision will usually be a balancing act between the interests of the different parties.

However, it is a lot easier to resolve these issues when they are abstract than when someone has actually died or been forced to retire because of ill health.

After a death or retirement:

one party is wearing a Vendor's hat and wants to reduce the timeframe for payment; and
the others are wearing a Purchaser's hat and want to increase the timeframe fro payment.

Fact Finder

The Vendor Finance Provisions for any shortfall in the Purchase Price raise similar issues to a Retirement Strategy in which none of the Purchase Price can be funded by Insurance Proceeds.

Retirement Strategy

Please click the following link to see the Un-Funded Purchase Price Item of the Complete Succession Fact Finder that has been completed for a Retirement Strategy:

Un-Funded Purchase Price Worksheet (Item 7)(Retirement Shortfall)

TPD Strategy

Please click the following link to see the Un-Funded Purchase Price Item of the Complete Succession Fact Finder that has been completed for a TPD Strategy which is partly funded by Insurance Cover:

Un-Funded Purchase Price Worksheet (Item 7)(TPD Shortfall).

Standard IGS Legal Fee Includes Drafting of Vendor Finance Provisions

The standard Fixed Legal Fee for all IGS Agreements entitles the Business to the drafting of Vendor Finance or other Provisions that deal with the payment of the Pre-agreed Purchase Price or any shortfall.

Adviser Tip

In the case of Retirement, a Complete Succession Plan can pre-agree the Purchase Price and specify a timeframe for payment.

If you do not have adequate insurance for an Insurable Event, your Succession Plan can specify a timeframe for payment of the shortfall.

See more Adviser Tips

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