Common Types of Owner Financing

As we have stated in some of our recent posts, in today’s day and age, obtaining bank financing for the purchase of an internet business is nearly impossible. With that being said, without an all cash buyer, a seller must offer at least some owner financing. As internet business brokers, there are three common types of owner financing that we deal with; straight financing, performance based, and holdbacks.

Straight Financing: Straight financing is financing at its simplest and involves financing a specific amount of the purchase price at an agreed upon interest rate for a determined time period. The amortized payments are usually paid monthly in equal installments until the loan is repaid. An example of this would be if you sell a website for $1,000,000 and financed $200,000 for two years at 4% interest. The buyer would pay you $800,000 cash at close and then pay you $8,684.98 per month for 24 months.

Performance Based: Performance based financing, or “earn outs” involves a buyer making payments which are based upon the future performance of the website. In other words the seller is a share of the revenue or net earnings (whichever is agreed upon) for a set period of time. Using the example from above, as a seller you receive $800,000 cash at close and agree to a performance based finance in which you would receive 25% of the net profits for two years. In this hypothetical example, if your business was netting $400,000 per year, then assuming the buyer at least maintained that level, you would receive $100,000 per year for the next two years. Sometimes the parties agree upon a ceiling, floor, or both, thus protecting one or both parties from either an explosion of growth or a steep decline in business. There are pros and cons associated with performance based financing that a website broker can explain to you.

Holdbacks: A holdback occurs when a nominal amount of the purchase price is “held back” at the closing date and paid within an agreed upon period of time. A buyer will usually insist on a holdback when he is concerned about the seller fulfilling his training obligations. Usually holdbacks are for a short period of time (30 to 90 days) and most sellers are open to it as the time frame is relatively short. A seller can prudently insist on the holdback amount to be held in a neutral escrow account. While most deals are agreed upon with just straight financing, we have structured complex deals that have involved all three!