You think you're ready to choose a buyer, but there may be
important deal elements that have not been addressed
August 3, 2020 By Nick Monaghan
You’ve
made the decision to sell your wealth management
practice. Letters of intent are rolling in with attractive
(albeit, non-binding) offers. You have a sense of which buyer is the right fit
for your practice and clients. You believe you’re ready to make your choice,
but these indications of interest are short on detail. What important deal
elements have not been addressed? And what danger lurks ahead in the next phase
of the negotiation?
LETTER OF INTENT — PRIME
TIME TO NEGOTIATE
The
letter of intent, or LOI, outlines the key terms of your transaction. LOIs are
typically non-binding in many respects, but once executed they provide buyer
with limited exclusivity. Your leverage is at its apex
during the competitive LOI phase.
Sellers
should negotiate as many nonfinancial deal terms as possible, including the
terms outlined below, during the LOI phase. Unfortunately, sellers often wait
and negotiate these terms after the LOI is signed, when their
leverage is significantly diminished.
CONTINGENT PURCHASE
PRICE
I’ve
found one element of wealth management transactions to be unique from other industries.
Nearly the entire purchase price is contingent on certain goals of the
acquisition agreement being met. Often, a considerable portion of the purchase
price is paid at closing (based on a closing formula tied to client retention)
and the balance is paid post-closing (subject to the post-closing business
achieving client retention and/or financial goals).
What
percentage of client consents should be required at closing in order for seller
to receive the full purchase price? Typically, 95% is required, but buyers
sometimes offer a more attractive threshold. Should negative consents be
included (and are they allowed under your Investment Advisory Agreements)? It’s
imperative to agree to the high points of these items in the LOI phase and
ensure that your purchase agreement includes precise language on these
subjects.
CLOSING CONDITIONS
Purchase
agreements typically contemplate a deferred closing. You’ll sign
the purchase agreement and then close in the future, but only if certain
closing conditions are satisfied. Meantime, you’ve advised your clients of the
proposed closing.
Closing
conditions will include meeting a closing client consent percentage (often
80%), but buyers will sometimes attempt to include more aggressive conditions
(such as financing or due diligence conditions) that will effectively allow
them to walk away from the deal.
Imagine a
doomsday scenario of signing a purchase agreement, delivering your client list
to the buyer, marketing the buyer’s platform to your clients, and then having
the buyer elect not to close the transaction. It’s critical that your deal
include only market closing conditions (and that your LOI preclude any atypical
conditions), so that you have enhanced closing certainty before reaching out to
your clients.
[More: Lessons learned from 21 deals]
INDEMNITY RISK
MITIGATION
The
astute seller that successfully collects all of the purchase price from buyer
remains at risk of having a portion of that purchase price clawed back by the
buyer after the closing. Fortunately, there are risk mitigation techniques that
can be deployed to protect the purchase price you receive (including caps,
baskets, time limitations and qualifiers). Be sure your LOI and purchase
agreement address these items.
These
dangers are manageable with a strategic approach to the LOI and purchase
agreement negotiations. You’ve spent decades building your practice and
prudently managing your clients’ assets. Be sure to negotiate these pitfalls
with similar diligence.
Nick
Monaghan, a member with the law firm Dykema Gossett, is an
M&A attorney and counsels owners in the sale of their wealth
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