A business broker's agreement—sometimes called a client engagement agreement—usually includes terms regarding exclusivity, termination, retainers, the timing of payment, and tail periods. In this article, we’ll help you navigate those terms so you know what to expect before, during, and after the sales process.
What should I expect from my business broker’s agreement?
Once you complete your initial consultation with your broker, you should receive a professionally prepared document that’s about three to five pages in length.
A document shorter in length may raise a red flag for you. Brevity in business broker agreements typically occurs with brokers who forget to include key terms that protect you both.
What about the terms?
Your agreement should include most of the following terms to help you understand the roles and responsibilities you and the broker must fulfill when selling your business.
It’s common for contracts to include a clause that establishes the length of the agreement. In most cases, the duration of the contract is six months to one year.
Agreements should also specify how the contract can be canceled, who can take steps to cancel it, and under what circumstances cancelation can occur.
Here's what that could look like. Some contracts state that you may not cancel the agreement without penalty during the agreed-upon time period (usually the period of exclusivity), and often, this penalty can be quite steep. Others may allow cancellation without penalty, provided they give at least 30 days’ notice.
Be sure to read the duration and termination portions of your agreement carefully to understand your obligation.
Sometimes called a “success fee,” the commission is the amount you can expect to pay the broker for helping you sell your business.
For businesses valued under $2 million, brokers often charge between 8-12% of the final sale price. This can result in payouts that look like the following:
For larger businesses, brokers often apply the Double Lehman scale to the final sale price to calculate their commission. You can estimate this payout with the following schedule:
The broker earns:
10% of the first million of the sale
8% of the second million of the sale
6% of the third million of the sale
4% of the fourth million of the sale
2% of the fifth million of the sale and greater
The broker's commission is usually based on the sale price of your business, but sometimes, it's based on the value of the transaction.
When transaction value is being used, you'll need to ask your broker (or read your contract to find) which components of your business are being factored in. In most cases, these include:
- The total value of all assets exchanged in the sale, including cash, securities, property, equipment, accounts receivable, inventory, work-in-process, and other items of value.
- The value of agreements, which may include non-compete agreements, licensing agreements, and employment or consulting agreements.
- The assumption of debt.
Purchase price commissions and commissions on transaction value can result in very different payouts for the broker. Be sure you understand which figure the broker will use to calculate commission so you can prepare to meet the obligation.
Brokers often include clauses that create a “tail” on their contracts that holds even after you terminate the agreement.
A tail means that you will owe commission on the sale of your business for a set period of time (usually 24 months) if the broker connects you with the person who buys your business.
If your contract has a tail, you may be obligated to pay a commission on the sale to a buyer you and the broker discussed during the contract period, even if the sale to that buyer didn’t occur until after the contract ended.
Brokers often use loose terms to describe the connection, and this introduction can be broadly interpreted. If possible, ask for a concrete description of what an introduction entails (an arranged discussion with a buy, communication of the party's first and last name, etc.) to understand your tail obligations.
Retainers and milestone payments
Some brokers charge an upfront fee, called a retainer, to take on the work of marketing and selling a business on an owner’s behalf.
Others may charge progress payments, perhaps for the completion of key tasks.
|This portion of your agreement should be examined carefully. Some brokers create scenarios for progress payments that provide them with a steady stream of income and disincentivize them to move quickly to close a sale. |
Make sure there is language in place that limits progress payments and puts the money you pay toward them against the success fee you owe.
All of the pre-sale payment requirements should be described in the business broker’s agreement. Whether with retainers or progress payments, be sure to look for terms around the timing of these payments, why they’re in place, and whether the payments will reduce the amount you’ll owe post-sale.
Timing of payment
Your business broker's agreement will likely include language on when they will receive payment from your sale. It’s common for payment to occur after closing, but most contracts will also describe how payments should be handled for contingent or future payments that might occur through promissory notes, indemnity holdbacks, or earnouts.
Business brokers often request the exclusive right to sell your business. This clause prevents you from working with multiple brokers, and it also ensures that the broker will be paid upon completion of the sale, even if they weren’t responsible for connecting you with the buyer.
In some cases, you can provide the broker will a list of potential buyers you want to have excluded from this agreement before signing. However, brokers won't always agree to these terms because they will engage in marketing and sales efforts on your behalf and want to be compensated for that work. This can be an opportunity for introducing milestone payments to reward their efforts without paying a commission on a sale you’ve arranged.
Your contract should also include other terms to guide the work that’s conducted. These will include:
- Venue: Brokers will describe where the work will occur and the presiding court where complaints can be heard.
- Confidentiality: Brokers will state their need to receive confidential information and affirm their intent to keep the details of the sale private until proper steps have been taken to assure confidentiality from a buyer.
- Indemnification: Brokers will request to be held harmless against certain claims.
- A disclaimer that the broker cannot guarantee a certain outcome: Brokers will state that they cannot promise to find a buyer, complete a sale, or attain offers that are within the valuation range you’ve set for your business.
|It can be difficult to navigate the terms of a business broker’s agreement. Be sure to have this document and any others your broker provides reviewed by an experienced attorney. |
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