Beware Giving Exclusivity When Selling A Business

What Is An Exclusivity Period?

When selling a business, an exclusivity period is the length of time in which a buyer has the sole right to purchase a business to the exclusion of other potential buyers.  An exclusivity period is only granted after a business deal goes “under contract” with a signed and agreed upon Letter of Intent (LOI) or purchase agreement accompanied by a refundable deposit. The length of the exclusivity period is delineated in the LOI or purchase agreement, and is subject to negotiation between the parties. During the exclusivity period, the buyer completes their formal due diligence or investigation of the business and completes other contingencies (such as assuming the lease) necessary to close. The buyer may back out of the deal (without forfeiting their deposit) when the contingencies are not met to their satisfaction during the exclusivity period. Business owners should understand that granting an exclusivity period reduces their negotiating leverage and stops competitive bidding by other potential buyers.

Limit Exclusivity Period

Business owners should always remember that about half of business deals fall through during the exclusivity period, usually because of the buyer not completing formal due diligence to their satisfaction. As such, sellers must use caution when granting a buyer an exclusivity period. There is never a sure fire way of ensuring that a buyer will actually close on a business deal. The best means that sellers may use of protecting their own interests and not losing other potential buyers is by limiting the exclusivity period to the best extent possible. Most business deals have 30-60 day exclusivity periods depending on the complexity of the required formal due diligence and required time for the buyer to assume the seller’s lease. A lengthy exclusivity period brings more uncertainty about whether the buyer will actually close, along with transaction costs necessary for the seller to comply with the buyer’s formal due diligence request list.

Negotiate Exclusivity Period

The negotiation of the buyer’s exclusivity period should always be done prior to a deal going “under contract” so that both parties understand what the timeline of the deal will entail. When negotiating, the seller should be cautious about giving the buyer more than 45 days of exclusivity, and should rarely if ever give more than 60 days. The strength and seriousness of the buyer greatly affects the length of exclusivity. A buyer without industry experience, for example, may be given less exclusivity compared to other more serious buyers. No matter the buyer, the seller must always be prepared to negotiate the exclusivity period as a part of the deal terms contained in the LOI or purchase agreement. The buyer should be made aware from the outset that the seller will not tolerate delay and inaction within the exclusivity period.

Impose Deadlines Within Exclusivity Period

  • When negotiating the exclusivity period, it is imperative that the seller impose clear deadlines as to what will happen within the designated exclusivity period.
  • This way, the seller ensures that the buyer is acting without delay and that tangible progress occurs.
  • It is far better from the seller’s perspective for the buyer to walk away from a business deal after a couple of weeks rather than a couple of months.
  • For example, a large and complex business deal with multiple locations may contain a signed LOI with a 60 day exclusivity period.
  • The seller may reduce their risk significantly by imposing a deadline that the buyer must propose the purchase agreement (which unlike the LOI actually governs the business transaction) within 30 days.
  • Many buyers wish to put off proposing the purchase agreement because it involves legal costs to do so.
  • A deadline for the buyer to propose the purchase agreement ensures that progress is being made and that the deal will not be delayed past the 60 day exclusivity window.
  • Other deadlines may establish a timeline for when the buyer must propose their formal due diligence request list, and when the buyer must complete their formal due diligence after receiving the requested information.
  • Business owners should also be aware that an LOI is not a binding contract, and that the seller may always back out of a deal unless there is a binding purchase agreement in place.
  • Observing the exclusivity period within an LOI is based on the good faith of the parties, and the seller’s good faith depends upon the buyer meeting deadlines and acting diligently to get the deal done.
  • When deadlines within a binding purchase agreement are not met by the buyer, the seller may back out of the deal so long as they are not in breach of contract.

Keep Deal Confidential During Exclusivity Period

Because of the inherent uncertainty as to what formal due diligence process will reveal and whether or not the buyer will actually purchase a business that is “under contract”, business sales should always be kept confidential during the exclusivity period. The confidentiality of the sale prohibits the buyer from telling any third party that the business is for sale without the express permission of the seller. Sometimes the buyer will insist on speaking to key staff members as a part of the formal due diligence process. Such requests should be made before the deal goes “under contract” so that the parties may negotiate a fair resolution. The buyer’s desire to speak to key staff members may often be accommodated as the final stage in the deal prior to closing, often with the deposit going ‘hard’ or non-refundable at the final stage.

The period of exclusivity may be a contentious issue between the parties since the seller wants to reduce the exclusivity period while the buyer wants to increase the exclusivity period (to give themselves more time to conduct due diligence and decide whether to close). Business owners may limit the lost opportunities of selling their business to other buyers during the exclusivity period by negotiating its terms prior to a deal going “under contract” and by promptly providing sufficient information during the formal due diligence process.

Give Martin at Five Star Business Brokers of Palm Beach County a call today at 561-827-1181 for a FREE evaluation of your business.