Buyer deposits at LOI?
January 13, 2023
by a searcher from University of Toronto - Joseph L. Rotman School of Management in Toronto, ON, Canada
I'm wondering how commonplace it is for brokers to have deposits in trust as a deal security mechanism. I've just seen this for the first time and thought to reach out to the community for input. Do most buyers negotiate these away successfully?
from The University of Chicago in Chicago, IL, USA
2) Before talking engagement, I discuss EMD with sellers. I explain why it is a bad idea for seller. It risks triggering a buyer ask for buyer protection if DD does not match with prior communication. If parties are sophisticated, one could spend too much time in refund language before the LOI is signed. Also, EMD can make either or both parties to focus more on EMD refund rather than on DD and PA.
3) In my case, LOI comes after buyer and seller meet, at least once if not more. During the meeting, the focus is on chemistry between the two parties and on vision, in addition to all normal aspects of the deal. I advise seller that we will, very likely, wind up selling to #2 buyer, not to the highest offer, nor to the buyer who makes a quick offer w/o asking relevant questions pre-LOI. After all, seller is involved post-transaction in most deals (seller note, employment, earn-out, reps and warranties, etc.). With this approach, in all deals, we have been able to bump up #2 to match the highest offer.
4) Industry practice has a big range. Shops with high number of listings, typically but not always, ask for EMD to weed out tire-kickers. Some buyers may walk away with this, but a good buyer, if willing to understand the broker-side, can quickly agree to EMD (refundable w/o cause) and present himself/herself to sell-side as an "easy" buyer to work with. Also, a new broker or a new broker-shop experienced with main street deals could come ask EMD. Again, a good buyer could convert that to his/her advantage by easing the broker's headaches of not having to screen tire kickers. (I define Main Street not by size but by type. Main Street is primarily B2C and/or retail where there is no A/R, no concentration, no major selling, no R&D, minimal contracts, no IP, etc.).
5) Debt financing is generally a known risk in M&A. But a Searcher adds an additional layer of risk which is equity financing risk. Broker community is slowly recognizing Searcher buyer-class but not so with sellers, attorneys and accountants.
from Royal Melbourne Institute of Technology in Sydney NSW, Australia
So why have them?
Typically on smaller deals we insist on taking them as a means of checking bonafides of the buyers, and despite the refundable nature of the deposit, it provides a sense of comfort to the vendors that you’re serious.. It also provides us (as brokers) some protection against vendors trying to skip out on paying our fees.
As a buyer, I would be worried about paying it…as in, you should have no trouble getting your funds back if you don’t wish to proceed.
But we waive these deposits for larger transactions because it is uncommon to ask for them. If I see a buyer engaging external advisors for DD, it provides a show of good faith that they are investing in the process.
Bottom line…it’s all negotiable. So if you can talk to the broker and get a sense of why they need the deposit then there could be an alternative solution.
min the past when I have been concerned about the vendor (our own client) not paying us, the buyer (upon us agreeing to waive the deposit), agreed to have a specific note made in the sales agreement that we would be paid directly at settlement, rather than the money going to the vendor and us chasing them for it.