My Letter of Intent Got REJECTED – Here’s What I Learned

I submitted my first LOI (Letter of Intent) to buy a business last Friday. Today, that LOI was rejected.

I have been searching for over four months. I have looked at over 250 businesses for sale in that period. Of those, I have fully modeled out 29 of those businesses. During that time, only TWO businesses were worth pursuing further. I ultimately turned down the first one because of declining financial performance and an undifferentiated product. The second has solid growth, is in a niche I care about, has a strong social media following, has strong brand awareness, and has carved out quite a niche for itself on its sales channels. It has all the qualities I am looking for in a business.

After combing through the prospectus (also called a confidential information memorandum), I built a detailed financial model projecting the future of the business. Based on my in depth pre-due diligence, I already had a pretty good impression of the company. So I set up a call with the sellers. During the call, I asked all the questions that arose from my evaluation of the business. The sellers and I got along quite well and they answered my questions honestly and completely. I got off the phone even more excited about the business. Following the call, I decided to take the next step in the deal process: submitting a letter of intent.

What is a letter of intent?

A letter of intent, or LOI, is a non-legally binding document outlining the proposed terms of an acquisition. The items covered in an LOI include:

• What you’re acquiring – Assets of the business (most likely) or the shares of the existing business entity.
• The purchase price of the company.
• Transaction structure – For an SBA loan, this typically means a seller note equal to at least 10% of the purchase price. The rest of the purchase will combine bank financing and at least 10% coming from you, the purchaser.
• Working capital adjustments.
• Conditions necessary for closing – Including obtaining the proper governmental approvals, barring a material adverse change to the operations of the business, successful completion of due diligence, execution of a non-competition agreement, and other stipulations.
• Terms of the letter of intent, including how long the LOI will be in effect, an agreement to allow reasonable access to business information in the course of due diligence, and an exclusivity agreement.

There are some other ones, but they are a bit more esoteric and legalese-esque.

What happens after a letter of intent is signed?

Once a letter of intent is signed by both parties the clock really starts. From this point on, your life will be consumed with determining once and for all if this is the business you want to acquire. During this period, you’ll want to:

• Conduct due diligence on the company – Review the raw financials, fact-check SEO and site visitor numbers, speak with customers, examine ad campaign results, and dive deep into Amazon reviews. Once your acquisition hits a certain size, you may want to hire a firm like Centurica to complete concurrent, independent due diligence complementing your own.
• Line up your financing – Submit all the financials of the company to your lender, so they can begin their diligence process. Banks tend to move slowly, so you should get them involved early.
• Set up systems – Once your transaction closes, the company is YOURS, so you should work to set up systems for bookkeeping, advertising, product management, and sourcing, social media, etc before you close. This way, you can hit the ground running post-close.
• Ask as many questions as possible – The seller is now motivated to get the deal done. Capitalize on this by asking every single question you can think of.
• Have an accountant review the financials – No matter how comfortable you might be with financial statements, a CPA is probably better. Hire one to help you dig up any irregularities in the company’s reporting.
• Put together a purchase agreement – Have a lawyer with M&A experience draft an asset purchase agreement. The APA is a complex legal document that is BINDING. It’s th document that will spell out everything regarding your purchase of the business, so you want to pay a professional to draft it for you. This will likely be the second best money you spend in an acquisition, behind due diligence.

What I learned from my letter of intent rejection

Never fall in love with a deal

I repeat, NEVER FALL IN LOVE WITH A DEAL. There are a thousand reasons why a deal might fall through. If you make the mistake I did and think that this one deal is THE deal you are meant to acquire, odds are, you won’t. Treat each deal as objectively as possible. Rely solely on what the numbers tell you and what your detailed evaluation of the company reveals.

Liking a company too much can lead you into the trap of convincing yourself it’s the right deal when in fact it might not be. Remain objective and remember, you’re buying the company you will likely run for the next several years. You want to be SURE it’s the right one before committing.

There are other deals out there

As I said above, I have looked at over 200 deals in just over four months. The typical searcher looks for over a year before finding their acquisition. There are HUNDREDS of businesses for sale at any given moment. Your job is to sift through all those opportunities to find the right one for you.

To make this process simpler, I recommend using the search alert feature available on all the big marketplaces like BizBuySell, BizQuest, and Centurica’s MarketWatch. Create a search with your specific criteria – industry, size, earnings, etc – and read the emails as new businesses become available. Doing this will eliminate the bulk of the deals out there.

You should also identify some of the more prominent business brokers. I personally prefer Quiet Light Brokerage, FE International, Website Closers, and TheFBABroker.com. Sign up for their e-mail lists, so you’ll be notified about new listings.

If you take these steps, my experience shows there should be no shortage of potentially interesting deals for you to evaluate. Patience and diligence are the name of the game here.

When you see a good deal, you’ll know it

A few weeks back, I spoke with a lender who said that when I find the right deal, I’ll know it. At the time, I reacted with skepticism, since I had only seen one even remotely interesting deal in the preceding months. Lo and behold, not even two weeks later, this deal came into my inbox. I knew within minutes that this one was special. He was right!

That said, I still put the company through the same evaluation process I had put all the ones before it. And when its results came out sparkling on the other side, I knew my intuition was correct. Good deals do exist! You just have to find them.

…But so will other buyers

The problem with good deals is that other people seem them! This business had three LOIs within nine days of being listed. NINE. I’ve seen businesses languish on the marketplaces for months at a time. In fact, research conducted by The FBA Broker concluded that in 2018 the average business was on market for over 100 days before selling. That makes the nine day turnaround time for this business nothing short of extraordinary.

Fortunately, the selling broker was communicative about the pace with which the deal was progressing. I knew I had to act quickly to put myself in contention. Situations like this happen all the time with good deals. Good businesses stand out from their unremarkable peers. Many of the people and firms in the business acquisition space are experts in what makes a good business, so your competition will be smart and quick to act.

This fact highlights how valuable it is to have well-defined investment criteria, a strong financial background, and a willingness to execute when presented with a strong opportunity.

Get your financing lined up ahead of time

Of the two LOIs I was up against, one had FIVE banks lined up to finance the deal. The other had two that had already approved the deal. I was hopelessly outgunned and under-prepared. Because of the condensed timeline of this deal, I had to get my letter of intent done before I had locked down financing.

Think about the motivations of the seller and the seller’s broker. Their primary aim is to maximize the likelihood that a deal gets done. If you don’t appear able to go the distance, for whatever reason, your LOI is less likely to be accepted.

To combat this, you can do two things. First, you can reach out to several SBA lenders and “pre-qualify” for a loan up to a specific size. This is kind of like a mortgage. I did this with three bankers and now I have documentation proving I can acquire a business up to a certain size. The lenders will ask for your previous tax returns, your personal income statement and balance sheet, and many other supporting documents. Have these ready before asking for pre-qualification.

Second, you should submit the details of the deal to lenders as soon as you know you want to pursue it beyond the initial review. You’ll give the lender more time to review the deal and determine whether it’s something they can underwrite.

Remember, it is your responsibility to instill confidence in the sellers that YOU are the one who can get this deal done. Getting your financial house in order is one of the most critical elements of this.

Stick to your investment criteria

It can be easy to convince yourself that THIS deal is the right one. In evaluating my deal, I bent a little on my profit margin criteria. As a result, the pro-forma financials had very tight margins after the payments on the SBA loan. I wrote this off as the price I’d pay to have an otherwise excellent company. What I didn’t consider is that if the revenues or profits of the company take an unexpected dip, it won’t be long before I can’t make the debt payments. That would be BAD. Remember, an SBA loan comes with a personal guarantee, meaning if your company can’t pay the loan, it’s up to you to pay it.

If you prepared well, you have created a list of investment criteria outlining the type of business you want to acquire before starting your search. Stick to this list. Treat it as gospel. These criteria are the gold standard to which all your opportunities must be measured. Don’t overlook one criteria simply because the rest of the business looks good. This is one of the fastest ways to violating rule number one: NEVER FALL IN LOVE WITH A DEAL.

So now what?

I am trying to remind myself that by even submitting an LOI in the first place, I have already gone further toward acquiring a business than 90% of the people who set out to do so. My LOI proves to me and the seller’s broker that I am willing to put my money where my mouth is for the right deal. I do, in fact, have what it takes to stake my financial future on a single transaction. And I learned the bitter feeling of failure as that commitment was rejected.

As with all our failures in life, it is not the action that counts, it’s the reaction. I am choosing to view this lost opportunity as a valuable lesson in the acquisition process.

I’m going to take a few days off from looking at new opportunities. This was my first love, so to speak, so it’s going to take some time to get over it. But this weekend, I intend to dive head first back into the proverbial dating pool.

I’ll go back to my process of filtering the deals I see, sorting the mediocre from the terrible. And somewhere along the way, I’ll come across another gem like this one. Who knows, maybe that one will be my “Happier Ever After.”