How to: Engage Business Brokers In a Tech Business Exit

Selling a business is no small feat. For many founders, it’s a journey that demands expertise from seasoned professionals, among them, business brokers. Business brokers offer expertise in navigating the complexities of selling your business, identifying buyers, and negotiating deals. However, formalizing your relationship with a broker can itself be a negotiation; one that benefits significantly from careful legal oversight. 

In this article, we’ll explore the dynamics of working with business brokers and common terms you’ll encounter. With the right legal guidance, we’ll ensure you can secure the best outcome for your relationship. 

We’ll address:

• What does a business broker do?
• Key benefits of business brokers
• Business broker fees and compensation structures explained
• Key terms in engaging a business broker 
• Negotiate with and engage a business broker with confidence

Let’s get into it. Tackling an upcoming exit? Explore our 2024 guide to maximizing company value.

What does a business broker do?

Business brokers play a similar role to real estate agents: they help identify buyers, manage the sales process, and secure the best price. A skilled broker brings value through market insights, buyer networks, and deal-making expertise. However, their compensation is often tied to the success of the sale, and this alignment of interests can make broker agreements particularly nuanced to negotiate.

Key benefits of business brokers:

• Market reach: Brokers have access to databases and buyer networks that you might not.
• Expertise: From valuation to deal structuring, brokers efficiently handle complex steps.
• Time savings: Selling a business is labor-intensive; brokers manage much of the process.

While these advantages are clear, the engagement terms you agree to with your broker can significantly impact the outcome of your business sale.

Business broker fees and compensation structures explained

Like real estate agents, most brokers are compensated through a commission structure known as a "success fee," typically calculated as a percentage of the final sale price. Below we delve into the finer details of a commonly asked question: how are business brokers paid? 

Standard business broker commission rates

For smaller transactions, commissions often range from 8% to 12%, with 10% being common for small to medium-sized businesses valued under $1 million. As transaction values increase, the commission percentage generally decreases, reflecting the larger deal size.

• 10% on the first $1 million
• 8% on the next $2 million
• 6% on amounts above $3 million

The Lehman Formula

Also known as the Lehman Scale, the Lehman Formula is a commission structure developed by Lehman Brothers in the 1960s. It establishes a tiered system where the commission percentage decreases as the transaction size increases, effectively aligning the broker's compensation with the scale of the deal.

• 5% of the first $1 million,
• 4% of the second,
• 3% of the third,
• 2% of the fourth,
• 1% on amounts above $4 million.

Example: For a $5 million sale under the Lehman Formula, the commission would be calculated as follows: 5% of the first $1 million ($50,000), 4% of the second million ($40,000), 3% of the third million ($30,000), 2% of the fourth million ($20,000), and 1% of the remaining $1 million ($10,000), totaling $150,000.​

Over time, variations of the Lehman Formula have emerged to account for factors like inflation and the increasing complexity of transactions. One notable adaptation is the Double Lehman Formula, which doubles the original percentages:

• 10% of the first $1 million
• 8% of the second $1 million
• 6% of the third $1 million
• 4% of the fourth $1 million
• 2% of any amount above $4 million

Other fees

In addition to success fees, brokers may also charge:

• Retainers: Upfront fees to secure their services, which might be credited toward the final commission.
• Minimum fees: A baseline fee to ensure payment regardless of the transaction size.
• Marketing fees: Charges for preparing materials and promoting the business, often non-refundable.

Understanding these fee structures is crucial when evaluating whether a broker’s terms align with your expectations. Lawyers can review these provisions to ensure they’re competitive and reasonable, offering insights on benchmarks for your industry and deal size.

Engaging a business broker and need support? Have a chat with our global team of experienced exit lawyers.

Key terms in engaging a business broker 

While brokers are invaluable for navigating the sale process, negotiating their engagement terms requires diligence. Here are some key areas to focus on:

Fees

As discussed earlier, brokers may propose commission tiers tied to different sale price thresholds. For example, lower percentages might apply to portions of the sale price exceeding certain threshold amounts. While this sliding scale structure can be advantageous, good lawyers will help ensure these thresholds and percentages are well-defined and fair. 

It's also crucial to define whether the broker's commission is calculated on the enterprise value (being the total business value, including both debt and equity) or just the pure equity value (value of ownership interests). Ambiguities here can lead to unexpected costs. Legal counsel can ensure this distinction is explicitly outlined in the engagement.

Fee caps

Expert lawyers can also help you implement a cap on broker fees to ensure that commissions remain reasonable, especially in transactions where the sale price exceeds initial expectations. This approach provides financial predictability and prevents disproportionate payouts.

Responsibility for calculations

At Biztech Lawyers, our clients benefit from specifying that the responsibility for closing calculations and financial modeling rests on the broker. Laying this out in the engagement letter streamlines the process and ensures accountability. 

Buyer introduction

Many broker agreements typically permit brokers to claim commissions on sales to any buyer during the engagement period, even if they didn't facilitate the introduction. Negotiating exceptions for buyers you sourced independently prevents unnecessary commission payments.

Exclusivity clauses

Most brokers will request exclusivity, meaning you can’t engage multiple brokers simultaneously. While standard in most engagements, exclusivity terms should be balanced to avoid locking you into an unproductive relationship. For instance, we have advocated for performance-based milestones in previous projects, which ensures that the broker delivers results within a reasonable timeframe. Other options to consider include time-limited exclusivity to provide flexibility if the broker fails to deliver results within a reasonable timeframe.

Post-term engagements

Tail clauses allow brokers to claim fees for a defined period after the engagement ends if a transaction closes with a buyer introducing them during the term. These provisions are common but should be reasonable in duration, often six to twelve months, and limited to buyers directly identified by the broker. Legal experts can help refine these clauses to prevent overreach and ensure they are not overly unfair.

Break fee and indemnity provisions

Some agreements include fees if a sale doesn’t proceed, compensating brokers for their time and effort. While not inherently unreasonable, these terms need to be carefully drafted to avoid excessive financial obligations. Additionally, brokers may seek broad indemnities for claims arising out of the transaction, shifting liability risks to you. Lawyers are essential in narrowing these provisions, ensuring you’re protected from unnecessary exposure while maintaining fair terms for all parties.

Negotiate with and engage a business broker with confidence

Negotiating a broker engagement is a critical step in preparing your business for sale. From fee structures to post-engagement obligations, understanding what to expect allows you to approach discussions strategically. Partnering with a skilled lawyer can ensure that your business broker’s terms reflect industry standards, protect your interests, and align with your goals.

Selling your business is a significant milestone—make sure you’re entering the process from a position of strength. Our legal team has extensive experience dealing with brokers in our M&A practice. Contact us today to learn how we can assist you in navigating the sale of your business with confidence.

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