What is a Royalty and why do we utilize it in our small-mid sized business acquisitions?
Using a royalty allows us to fairly compensate the seller for their continued management of a business post-close.
We ask all sellers to continue running the business for a minimum of six months post close and many choose to stay on to run it longer.
We believe that instead of a salary like an employee, the seller who is staying on to run the business should be compensated for the businesses growth and paid a bit more. They should also be paid less if for any reason the business does not do as well. The royalty structure allows us to accomplish this.
When does this royalty end?
In our typical deal structure, we pay a royalty to the seller while they continue to run the business. As soon as they step down from running the day-to-day operations, the royalty ends.
Why not just pay a salary
One alternative to using a royalty to compensate the seller for their continued management is to just pay them a salary. We are not opposed to paying a salary, but it does expose us to extra risk.
A salary is a fixed cost on the businesses income statement, this means that even if the business is being poorly managed by the seller, we still have to pay the same amount as if it was being run very well and growing.
At Minerva, our opinion is that it is better to pay a percentage of revenue to the seller so that they are appropriately compensated for the businesses performance.
When used in conjunction with a down payment, seller note and retained equity. Business owners that we work with typically see higher total compensation than they would get elsewhere on the market.