EXPERIENCE. TRUST. SOUND ADVICE.
BUYING A RENT ROLL OR CLIENT BOOK
A Few Things You Should Know
If you are buying a property management rent roll from another real estate agency or a book of clients from either a mortgage broker or financial planner, you can, and should, use a business contract with special conditions specifically drafted to cover transactions of this nature, as there are issues and traps that need to be addressed which do not arise in ordinary business purchases and as such, you would not expect to be covered by the provisions of a standard business sale contract.
The risk with buying a rent roll or a client book is arguably much higher than buying some other business assets (such as plant and equipment, for example). With plant and equipment, you know that following settlement you will receive ownership and possession of the plant and equipment you inspected and listed in the business contract. Rent rolls and client books on the other hand are little bit more tricky. Clients are people, not assets that you can own, although books recording client details and client data, including the goodwill associated with those clients, are assets.
Therefore, with this in mind, it is important to remember that clients, following your purchase, are free to do as they please. They can either agree to accept your services or they are at liberty to seek the services of a third party. Clients or listings lost following settlement is known as slippage. If you are not careful, you can find yourself having paid a lot of money for appointments which are lost or clients which have gone elsewhere. But in all honesty, clients can seldom be blamed for this, as their relationship was with the seller, not the new buyer.
However, there are ways to deal with client retention in properly drafted contracts (i.e. imposing client notification requirements, smooth transition obligations and restraint of trade provisions on the seller to name but a few). Moreover, there are ways to ensure that the purchase price you pay reflects the value of the clients you have actually retained. Adjustment, retention sum and claw back clauses, may be inserted to deal with situations where recurring revenue targets are not achieved by the buyer.
There are other issues a contract tailored for these transactions will also cover and for these reasons using the right tools, and speaking with a business lawyer with experience in these matters, is to be recommended.
How should the Purchase Price be structured for these Transactions?
The first step between the parties is to agree to an initial purchase price for the rent roll or the client book. This could be a fixed sum (for whatever amount), as agreed between the parties to be a fair price. Or, in the alternative (which is probably a more common approach), the parties may agree for the purchase price to be a multiple of the total recurring revenue for the rent rolls or the client book.
The total recurring revenue for the client portfolio will be the commission income and/or the fee income earned by the seller for a set period of time preceding the date of the Contract.
Whether you choose the fixed sum or the multiplier approach, the purchase price should be split into two (2) instalments (or more depending, on how long the seller will agree to be on the hook for any rises or falls in the recurring revenue following settlement day).
The first instalment (being a percentage of the purchase price) will be due and payable on settlement day. The second, and final, instalment (if we are working on the basis of two (2) instalments) will be due and payable on the verification date after the settlement day (and the verification date should mirror the period used to determine the total recurring revenue on which the purchase price was calculated).
The final instalment will be held in an escrow account until such time that an adjustment to the purchase price can be determined by the parties.
The escrow account is usually the buyer’s solicitors’ trust account as stakeholder, meaning the buyers’ solicitor cannot deal with the funds in any way at all without the authority of both the buyer and the seller.
How will an Adjustment be applied to the Purchase Price?
The final purchase price will be adjusted according to the actual recurring revenue determined on the verification date following settlement day.
The adjustment may be applied to the entire purchase price or just the final instalment (depending on what the parties agree). Also, the adjustment may apply to both a ‘rise and fall’ to the actual recurring revenue or only a ‘fall’ to the actual recurring revenue (again, depending on what the parties agree).
The mechanics of the adjustment is best illustrated through an example.
Say the adjustment agreed between the parties is a ‘rise and fall’ adjustment to the entire purchase price involving the following figures:
- Initial Purchase Price: $600,000 (being a multiplier of 1.5 to the total recurring revenue of $400,000)
- Total Recurring Revenue: $400,000 (determined for a set period of time preceding the date of the Contract)
- Actual Recurring Revenue: $300,000 (determined on the verification date following the date of the Settlement)
As you can see, there has been a fall to the actual recurring revenue of the client portfolio (whether due to client retention, other market conditions or reasons).
The revised Purchase Purchase will therefore be $450,000, calculated as follows:
- ($300,000 x $600,000) / $400,000
If the first instalment you paid was for say $400,000, and the second, and final, instalment of $200,000 was held in the escrow account pending the determination of the adjustment, you, as the buyer, would be required to authorise a release of $50,000 from the escrow amount to the seller, and the sum of $150,000 would released back to you.
If there has been a rise in the actual recurring revenue of the client book, you may be required to pay more than the initial purchase price agreed.
In the alternative, the adjustment provisions can be drafted to apply to the final instalment only if there is a ‘fall’ only (and if there is a rise, then the buyer’s liability is limited to the final instalment).
There are a number of ways in which these adjustment arrangements can be drafted to reflect the intentions of the parties.
How do I know which rent rolls or clients I am acquiring?
The details (or particulars) of the rent rolls or clients comprised in the client portfolio of the seller will be clearly detailed in a Schedule to be attached to the Contract.
The client records that you should receive as part of the purchase should include, at the least:
- all details, information, records and databases (however recorded or stored) recording the clients (including their personal information);
- all information and databases relating to the management of the client portfolio and the provision of the services to the clients; and
- all information relevant to the clients necessary or desirable to assist the buyer in servicing the clients and providing services directly to the clients.
What can the parties do to improve client retention?
As a condition of the Contract, the parties can, at the least, agree that on unconditional date or settlement date under the Contract:
- the seller will send the clients a letter (on terms to be agreed by the parties);
- the letter will introduce the buyer, its business and the services the buyer offers to the clients;
- the letter will advise the clients that:
- the seller has transferred the client portfolio to the buyer;
- the seller will no longer be providing the services to the clients; and
- the buyer will make arrangements to meet with the clients;
- the letter will also recommend that the clients sign a letter of appointment with the buyer to engage the buyer to provide the services and if the client fails to appoint the buyer, the client has the liberty to seek the services from a third party.
There are other steps that the buyer may wish for the parties to take in order to ensure a smooth transition and improve client retention (which obligations can be incorporated into the Contract).
If you need legal advice or assistance with buying a rent roll or client book, please contact AdviiLaw today to speak to one of our experienced lawyers. Contact us on 07 3088 7937 or email us at firstname.lastname@example.org. This commentary is of a general nature only, containing some general information for the reader.
It is not intended to be legal advice, nor can it be relied upon as legal advice, as each case will depend upon its own specific facts, matters and circumstances. To this end, please kindly read our Website Terms including the disclaimer contained therein carefully. Laws, rules and principles may be subject to sudden and unexpected changes and you should always consult a lawyer about your specific circumstances before committing to a course of action.