If you have decided to sell your business or if you’ve had someone approach you offering to buy, then before you get too far down the track, you need to consider the best structure for your sale. It is important to remember that there is more than one option available to you.
Assuming you do not operate the business in your personal capacity, then the first consideration is whether you will sell the assets or sell the shares (we refer to shares in this article, but if you do not run your business through a limited liability company, then our comments will apply similarly to the sale of other relevant equity interests). In making this decision, we would suggest that you seek the advice of your legal advisor or accountant, as they will be able to help you assess the options. You will also need to engage with the purchaser to find a mutually agreeable solution.
There are advantages and disadvantages to both structures and understanding these before you proceed towards due diligence or documentation will save you considerable time, money and effort.
Asset sale vs share sale: what’s the difference?
An asset sale is an agreement whereby the company sells its assets to the purchaser. The assets may include items such as plant and equipment, inventory, business records, intellectual property (brand protection), computer software, key customer/supplier contracts, rights to occupy the business premises and everything else that is necessary for the purchaser to operate your business going forward. Think of your company as a box that is full of individual items (being each of the assets) and in an asset sale you are pulling each item out of the box and selling it to the purchaser.
A share sale is an agreement made by the shareholders of the company to sell their shares in the company to the purchaser. In this case, think of your company as a box and you are selling the entire box to the purchaser (which inevitably comes with all of the assets inside of it), as they are and will continue to be owned by the company that you are selling. Here, the purchaser becomes the new owner of the company itself and therefore acquires all of the company’s rights and assets but also all of the company’s obligations and liabilities, regardless of whether they are current or historic, known or unknown.
What are the relevant considerations?
Historically, we have found that asset sales have been more popular as inevitably it is difficult for a purchaser to get comfortable that it has quantified the risk of all the potential liabilities that it may be taking on in purchasing the company. The company is a legal entity and will remain responsible for its past actions, even if the shareholders change. This can be a big problem for potential historical liability risk (consider miscalculated tax or recent examples of miscalculated holiday pay) and for issues that the vendor is not even aware. A purchaser may be able to get comfortable through a combination of their due diligence and the comfort of some warranty/indemnity protection – but this may be at odds with a vendor that wants to take its money and run. An asset sale allows the parties to “cherry pick” what assets and what liabilities are transferring to the purchaser, and the risk of “unknowns” is significantly minimised.
In recent times we have seen some examples of share sales coming back to the fore. This may be due to the apparent “ease” of completion. At its most basic, all you need to do is transfer the shares and everything in the company goes across to the purchaser, whereas an asset sale requires you to address each asset separately and arrange for it to be transferred to the purchaser (including all contracts and regulatory licences, as well as transferring employees). A sale of shares also saves you the time and costs associated with liquidating the vendor company if it has no other purpose. It can also be more tax efficient for a vendor.
The transfer of contracts can be seen as a key draw back of an asset sale. To properly transfer the contracts to the purchaser, you need a three-way novation deed which requires each contract counterparty to sign up to the arrangement, as well as the vendor and purchaser. This third party consent process can take time and some counterparties will take this as an opportunity to re-negotiate the existing arrangements. A share sale may be seen as a “time and money saver” in this regard as the contracts remain with the company that is the subject of the sale and no “transfer” is required. However, this may be a false economy as it is increasingly common for contracts to include what is known as a ‘change of control’ provision which provides that the relevant counterparty can terminate the contract if the other company’s shareholding changes without first obtaining the counterparty’s consent. This means a similar third party consent process will still need to be followed.
A note on due diligence
Due diligence is a crucial part of any proposed business sale and should not be overlooked, even when you are the vendor. Proper investigation and inquiry into your current business operations before you sell will allow you, and your advisors to have a better understanding of what you may be facing in the document preparation and negotiation phase of transaction, including how to deal with issues. It can also guide you in your structural decision.
A share sale will almost always include a vigorous and broadly scoped due diligence process by the purchaser as the risk for the purchaser is much higher due to the potential for historical and unknown liabilities.
Other structural options
Once you have the basic structure resolved, you can also consider what sort of purchase price arrangements would suit your situation. This may simply be full payment of the price at settlement (with or without the prior payment of a deposit). However if there is some dispute over settling on a price you could consider alternative options, such as an earn-out, whereby the vendor pays more when certain milestones or financial hurdles are met, or receives on-going royalties from specified sales. These arrangements can be complicated, but are worth consideration if it could work for the parties.
Moving forward: what will work for you?
The best structure of your business sale or purchase will depend on the particular situation and what you wish to achieve from the transaction.
If you would like assistance with the sale or purchase of a business, or just want to talk through the options further, then one of our team would be happy to help.
Business Law team
If you need any assistance with the sale or purchase of your business, do not hesitate to get in touch with the Business Law team at Lane Neave.
Gerard Dale, Claire Evans, Graeme Crombie, Evelyn Jones, Anna Ryan, Joelle Grace, Peter Orpin, Ellen Sewell, Matt Tolan, Carlo Wan, Kristina Sutherland, Jacob Nutt, Whitney Moore, Alex Stone, Ben Cooper, Lisa Catto
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