A strong business lawyer and sound financial advisors can be your guides in the journey to successfully acquiring a business.
So, you are ready to buy a business? Congratulations! The acquisition of a company can be a fun and exciting process and, like any process, purchasing a business is quite the journey. Often times, a buyer’s initial thought process is focused on the day-to-day operations of the business, growth potential, and the bottom line return on investment. This type of focus is justifiable and, arguably, necessary to feed the entrepreneurial spirit and ignite the passion it takes to own and operate a successful business. Without such vision and passion, it is unlikely that the buyer would even be considering buying a business in the first place.
However, the ownership, operation, and growth of a business are really more like destination points along the path to becoming a business owner. A successful acquisition starts with some of those “pesky formalities” like the negotiation of terms, letter of intent, due diligence, documentation and closing. These items may not be as much fun to think about as the growth and prosperous future of the successor corporation or limited liability company, but they are fundamental building blocks to a smooth and successful corporate transaction. That is why, first and foremost, a buyer should engage a strong business attorney and a reputable accountant to help with and serve as guides to the merger or acquisition process. You may also want to consider speaking or engaging with an experienced business broker who can lend additional perspective. Here are five (5) of the top considerations a buyer’s corporate counsel and CPA can and should assist you with when purchasing a business:
1. Entity Formation. Who will be buying? Will it be you as a sole proprietor or should you start a new company to purchase the seller’s business?
Typically, you should consider incorporating a new corporation or organizing a limited liability company to serve as the entity that purchases and maintains the assets of the business.
Whether the start-up is a corporation or an LLC, there are numerous advantages to having a corporate entity own and operate the business. Such advantages include, without limitation, liability protections for the owners of the company, potential tax savings, ease of raising capital and/or procurement of financing and simplification of the transferring of ownership interests in the company.
2. Asset Purchase vs. Stock Purchase. What will you buy?
In an “asset purchase”, the buyer is merely acquiring the tangible and intangible assets of the company.
Such assets may include, inventory, equipment, accounts receivable, real property, personal property, good will, the assumed name of the business, domain name for the company’s website and telephone number. The advantage here is that the purchaser does not acquire any of the seller’s liabilities. In fact, most well-crafted asset purchase agreements contain provisions where the purchaser disclaims any and all liabilities of the seller and the seller warrants and represents that there are no liabilities and that the seller will indemnify and hold the purchaser harmless for any liabilities that the seller may have overlooked.
On the other hand, if a purchaser buys the stock of the company, the buyer is acquiring the assets AND the liabilities of the predecessor company.
Unless there is a specific reason (assumption of a particular lease or the like), typically, a buyer should not assume any liability of the seller.
3. Formal Letter of Intent. What are the terms for the asset purchase? Unfortunately, the days of “hand-shake” deals are long gone. Heavy negotiation and detailed memorialization of terms are now the norm. Once the buyer and seller have preliminarily agreed that the sale of a business is going to occur and settled on a price, it is a good time to phase those preliminary discussions into the preparation, negotiation and execution of a letter of intent or “LOI.”
The LOI is a short-form (i.e. three-five page) letter agreement that sets forth the salient terms of the acquisition.
These terms will likely include, among other things, purchase price, assets being transferred, any specific assets not being transferred, any specific liabilities being assumed (like the assignment of a real property lease), timing of closing and treatment of accounts receivable. The LOI is generally more detailed than a “term sheet” and helps in the preparation of the final asset purchase agreement executed by and between the parties. Moreover, the signed LOI serves as a good beacon to rely on should either party attempt to renegotiate terms during review of the final documentation or closing.
4. Due Diligence. What are you really buying? You’ve been to the business’ location, kicked the proverbial tires and you feel pretty good about buying the company’s assets. However, sometimes with a company’s assets, there is more than meets the eye. This is where in-depth due diligence comes in.
Due diligence is the process of evaluating a business from multiple aspects before finalizing your decision to buy.
It is absolutely critical to examine the financial aspects of the company to determine what benefits, liabilities, risks and opportunities that may come along with the asset purchase. For example and among other things, the buyer will need to (i) know whether there are any tax liens or security interests held by creditors against any of the real, tangible, or intangible property of the company, (ii) spend time at the business location and speak with employees, managers, and executives, (iii) carefully review the company’s accounts receivable or “A/R”, (iv) examine court records to determine if there are any pending lawsuits or claims against the company, and (v) understand any contractual obligations and relationships of the company whose assets are being purchased.
5. Representations, Warranties and Transition. What protections are built into the process and who stays, who goes, and for how long? The final asset purchase agreement should contain various representations and warranties of both the seller and the buyer. These “reps and warranties” range from standard express promises like “the seller has the legal authority to enter into this transaction” to more narrowly focused assertions like “seller warrants and represents that there are no liens or legal claims against the company or its assets other than those specifically disclosed to buyer.”
The warrants and reps will serve to protect both the buyer and the seller and they typically “survive” closing, giving each party something to fall back on should a problem arise in the future.
Moreover, a buyer will typically want to have specific warrants, representations and agreements from the seller with regard to the seller’s transition of the assets and good will of the company to the buyer. This will help the parties peacefully pass the baton, so to speak, and clarify the duties of both the seller and the buyer to aid with what will hopefully be a seamless and mutually beneficial sale of a business.
If you or someone you know is looking to buy or sell a business, our attorneys are happy to have a conversation and address any concerns. We believe business planning is an ongoing process and can schedule a time at your convenience to review and discuss our approach to our client relationships.