Shares or assets?

There are two ways to buy a business. One is to buy the company’s shares and thereby acquire all of the company’s assets. The other is to buy the assets alone, which may mean that you also acquire some of the company’s liabilities.

These two structures are fundamentally different. If you buy a company’s shares, you will be buying all of its assets, liabilities and existing contracts, even if you haven’t been told about all of them. It is up to you to do your due diligence prior to completion, in order to ensure you know exactly what you are buying.

Conversely, if you simply buy the assets, these are stripped out of the company and transferred to you, leaving the company as nothing more than a shell, which is usually then wound up. However, the assets (and any liabilities) will be clearly set out in the asset purchase agreement, so that there can be no confusion as to exactly what it is you are buying, and so there should be no surprises.

However, asset purchases can be more complicated than share purchases because each asset needs to be transferred separately and a value attributed to it (usually by accountants).

It is tax efficient to attribute most of the value in such transactions to the goodwill, although this is not always possible owing to the nature of the business, which may have large quantities of stock that will need to be valued. You may also find that it will be necessary to renew any licences or consents required by law or to novate any agreements currently contracted for by the seller with his suppliers. However, provided that the assets to be transferred are clearly identified in the agreement, if may be preferable to buy the assets rather than the shares.

These differences often lead buyers to prefer an asset sale and sellers to prefer a share sale. Ultimately, however, the choice will usually be driven by the taxation position of both buyers and sellers. Advice should always be sought from your financial adviser before any decision is made.

Preparing to sell a business

In the best of all scenarios, sellers will have evaluated their businesses, having taken a view as to how the business should be marketed and the costs involved. Sellers can market to buyers who may already be interested or are current suppliers or, indeed, the existing management may want to buy the business. Alternatively, there are a large number of professional advisers who are happy to charge exorbitant fees to provide this service.

A seller will need to ensure that the business is ready for sale and much will depend on whether the business is part of a group structure or a single entity.

Where group structures are involved, a seller may be able to transfer assets he wishes to keep into a subsidiary company by way of a hive down. There may be substantial tax advantages from liabilities for stamp duty or SDLT and sellers must always take advice as to their tax position so that they are aware of the potential benefits and pitfalls.

Other issues to be considered prior to a sale are whether there any employees and matters such as intellectual property rights (IPRs) or pensions. Where there are a number of employees and the seller decides to use the asset route rather than a share sale, there may be problems with the Transfer of Undertakings (Protection of Employment) Regulations (TUPE) 2006, particularly if the buyer is not keen to take all (or some) of the employees on when he acquires the business. Conversely, when the shares are being purchased, TUPE does not apply, which may provide a significant reason to buy the shares rather than the assets.

Sellers should also ensure that their due diligence information is prepared in advance. Buyers will always require information about the accounts, and if these are not recent may often require management accounts to be prepared (at the seller’s expense). Buyers will also require information about the structure of the company, its directors and shareholders, any properties owned by the seller, important contracts etc as they will require warranties to be given by the seller to provide buyers with some comfort if things turn out after the deal is done to be not quite how they were presented before the completion of the sale.

Preliminary agreements

The aim will then be to have solicitors acting for buyers and sellers appointed so that the relevant documentation can be drafted (in this case it is the buyer’s solicitor who will draft the main contracts not the seller’s, as happens in conveyancing matters). However, before this point is reached it is commonplace for the parties to enter into a number of preparatory paperwork, for a number of reasons.

Confidentiality agreements

In most business sale deals the buyer will require access to significant information about the target business, some of which may be confidential. It is therefore standard practice for a seller to require any prospective buyer to enter into a confidentiality agreement before making information available. In the event that the potential buyer is unwilling to do so, a seller may well have saved himself considerable time and money wasted on a time-waster who is not a genuine buyer.

Exclusivity agreements

Buyers will necessarily incur considerable time and expense when undertaking their due diligence on the target company. Therefore, to avoid sellers offering their business to this parties who may not undertake such thorough due diligence, buyers will often require the seller to agree to a period of exclusivity or ‘lock-out’, whereby the seller agrees not to sell to a third party for an agreed period of time.

Heads of terms

Irrespective of whether these two agreements are in place, when agreement to sell and to buy is agreed in principle, the parties may wish to record the main points in writing by way of heads of terms. Although these are not normally legally binding, it is possible to build in legally binding clauses, usually regarding confidentiality and exclusivity. Heads of terms are, however, often thought of as a moral rather than a legal obligation, and it is commonplace for them to be drafted by solicitors rather than by the parties themselves.

Due diligence

Once the preliminary agreements are in place, the buyer can start the due diligence process to conduct a thorough investigation of the target business.

Buyers will want to build as full a picture of the business as possible, including tangible assets such as land, machinery, vehicles, fixtures and fittings, raw materials, stock, work-in-progress and office equipment as well as intangible assets such as the goodwill, the benefit of any existing contracts and intellectual property rights. It is vital to ensure that the seller does in fact own what he proposes to sell so that he can properly transfer it to the buyer on completion of the transaction.

The buyer will need to conduct any searches necessary to ensure that the seller has title to any property and will normally require the seller (or the seller’s solicitors) to complete a comprehensive due diligence questionnaire. The replies to this questionnaire may affect the price that the buyer is prepared to pay to the seller or otherwise affect the negotiation procedure that will be undertaken in the production of various drafts of the documentation. Agreements may make provision for deferred consideration payments (that is, instalments) or further accounting procedures to be undertaken after the business has been sold.

However, even if a seller is happy to give extensive warranties as to the wellbeing of the business when it is sold, buyers will always want to have sufficient comfort that they know what they are buying rather than making a claim against the warranties if it emerges afterwards that things were not quite what they seemed.

Once the drafting process has been completed and a final agreement drawn up, the seller will have an opportunity to make specific disclosures that the buyer’s solicitor has scheduled into the agreement, and to qualify any of the warranties in order to ensure that the buyer does not make a claim after completion. In addition, there will be a raft of other documentation required including, as appropriate, board minutes of buyer and target, share certificates, stock transfer forms etc.

Once everything is in place, then either at a meeting or over the telephone, the transaction can be completed and the post-completion matters closed. Finally, if the transaction has been a share sale rather than an asset sale, the buyer will pay 0.5 per cent of the completion price to HMRC by way of stamp duty. Where the transaction includes land or property, this is often considerably less than would be payable under the HMRC’s rates relating to property, and may well be a strong reason for opting for a share purchase rather than an asset purchase, also very much the case if there are employees transferring across under TUPE.