PURCHASE AND SALE OF A BUSINESS
UNDERSTANDING THE BUYER’S POINT OF VIEW
PURCHASING A BUSINESScan be an exhilarating dream for many buyers, but unfortunately it doesn’t always work out as planned. While the buyer is primarily focused on running the business successfully after closing, the purchase process itself may be fraught with anxiety. The buyer wonders how to be sure that he is getting what he thinks he is, how to avoid being responsible for claims and other liabilities, and how to avoid unpleasant surprises when he takes over.
SALE OF ASSETS OR SHARES? Buyers are usually well advised to purchase the business assets of the seller – company, rather than corporate stock or LLC membership interests. Assets – only purchase allows the buyer to pick and choose among the seller’s assets, to assume contracts or not, and to substantially limit his assumption of related liabilities. Generally speaking, if the buyer purchases the company itself rather than just its assets, the company’s liabilities, known and unknown, come along too. In most cases, the small business buyer prefers to purchase selected assets only.
THE AMOUNT OF THE PURCHASE PRICE AND HOW IT IS TO BE PAID is of course among the buyer’s (and seller’s) primary concerns. Except for the rare buyer who pays entirely in cash at closing, some kind of financing will be involved. Unless the assets being purchased include prime real estate to be used as collateral, commercial financing is difficult to find in the present climate. Seller financing, in which the seller accepts the buyer’s promissory note for some or all of the purchase price, is common. Any kind of financing means that the buyer will be making installment payments to a lender, so in negotiating the purchase price and related terms, the buyer has to be realistic about the expenses of running the business and remain focused on keeping the monthly “nut” within a range the business will be able to support.
A SELLER WHO PROVIDES FINANCING does so because he has to in order to find a buyer. He fears that the buyer will not be successful in running the business and so not able to make the payments on which the seller is depending. The seller will want the same kinds of security as a commercial lender, including a security interest in the assets being sold and a personal guaranty of the buyer’s obligations by the buyer’s principal. Additionally, many PSAs include a provision that if the buyer defaults on its installment payments, the seller has the right to “re-enter” and resume operation of the business. Of course, not every business lends itself to re-entry rights – – this kind of provision is most common in connection with businesses such as restaurants and retail operations.
WHEN NEGOTIATING THE TERMS OF SELLER FINANCING, THE BUYER SHOULD think carefully about the seller – lender’s security. It is reasonable for a seller to take a security interest in assets which have not been fully paid for, but if the buyer is contemplating seeking additional financing in the future (for expansion, for example), the new lender will almost certainly demand that its security interest in the same assets take priority. A seller’s demand for a personal guaranty from the buyer’s principal is more problematic. The guaranty puts the principal’s personal assets at risk and so has the effect of negating some of the limited liability protection for which he established the purchasing entity in the first place. If the seller insists on a guaranty, the buyer should try to limit it in one or more ways. One possibility is a guaranty limited to a certain dollar amount which is less than the amount owed. Another possibility is a guaranty limited in time – for example, the guaranty may provide that it expires after the first year provided that the buyer has made all installment payments timely. The buyer should make every effort to avoid a personal guaranty in which the principal’s spouse is required to join – – that may put all the couple’s assets at risk, including their residence.
DUE DILIGENCE is the process in which the buyer investigates the business and seeks to verify information which may have been provided by the seller or a broker. The PSA should provide for the buyer to perform physical inspections of assets, environmental searches and inspections, if applicable, and set forth a list of documents to be provided for buyer’s review. These usually include books, records and accounts, leases and other contracts, repair records, and various other items depending on the nature of the business. Many of the documents to be provided correlate with the seller’s representations and warranties. Buyers sometimes expect the seller to provide representations as to the profitability of the business or to the effect that the purchased assets will enable the buyer to operate the business successfully. While the seller is prohibited from making false statements or deliberately concealing negative information or conditions, he is not obligated to provide insurance to the buyer or do the buyer’s work for him. It is reasonable to expect the seller to represent, for example, that the financial statements provided for review are true and correct, but not that the buyer will realize a particular revenue from the business. It is reasonable for the seller to represent that he has not been advised that the business is in violation of any restrictions or regulations, but not that the buyer will be legally able to conduct the business in any particular way. It is reasonable for the seller to represent that it has good title to the assets, but not that they are worth any particular amount.
DISCLAIMER – This article is for general information only and is not intended to provide legal advice or to address specific legal problems. This article does not create an attorney-client relationship. For legal advice concerning business transactions and all other legal matters, consult an attorney.
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Selling A Business (Part 2)
PURCHASE AND SALE OF A BUSINESS
UNDERSTANDING THE BUYER’S POINT OF VIEW
PURCHASING A BUSINESScan be an exhilarating dream for many buyers, but unfortunately it doesn’t always work out as planned. While the buyer is primarily focused on running the business successfully after closing, the purchase process itself may be fraught with anxiety. The buyer wonders how to be sure that he is getting what he thinks he is, how to avoid being responsible for claims and other liabilities, and how to avoid unpleasant surprises when he takes over.
SALE OF ASSETS OR SHARES? Buyers are usually well advised to purchase the business assets of the seller – company, rather than corporate stock or LLC membership interests. Assets – only purchase allows the buyer to pick and choose among the seller’s assets, to assume contracts or not, and to substantially limit his assumption of related liabilities. Generally speaking, if the buyer purchases the company itself rather than just its assets, the company’s liabilities, known and unknown, come along too. In most cases, the small business buyer prefers to purchase selected assets only.
THE AMOUNT OF THE PURCHASE PRICE AND HOW IT IS TO BE PAID is of course among the buyer’s (and seller’s) primary concerns. Except for the rare buyer who pays entirely in cash at closing, some kind of financing will be involved. Unless the assets being purchased include prime real estate to be used as collateral, commercial financing is difficult to find in the present climate. Seller financing, in which the seller accepts the buyer’s promissory note for some or all of the purchase price, is common. Any kind of financing means that the buyer will be making installment payments to a lender, so in negotiating the purchase price and related terms, the buyer has to be realistic about the expenses of running the business and remain focused on keeping the monthly “nut” within a range the business will be able to support.
A SELLER WHO PROVIDES FINANCING does so because he has to in order to find a buyer. He fears that the buyer will not be successful in running the business and so not able to make the payments on which the seller is depending. The seller will want the same kinds of security as a commercial lender, including a security interest in the assets being sold and a personal guaranty of the buyer’s obligations by the buyer’s principal. Additionally, many PSAs include a provision that if the buyer defaults on its installment payments, the seller has the right to “re-enter” and resume operation of the business. Of course, not every business lends itself to re-entry rights – – this kind of provision is most common in connection with businesses such as restaurants and retail operations.
WHEN NEGOTIATING THE TERMS OF SELLER FINANCING, THE BUYER SHOULD think carefully about the seller – lender’s security. It is reasonable for a seller to take a security interest in assets which have not been fully paid for, but if the buyer is contemplating seeking additional financing in the future (for expansion, for example), the new lender will almost certainly demand that its security interest in the same assets take priority. A seller’s demand for a personal guaranty from the buyer’s principal is more problematic. The guaranty puts the principal’s personal assets at risk and so has the effect of negating some of the limited liability protection for which he established the purchasing entity in the first place. If the seller insists on a guaranty, the buyer should try to limit it in one or more ways. One possibility is a guaranty limited to a certain dollar amount which is less than the amount owed. Another possibility is a guaranty limited in time – for example, the guaranty may provide that it expires after the first year provided that the buyer has made all installment payments timely. The buyer should make every effort to avoid a personal guaranty in which the principal’s spouse is required to join – – that may put all the couple’s assets at risk, including their residence.
DUE DILIGENCE is the process in which the buyer investigates the business and seeks to verify information which may have been provided by the seller or a broker. The PSA should provide for the buyer to perform physical inspections of assets, environmental searches and inspections, if applicable, and set forth a list of documents to be provided for buyer’s review. These usually include books, records and accounts, leases and other contracts, repair records, and various other items depending on the nature of the business. Many of the documents to be provided correlate with the seller’s representations and warranties. Buyers sometimes expect the seller to provide representations as to the profitability of the business or to the effect that the purchased assets will enable the buyer to operate the business successfully. While the seller is prohibited from making false statements or deliberately concealing negative information or conditions, he is not obligated to provide insurance to the buyer or do the buyer’s work for him. It is reasonable to expect the seller to represent, for example, that the financial statements provided for review are true and correct, but not that the buyer will realize a particular revenue from the business. It is reasonable for the seller to represent that he has not been advised that the business is in violation of any restrictions or regulations, but not that the buyer will be legally able to conduct the business in any particular way. It is reasonable for the seller to represent that it has good title to the assets, but not that they are worth any particular amount.
DISCLAIMER – This article is for general information only and is not intended to provide legal advice or to address specific legal problems. This article does not create an attorney-client relationship. For legal advice concerning business transactions and all other legal matters, consult an attorney.