Selling Your Business: Purchase and Sale Agreement
March 29, 2018
During my career as a business and estate planning attorney focused on entrepreneurs and executives, I have advised many business owners on the sale of their companies. In order to effectively sell your business, there are several steps to follow that ensure a fair transaction, as well as the provision of points of negotiation between each party, the buyer and the seller.
Earlier in this series, we touched upon tax considerations for business owners looking to sell, and we also posted an article on initiating the sale of a business through an instrument known as the letter of intent. After the buyer submits a letter of intent, they collaborate with the seller on an investigative process called due diligence, where they review a variety of documents, such as contracts related to employees, vendors, and customers; intellectual property and real estate holdings; as well as any pending disputes or litigation (see my colleague Jeff Wolfe’s series on due diligence to learn more about the critical role that corporate attorneys play in business sale transactions and what to expect from a buyer).
In addition to the buyer’s due diligence on your company, you’ll want to conduct a little of your own on the buyer, such as determining whether your company’s suitor has the financial capability and management skills to complete the transaction and effectively run the business.
Today, let’s take a look at the immediate next step after the buyer is satisfied with their due diligence efforts. At this point, the buyer and seller negotiate the finer points of the transaction, executing what’s called a purchase and sale agreement.
These types of contracts can be simple, if it’s a very small business in consideration, but more often are quite exhaustive. It’s important to understand each area of your business covered by a purchase and sale agreement, and if your business has any degree of complexity, you’re well-advised to have a business attorney, accountant, and your business broker at your side throughout the transaction, as they can help you understand legal and tax implications of different points of negotiation, as well as the overall value of your business.
Contents of a Purchase and Sale Agreement
- Parties to the Agreement: Names and location of the buyer and seller.
- Assets: As applicable, fixtures furnishings, equipment, machinery, inventories, accounts receivable, business name, customer lists, goodwill, and other items (you can also use this section typically to exclude certain assets from the sale)
- Liabilities: as applicable, accounts payable, debts owed to banks and others, including loans and lines of credit with outstanding balances (buyers may insert a clause stating they assume no liability as a result of the transaction).
- Closing Date: A date certain for finalizing the transaction.
- Price: Statement of the purchase price and how the parties choose to allocate the price among IRS-determined asset classes.
- Adjustments: Pricing allowances to reflect prorated business expenses and, if inventory and accounts receivable are being sold, to reflect closing-day valuations.
- Seller Agreements: These can include non-competes, retention of the seller as a consultant to aid in the business transition, or an actual employment agreement engaging the seller to a greater extent in the workings of the acquired company.
- Payment Terms: The payments may come in the form of cash on closing day, as well as promissory notes to define future payments.
- Security Agreements: As applicable, buyers may use their own assets as guarantee of promissory notes to the seller.
- Inventory: For manufacturing, wholesale, or retail businesses, you’ll list all inventory on-hand that’s included in the sale transaction.
- Accounts Receivable: This section details accounts receivable to be included in or excluded from the sale, as well as how to handle uncollected accounts.
- Seller’s Representations and Warranties: For the seller, reps and warranties include their corporate authority and legal right to authorize the sale to the buyer; that the seller has clear and marketable title to assets included; that financial records presented fairly reflect the financial condition as of the date of the statements; and that the seller knows of no obligations or liabilities beyond those disclosed as exhibits accompanying the purchase agreement.
- Buyer’s Representations and Warranties: A corollary to the seller’s reps and warranties, this section establishes the buyer’s corporate authority and legal right to authorize the purchase from the seller and warranties that statements made by the buyer and buyer’s guarantors contain no untrue statements or omissions.
- Seller’s Covenants: This is a list of promises that the seller will execute through the closing date, such as paying employees or transferring benefit plans.
- Default Provisions: These are provisions for resolving disputes related to either party not fulfilling the terms of the purchase and sale agreement.
- Business Transfer Agreements: As applicable, this section addresses aspects like assignments of leases, license for intellectual property, or transfer of company stock.
- Participation or Absence of Brokers: This section addresses, as applicable, any broker involvement and the terms of their compensation.
- Obligation for Fees: Finally, this section states how each party will pay fees related to all of the professionals involved in the transaction, such as attorneys, accountants, and brokers.
- Post-closing Rights and Obligations: This section protects the buyer’s right to have the seller maintain certain aspects of the business that are key to its valuation and integrity, such as carrying insurance and maintaining working capital at acceptable levels.
You can see that, based on the complexity of your business, these contracts can be painfully exhaustive without the right blend of professional help. Purchase and sale agreements are just one example of why business attorneys and tax professionals are essential to buyers and sellers having a complete understanding of their rights and responsibilities with regard to a transaction, as well as all of the factors contributing to the value and ongoing health of the business.
I do both corporate advisory work and estate planning, I particularly enjoy walking business owners through sale transactions, helping them understand the implications not only at business level, but on the personal level, too. Contact me today at the Forrest Firm if you need experienced counsel for exploring the sale of your business.