If there weren’t legal aspects in selling or buying a business, the transfer would be simple. Buyers would just pay the money and sellers would hand over the keys. In earlier times, it was done this way. Today this is rare, and risky. Sellers and buyers must think of issues like deal structure, contract terms, notices to creditors, sales and transfer taxes, past and future liabilities and other legalities. Here is a summary of some of the main legal issues to consider when you buy or sell a business.
Payment Terms and Financing
For sellers, the most important issues are getting the right price, completing the sale on time and getting paid. Sellers have an important interest in how the price will be paid, whether all at once or over time. When the deal calls for payments over time, sellers often want security, or a guaranty, to make sure the buyer pays. So a promissory note may be needed, together with the buyer’s personal guaranty and agreement giving the seller a security interest in the business until the price is paid in full.
Buyers usually need financing to purchase the business. They may borrow money from a bank or get others to invest money and become co-owners in the business. If money is borrowed, then the business may be collateral as security not only for paying the purchase price to the seller, but also for repaying the loan from the bank or other lender. Whose claim on the security is higher between the seller and buyer’s lender is an issue that will likely need to be resolved.
What The Sale Includes and "Due Diligence"
Closely related to getting paid is each side knowing just what is being sold. This refers to the physical assets like property, equipment and inventory, and intangible assets like trade and brand names, customer lists, trade secrets and know-how. It also refers to company finances, whether unpaid creditors will make claims, and possible problems like hidden defects in equipment, looming customer complaints or lurking issues with company workers.
One way buyers solve this is to perform “due diligence.” This means the buyer carefully investigates the business to learn everything about it, good and bad. Sellers can reduce the risk of disputes, and buyers can prevent many unpleasant surprises, by careful due diligence and disclosure of all agreements, books and records of the company, and all material facts a reasonable buyer would want to know. Then a sale and purchase agreement, or escrow instructions, can list the assets being sold. These documents may also include a separate written disclosure of all problems.
In addition to due diligence, buyers want assurances from the seller about the business, and that there are no undisclosed problems or claims. These written assurances are called representations and warranties. If they are not correct, the buyer can rescind the deal, renegotiate the price or obtain other remedies. It is important to everyone that the seller’s representations and warranties are correct.
Structure of the Deal
Another key issue is structure of the deal as a sale of assets like equipment and property, or a sale of shares of the company’s stock, units of a limited liability company, or interests in a partnership. Structure choices can lower a buyer’s liability for the seller's past acts. Directly buying a company’s inventory and property means less risk of a buyer being liable for the prior acts of the seller.
Structure of the deal also helps the parties get the best tax treatment. A lawyer or accountant typically helps decide whether the deal will be a sale and purchase of business assets, or stock or ownership units of the entity itself.
Contracts In Good Standing
Another legal issue is making sure the business’s leases, loans and other contracts are in good standing. The buyer may want a paper signed by the seller confirming there is no claim of breach or default. Also, bank loans, office leases, equipment leases and other contracts often say they can’t be assigned without the other party’s consent. If consents are needed, the buyer may insist they be obtained before completing the sale.
Compliance With "Bulk Sale" Laws
In earlier times, and sometimes still today, sellers ran up big debts. Then just before disappearing they would sell the business to an unsuspecting buyer. This hurt vendors and others who gave credit to the business. Those creditors would seek their payment from the new owner. To avoid this problem today, states have “bulk sale” laws. These provide notice to creditors and the public about a proposed sale. This lets creditors make their claim and get paid before a sale is completed. If bulk sale notices are given properly, the buyer is protected against liability to creditors of the seller.
Non-Compete Provisions
Another important part of many business sales is making sure the seller doesn’t quickly open a similar business nearby. That would deprive the buyer of the benefit of what he or she bought. Buyers want sellers to agree not to compete with the business they sold. To be enforceable in court, the restrictions in a seller’s agreement not to compete must be limited to a narrow scope of activity, in a limited geographic area, and for a limited length of time.
There are many legal aspects to buying and selling a business. For this reason, buyers and sellers are well-advised to consult with legal counsel for guidance in negotiating the transaction and for preparing promissory notes, security agreements, sales contracts and the other documents needed to protect the parties.
Contact an attorney at Triscaro & Associates today. Please call us for all your legal needs. We offer a full range of legal services to individuals, families and businesses, including personal injury, estate planning, real estate, family law and business matters. We are dedicated to providing the highest quality legal services at a reasonable cost.