On Buying or Selling a Business
Tools:
Buying or selling a business is a complex transaction involving substantial preparation. This note will briefly touch on the key elements necessary for a successful arms-length purchase or sale between a willing buyer and willing seller.
Parties to purchase and sale transactions either already know each other or find each other through advertisements in print media or through agents or third party transaction consultants who may work hourly, for a flat rate, or on commission.
Business lawyers help their clients understand the tax and risk implications of structuring the sale in different ways, help clean up ambiguities in sale agreements, and strucutre the closing transaction to account for last minute pre-sale adjustments. Eisen & Shapiro counsel have and can provide transactional counseling, drafting and representation in almost any business transfer.
The following is a generalized description of the process; not intended to be comprehensive, Reviewing it is no substitute for hands-on advice from tax and transactional counsel.
Both buyer and seller begin the process by roughly defining what is on the table, usually through a memorandum of understanding. While such a memorandum can cover many subjects, it typically:
- identifies the buyer and the seller;
- provides for a good faith deposit or “earnest money” which may be refundable generally or under certain circumstances;
- suspends other marketing of the business for a defined period of time or to the happening of an event;
- describes what’s generally to be sold and bought and roughly how much is to be paid;
- pledges confidentiality;
- outlines a due diligence process, and;
- sets a time frame.
Once the memorandum of understanding is in place, the “due diligence” process kicks into high gear. This is where buyer and seller learn in the greatest detail about each other and the assets in question. The objective of the process is to inform both parties fully of the risks and opportunities attendant to a sale, so that the final price and terms are the product of agreement between informed parties. A financial investigator may be consulted. Each party should furnish proof of who they are and their ability to proceed, in the form of company charters, governance documents and minutes. The books of the seller will be examined in detail to identify all actual and potential income and liabilities and the seller’s employees may be questioned.
One tax issue that will separate the buyer and the seller is whether actual ownership of the business is being transferred (i.e., a sale of stock) or whether the transfer is solely of assets (including intangible assets generally lumped as “good-will” and including the business name, telephone numbers, etc).
- If the sale is of stock, the sellers are the shareholders. If the sale is of assets, the business is the seller. Gain on the sale of stock is taxed to the seller at the capital gains rate, while sales of assets are taxed to the business as ordinary income.
- A buyer of stock acquires the company, period, and each company asset is held at the current depreciated value. A buyer of assets can allocate the sales cost among the assets purchased, thereby recovering part of the purchase cost through future depreciation write-downs based on the newly assigned value.
Often other factors simply favor the transaction taking particular form.
- For example, a business may have valuable contracts that it cannot transfer but which the same business under new owners may keep. So the stock is more valuable than assets because stock includes otherwise un-transferrable contracts.
- Debt and risk allocation is another factor. A purchaser of assets may require the seller to pay all corporate debt in conjunction with the asset transfer to avoid liability under bulk sales laws. A seller of assets may require the purchaser to assume future liabilities or secure insurance coverage as to such risks and the price of coverage may factor into the sales price.
Once there is final agreement on form, purchase and sale documents are prepared to document every understanding of the exchange. This agreement will state how assets and liabilities are to be allocated, the consideration for the exchange, and the time and place of the transaction, and whether and if so how last minute inventory or other changes from a base point will affect price. A typical business sale ends up as a book, containing documentation for each element of the complete deal.
Eisen & Shapiro counsels clients on all transaction aspect of the business sale, from opening negotiations through the closing. If you are considering buying or selling a business, contact us.
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Bethesda, MD 20817
PHONE: (301) 469-8590
FAX: (301) 469-8120
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