Get in touch 0117 325 0526
Get in touch 0117 325 0526
Businesses owners choose to sell for all manner of reasons; you might have had an offer you can’t refuse; you want to retire; you’ve got another opportunity you want to pursue. Whatever your reason for selling, you’ll want to ensure your years of hard work can be realised financially.
Understanding the legal process and what is required of you as a seller, the questions about the business a buyer is likely to have and the range of issues you might need to consider are worth knowing in advance.
Although no two sales are identical, there are generally some key steps for any sale;
Whatever the size and sector and however you are structuring the sale, preparation is key to ensuring you are ready to sell and attractive to buyers. It may help you achieve the best price and it will certainly make the process far less stressful later.
It is the role of your buyer’s solicitor to conduct due diligence on the business being bought. You will need to provide the buyer with significant amounts of information for this process and having this information available will help prevent problems later in the sale process. Unexpected information shared late in the process may make the buyer argue for a price reduction – or worse, they could pull out of the deal. These are some of the things you need to have ready:
Valuation of businesses is notoriously difficult. There is no one agreed way or formula to calculate a business’s value. Calculating market value involves a large number of factors beyond profit alone. The input of accountants is invaluable in accurately providing a valuation.
How your business is structured, i.e. whether you are a sole trader/partnership/limited company will dictate how you sell your business. This guide is concerned with sales of sole traders and limited companies.
• Sole Traders: Sales of the business run by a Sole Trader involve disposing of the assets, such as property, goodwill, existing stock items, possibly a website or orderbook. Here you have an asset sale which can either be the sale of the business as a ‘going concern’ or just the sale of some or all of its assets. There are tax implications for both routes.
• Limited Companies: The sale of a business which is a Limited Company can be structured as Share Sale or as an Asset Sale:
Share Sales – the buyer purchases the shares in the Limited Company. This means they acquire the entity in its entirety and that includes any existing liabilities. The business continues to run on a day-to-day basis, only the ownership changes. Share sales are very common and are the most usual way of selling a limited company. An important advantage of a share sale is that the customer and supplier contracts may remain operational despite the change of control. These require careful checking, as such contracts are likely to be an asset the buyer wishes to acquire.
Asset Sales – in these types of sales the assets of the business are sold rather than the limited company’s shares. These could be the sale of its assets such that the business of the company is sold as a ‘going concern’, or merely some or all of its assets are sold. The limited company may only wish to sell some/all its assets without selling its business and the buyer may or may not wish to buy the business as a going concern.
There are tax implications over whether the business is sold as going concern. A share sale will be subject to stamp duty, generally, at a rate of 0.5% (unless an exemption applies), but there is no VAT charge on a share sale. With an asset sale, the only likely charge is stamp duty where there is land or buildings included in the purchase as these will incur stamp duty land tax. However, there will be VAT charged on most assets being sold, unless the transaction qualifies as a transaction as a going concern. Many assets sales do comprise the sale of a business as a going concern.
When you’ve found a buyer for your business you need to agree the main terms of the deal, a document known as ‘Heads of Terms’. For a share sale, Heads of Terms will include the price, agreement as to any employees (will they be transferred or not?), a schedule for payment, any important conditions of the sale such as regulatory consents. Although these are not legally binding (apart from a few clauses which are – see below) they are the foundations of the agreement you are making. From these, the buyer’s solicitors will create the key sale and purchase documents. Legally binding clauses from the Heads of Terms are often stated to be;
The exclusivity clause – this prevents you entering into sale discussions with anyone else for an agreed period of time
The Costs clause – ensuring each party bears their own legal costs, whether or not the deal closes
The confidentiality clause – there is lots of confidential information available to the buyer as part of due diligence. Such a clause binds the buyer to keep such information secret (sometimes it is covered in a separate Non Disclosure Agreement). Confidentiality clauses are particularly important in catching all business information which, although some may not be protectable as intellectual property, it can be protected when defined as confidential information of the business being sold.
The restrictive covenants clause – the terms of any restrictive covenants (such as non-competition and non-solicitation of employees) to be given by the seller that will affect future trading
The non-solicitation clause – where both parties agree not to solicit key employees from the other party for a defined period after the heads of terms are entered into, in the event that the parties withdraw from the transaction
The disclosure process involves the preparation of the disclosure letter by the seller, which will be finalised and signed at exchange.
The disclosure letter serves a separate purpose to due diligence, even though both involve providing information concerning the target to the buyer. It allows the seller to qualify the warranties set out in the warranties schedule of the share purchase agreement and thereby limit its potential liability under them. If, following a buyer’s claim for breach of warranty, a matter can be shown to have been disclosed to the buyer (meeting the standard of disclosure described in the share purchase agreement), the buyer’s warranty claim will not succeed to such extent that it is based on the properly disclosed information. The disclosure letter contains:
• general disclosures: information and documents of a general nature (such as the searches of public registers) which are deemed disclosed to the buyer (even though the general disclosures is generally a short list, the breadth of matters covered by the general disclosures often requires considerable negotiation)
• specific disclosures: a list of specific matters which if not disclosed would (or might) constitute a breach of warranty. These specific disclosures are made be reference to the warranties in the share purchase agreement (it will be for the seller to prepare this long, detailed list and then negotiate it with the buyer, alongside negotiation of the warranties)
Disclosure and due diligence are interlinked processes. Information gained in the due diligence process will help inform the disclosures made by the seller in the disclosure letter.
The process of disclosure and the drafting of the specific disclosures in the disclosure letter will run alongside the drafting and negotiation of the warranties. The disclosures made in the disclosure letter qualify the relevant warranties. Effectively, the seller is saying “I give a warranty in the share purchase agreement which is limited by the disclosure that I give in the disclosure letter.” The seller will be keen for the disclosure letter to limit their warranties as widely and as much as possible, and the buyer will want to restrict this to the extent that it reduces the buyer’s ability to claim for breach of warranty of the seller.
A disclosure letter would routinely be used in both asset sales and share sales of businesses. The negotiation of the terms in those sale agreements and their requisite disclosure letters is at the heart of of the transaction, vital to each party’s interests.
Due diligence must not be confused with disclosure, which is the seller’s principal means of protecting itself against potential liability for breach of warranty.
The due diligence process is usually co-ordinated by the buyer’s solicitors. They will prepare a legal due diligence questionnaire and will work with the buyer’s accountants and other appropriate professional advisers (each of whom may end up reporting back to the buyer separately with their findings from the due diligence). Specialist advisers may be needed to help with a variety of potential specialist legal issues, such as:
• employment law and pensions
• competition
• regulatory matters
• intellectual property/IT
• environmental issues
• data protection issues
Whilst due diligence is the responsibility of the buyer (there are exceptional cases where a seller will carry out its own due diligence), the seller has to answer their questions and provide the relevant documentation so that it can be fully reviewed. Your business records and documents will be examined and verified for accuracy. With a share sale you would expect the detail of share ownership, any ongoing disputes, substantial employee issues, and financing and security to be of particular interest to the buyer’s solicitor. Gaps and concerns might lead to a renegotiation or the entire breakdown of the deal.
Because a buyer has scant legal protection if something untoward emerges after completion, you can expect a buyers solicitor to be particularly detailed in their review of the documents you provide. There will be plenty of questions and all this will take time. The answers the seller gives to the buyer’s due diligence questions can form the basis of a later action for misrepresentation, that has the potential to be costly to the seller if the seller has not been careful in its answers to the due diligence questionnaire of the buyer. The seller, their accountant and their solicitors’ firm need to work together to ensure the due diligence questions are answered correctly.
This documentation differs with sale structure. We’ll concentrate here on the key documents for a share sale of a limited company (being the most common type of sale).
Share Purchase Agreement (SPA) – this is based on the Heads of Terms but is much more detailed. You can expect a pretty lengthy document. It contains full details of the sale as well as each party’s rights and responsibilities. It contains the unique terms you’ve negotiated but also standard clauses which are common in all SPA’s (known as ‘boilerplate’ clauses) covering matters such as how disputes would be handled between the parties.
These are some of the things contained in the SPA;
• Consideration – the amount the buyer will pay
• Payment Terms – how and when this will be paid
• Warranties and Indemnities – the lack of protection for a buyer post-completion means buyers want to protect themselves against unwelcome surprises with a collection of warranties (promises relating to specific issues) and indemnities (compensation for losses)
For the seller, warranties are essential. Without warranties or indemnities, if the seller has misrepresented the business in the course of the negotiations of its sale, the buyer will have no recourse against the seller if the business is not as they were led to believe it to be.
For a seller, having warranties given as indemnities is even more desirable as further protection. For the buyer, the opposite is true. Indemnities should not be given or given in a very limited way, and warranties should be amended or deleted and qualified as much as is necessary to protect the buyer in the disclosure letter.
Exchange and completion happen together where there are no conditions for completion to occur. However, where there are conditions in the asset or share purchase agreement, that need to be fulfilled before completion occurs. The agreements will be signed (exchange) but completion will only occur after those conditions are met. A gap in time will exist after exchange when the beneficial title to the shares or assets passes to the buyer, but not the legal title.
Only at completion will the legal title pass to the buyer.
There are quite a few post-completion matters to consider. The buyer now owns the business but depending on the original structure, there is still more to do;
• Delivery of assets – e.g. keys to properties, website logins, items of stock
• For a share sale – the buyer needs the stock transfer form (confirms the shares have been transferred so that stamp duty can be paid) and filings may need to be made at Companies House re changes of Directors etc. Parties may have agreed to prepare completion accounts (with a mechanism provided for in the SPA for any adjustment to the price for changes to finances).
• For a seller, especially where any of the price (consideration) paid for the sale of the business is deferred (i.e. to be paid after completion), the terms of the agreement made are vital to the prospects of the seller being paid that deferred consideration. For the buyer, it is in their interests that the agreement should permit them to deduct deferred consideration, if there is a warranty claim made by the buyer, or to allow the buyer to reduce the total amount of deferred consideration payable to the seller.
You’ll now have an appreciation for the steps involved in any business sale and an understanding of the complexities which you need to be prepared for. Sound preparation for sale can’t be over-emphasised and will allow you to make a solid exit plan.
Although sales processes are lengthy and documentation significant, a good corporate lawyer will help you prepare adequately and will guide you through the necessary stages. Whilst no outcome can ever be guaranteed, choose a lawyer who will help ensure the transaction is as smooth as possible and your liabilities minimised after completion.
If you are selling your business and would like to speak with us about advising you, please get in touch with Lindsey Newman in the first instance; lindsey@menzieslaw.co.uk / 0117 325 0526
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