Mergers and Acquisitions
The practice area of mergers and acquisitions (or M&A) involves the buying and selling of businesses. Most frequently a business is bought and sold with an Asset Purchase Agreement (APA), which takes the assets of the existing business entity and peels them off to sell to a buyer who has another business entity that will take ownership of those assets.
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Before the APA is signed, however, the parties typically sign a non-binding letter of intent (LOI) outlining the terms of the deal, agreeing to keep the agreement confidential, and promising not to shop the buyer’s bid to competing buyers.
An APA is more complicated than selling other assets like real estate. An asset purchase agreement involves reviewing, drafting, and analyzing a variety of types of business documents. The APA identifies the assets of the seller-business that will be sold. These assets may be tangible (like inventory and equipment), or they may be intangible (like intellectual property or contract rights), or, frequently, both. A business acquisition must carefully identify all the assets that are being sold to the buyer or else run the risk of having an important and valuable aspect of the business remain un-sold.
Moreover, the buyer must also do due diligence on the seller-company to ensure that risk is kept to a minimum. This typically involves the buyer’s attorney conducting a search of public records for potentially adverse information like lawsuits, judgments, and liens, examining financials, and confirming that there are no tax debts. If a seller holds back on some information, that is a telltale sign that the buyer’s attorney should leave no stone unturned., The last thing any buyer wants is to receive a lawsuit on the first day after taking over the business because of something the seller did prior to the closing.
Most APAs also involve the transfer or assignment of the seller’s contracts. These may be contracts with the seller’s customers or clients, with vendors, or with third parties the seller does business with. These contracts also must be scrutinized – after all, the buyer is agreeing to perform all the seller’s obligations under them, which is often a patchwork of overlapping (and sometimes conflicting) rights and obligations. These contracts may need to be renegotiated before the buyer agrees to honor them.
A vital aspect of any APA is the representations and warranties. Both the buyer and seller make representations and warranties about the existence of the condition of the business at the time of the sale. The worst consequences are typically when the seller makes representations about an aspect of the business that turns out to be untrue. For example, the seller may warrant that there are no material changes in the business from the time the letter of intent (LOI) is signed until the closing, but if the seller lost a key customer, the buyer may have the right to sue the seller for damages after the sale closes. It is therefore key for the buyer to obtain as wide-ranging representations and warranties – and, on the other hand, for the seller to try to limit those promises as much as possible.
The APA is also likely to involve other ancillary agreements, like a non-compete agreement to prevent the seller from starting another business right away, a non-solicitation agreement to prevent the seller from taking key employees when they leave, or perhaps confidentiality or non-disclosure agreements.
In certain cases, a business may be sold using a Stock Purchase Agreement (SPA) instead of an APA. With an SPA, the stock of the company is transferred to a new owner, rather than the assets of the company being transferred to a new company. Though an SPA may seem simpler than an APA, it is fraught with much more risk and has a higher likelihood of the deal going sour.
In short, the four primary steps in selling a business using an APA are as follows, but these only scratch the surface of what may be involved in practice. Each step sounds straightforward yet each deal is different and will involve different tangents of the legal issues particular to that business and transaction, or even issues that depend on the buyer or seller’s risk tolerance.
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Negotiate price,
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Enter into non-binding Letter of Intent,
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Due diligence, and
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Closing.
For further reading about APAs, take a look at these other posts by our Dye Culik PC attorneys: