27 Oct How Do I Sell My Business?
The idea of selling a business is usually not on the radar of a business owner, at least at the beginning stages of a business – most business owners understandably have their focus on the present rather than the finish line. But understanding the process before the time comes to sell your business allows you to prepare yourself more fully with everything that goes with a business sale. Selling a business doesn’t have to be complicated, but understanding a few key steps in advance will put a business owner in a better position if and when the time comes to sell.
The first obstacle is, of course, finding a buyer. In some cases that can be half the battle. Sometimes a buyer presents itself before the business owner thought of selling and can be the catalyst to deciding to sell. This could be, for example, a key employee that expresses a desire to be more integrated with the future of the business. Other times, it takes some work to find not only a willing buyer, but also one that the business owner feels comfortable with taking over the business.
Once a buyer is located, the material terms of the sale should be discussed and memorialized in a letter of intent. These terms typically include, to name a few, the purchase price, payment terms, what access the buyer will have to the business and how long, exclusivity, and the form of the sale (more on that later). It’s important to get these material terms in writing and signed by all parties before going too far down the rabbit hole to ensure the buyer and seller are on the same page with one another at the outset of the process. In addition, having the material deal terms agreed to up-front relieves the pressure from the seller of any potential attempts by a buyer to renegotiate terms later, and instead allows the focus to be on effectuating the sale.
After a letter of intent is signed, there is typically an exclusive period for the buyer to investigate the business and where the seller agrees to not solicit or entertain other offers. This period is referred to as a due diligence period. The buyer can have access to the business’s financial information, assets, properties, employees, etc., to get comfortable with what the buyer is purchasing. However, to protect the seller in disclosing its confidential information, the letter of intent should include confidentiality and non-disclosure provisions to prevent a buyer from feigning interest in purchasing the business only to get unfettered access to the seller’s proprietary information, especially if the buyer is a competitor.
During the pendency of due diligence is where the legal professionals will begin documenting the transaction. Most business sales fall into one of two categories: an asset sale or an equity sale.
An asset sale is when the business (not the business owner) agrees to sell its assets to a buyer, whether it be certain identified assets or all of the assets, and the buyer also agrees to either assume the business’s debt and other liabilities or require the business to retain or pay those debts and other liabilities off before closing. The important distinction here as compared to an equity sale is that the assets are physically transferred to a different entity – the buyer’s entity. The buyer’s entity will hold title to those assets, contracts will need to be assigned from the business to the buyer, employees will need to be terminated by the business and hired by the buyer, etc. This can be somewhat time-consuming and burdensome on a seller to accomplish, but the reason why an asset sale is sometimes the preferred form of sale (to a buyer) is that the buyer’s business gets a “fresh start” – the buyer will typically create a brand-new company to purchase the business’s assets (immediately getting the benefit of an established business) and the buyer doesn’t assume most of the risks that may come along with an established business, such as historical tax issues, claims or demands from customers or supplies, or other potential liabilities.
An equity sale is when the business owner (not the business) sells the ownership interests that he or she holds in the business to the buyer. This means that everything in the seller’s business stays the same – the assets stay where they are, the employees are still employed by the business, all of the contracts in place are still with the business, etc. – and the only difference is that instead of the seller owning the business, the buyer now owns the business. This is of course easier on the seller to accomplish than an asset sale, but it comes with more risk to the buyer. After an equity sale is completed, the buyer will “step into the shoes” of the seller as the owner of the business, which means the buyer is now on the hook if there were any past unresolved issues. For example, a disgruntled customer may have a claim arise against the business pre-closing but files suit post-closing. The buyer is now on the hook with defending that claim against the business. However, the legal documents effectuating the sale should detail these potential issues and provide remedies for the buyer. These remedies can include indemnification by the seller, setting off against a holdback of the purchase price, or other mutually agreed remedies.
Every business is different, and every business owner’s situation is different, so there isn’t a hard and fast rule that one form of sale is better than the other. Both forms have their pros and cons, and it will depend on each business owner’s situation and expectations to determine which form of sale is best for that business owner.
A final note – we always encourage business owners to consult with other professionals to ensure they are putting themselves in the best position possible. This includes engaging with a CPA to handle any accounting and tax work. An asset sale and equity sale are treated differently for tax purposes, and one might be more beneficial to a business owner than another. Ideally, a business owner would engage with a CPA before the sales process begins so these considerations can be worked out before a letter of intent is agreed to. The right legal counsel and other professionals, including a CPA, in your corner during a business sale can help guide you through the process and put you in the best position possible in any business sale.
ABOUT THE AUTHOR: Drew Erickson is an Associate at Rapp & Krock, PC in the Business Transactions group advising clients on corporate governance matters as well as mergers and acquisitions and other business transactions.
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