Toronto business and technology lawyer, Sukhi Hansra, of Hansra Law, discusses the key points to negotiate when you are purchasing or selling a business.
Most business owners sell their company only once. This means they often don’t have the luxury of knowing how to effectively negotiate the purchase or sale of their business. If you’re not prepared or don’t have the right advice, this can complicate negotiations, waste time and even jeopardize business transaction.
Not having a good negotiation strategy will almost always result in getting a bad deal. Additionally, it is important to consider the fragile nature of these discussions during the early stages. While you may have a good understanding of the general nature of the business and have reviewed and identified any financial issues, most business owners walk into a direct negotiation without any knowledge or understanding of what actually needs to be done and how to do it.
The following is a list of key items that are typically negotiated in the purchase or sale of a business and how you should consider addressing them.
7 Key Items to Negotiate in your Purchase Agreement
- What is being purchased exactly? Is the buyer purchasing all of the assets of the business or only some? Instead of assets, perhaps the buyer is purchasing all of the shares of your company. In other circumstances, an investor could be buying into your company and purchasing 50% of your shares, thereby becoming a business partner. It is important to ascertain what is being purchased exactly. This is typically accomplished with a Schedule to the Asset Purchase Agreement or Share Purchase Agreement.
- What is the purchase price and how should it be paid? The purchase price is the price that the buyer will pay the seller in exchange for the items being purchased. This can be paid in several ways, including a full cash buyout, a loan given by the seller and paid in monthly installments (typically called a Vendor Take-Back Mortgage), a bank loan or shares of another company. Where loans are concerned, the seller will want to make sure that the buyer has confirmed any financing received from the bank.
- Purchase Price Adjustments. Sometimes the purchase price needs to be adjusted to account for changes in the company’s asset mix. For example, a business’ inventory and accounts receivables can change on a daily basis. When buyer and seller have settled on a purchase price, how does a buyer prevent a seller from simply depleting all the inventory before the closing date? A working capital adjustment helps prevent such scenarios by ensuring that the buyer and seller are each receiving fair value for the business. A working capital adjustment is equal to current assets (cash, accounts receivables and inventory) less current liabilities (accounts payable, taxes payable and accrued expenses). If the amount changes between the offer date and the closing date, the buyer and seller agree to reimburse each other for the difference.
- How long should due diligence and negotiation periods be? Due diligence means an investigation into the books, records, financials and operations of the business to ensure that the buyer is satisfied with what they are buying. The buyer’s lawyer or accountant may look at the business’ financial statements, or the buyer may interview employees and management. It is important to set dates and time periods (2 weeks, 3 weeks, or longer) so the buyer can conduct this investigation without delaying the closing date. The set time period will depend on the size and complexity of each transaction. The best strategy is to work cooperatively so that both the buyer and seller have all the information they will need to confidently proceed.
- Will employees be terminated or assumed by the buyer? Employees are often the drivers of any business. However, not all buyers will want to keep the employees. Buyers typically have the choice of whether they want to keep the employees of the business or terminate them upon the closing date. Sellers should be aware that if employees are terminated, the seller may be responsible for any severance pay and other amounts due to the any terminated employees. Buyers that assume employees should know that employees that are terminated after the business is acquired must be paid severance according to when they first started working for the seller, and not from the date that you purchased the business.
- Non-Competition Clause. A Non-Competition clause simply means that the seller of the business will not compete in the same type of business once they have exited. Non-Competitions are typically set to a certain period of time (1 – 5 years) and geographical location (i.e. Greater Toronto Area). Non-Competition clauses must be crafted carefully since the courts are unlikely to enforce an overly restrictive Non-Compete.
- Non-Disclosure and Non-Solicitation Clauses. Non-Disclosure clauses simply mean that the buyer and seller will not disclose confidential information about each other or the transaction. This is useful during negotiations when buyers and sellers are unsure about whether they want to proceed with the transaction. Non-Solicitation clauses prevents a buyer that is selling a company from soliciting employees, customers or stakeholders of the business.
Although these are great starting points to consider when negotiating the purchase and sale of a business, corporate transactions can get immensely complex and often must be structured to match each unique circumstance. Just as no two businesses are alike, no two corporate transactions are alike either.
A good first step would be to speak to someone who has been through it, or someone who has helped others purchase and sell businesses – such as an Accountant or Business Lawyer.