Selling or Buying a Business – what is best, an Asset Sale or Share Sale?
Paul Simon once sang that there are 50 ways to leave your lover. Lawyers, it seems, are a little less creative: basically there are only two ways to sell a business.
In fact, you might think there is really just one way to buy or sell a business: one side makes an offer, the other side agrees, then it’s slip out the back Jack, because you’ve got a deal.
Things are a little more involved from the legal perspective. The main questions that would interest a lawyer is whether the parties want to negotiate an asset deal or a share deal. This isn’t just mumbo jumbo, either. Generally speaking, a purchaser will jockey to structure the transaction as an asset deal, while the vendor will hope to negotiate a share sale. You definitely need to understand the advantages and disadvantages of each option.
An asset deal involved the purchase or sale of a piece of business, and the parties to the transaction are the purchasers and the company. A share deal usually involves the sale of 100% of the company shares, and the negotiating parties of the purchaser and the shareholders.
Taxes perhaps the most important factor that determines which type of deal the parties choose, lawyers say.
Typically, a purchaser will seek to acquire individual assets because that gives the buyer the ability to put a concrete value on those assets. This value can be used as a starting point for depreciation expenses going forward, Says Steven Goldman of Goldman Hind LLP in Toronto.
“Vendors,” Mr. Goldman adds, have their own reasons to prefer a share sale –Especially if the Sellers own 100% of the company’s equity. Canadian income tax rules provide a lifetime capital gains exemption on the sale of the shares in a small business that meet certain conditions. (The exemption will raise to $800,000 for the 2014 tax year, then be indexed to inflation thereafter.)
“This is quite significant”, Mr. Goldman says of the current amount. “If a husband and wife owned the shares, that could be $1.5 million tax free.”
Strategy is another major driver. Purchasers will generally push for an asset deal because they only want to buy the parts of the business they like. Vendors, on the other hand, will likely be pushing for share sell because they want to make a clean break from the business.
“If I’m the purchaser, I want to be able to pick and choose what I want,” Explains Michael Henry of Houser Henry & Syron LLP in Toronto. “If I’m the vendor, I’m thinking I don’t really want to wind down the business after I sell the key assets. It’s all or nothing.”
There are a lot of practical reasons for this. It obviously makes sense for the purchaser to limit the deal to the assets that will fit the buyer’s operations. But it goes further. If you buy 100% of an entire business, acquiring the company outright also means inheriting all that company’s liabilities.
In a share sale, the purchaser must complete due diligence to make sure the target company isn’t sitting on a ticking time bomb. Acquiring 100% of a company shares does not extinguish any historical liabilities.
In fact, that’s the point; the company lives on; it’s only the names of the shareholders that change.
If this is a potential deal breaker, there are ways to break the impasse. It’s common for the parties to negotiate indemnity agreements, under which the vendor will agree to pay for any unforeseen liabilities that pop up during a specified period after the sale. While this might sound like a strange thing for a vendor to give up, Remember, that vendors prefer shares sales over asset deals.
This is a concession sellers might make if it helps purchasers accept a share deal or an asset transaction.
These are some general thoughts, so they won’t apply to every situation. Just recognize there are two basic ways to do a deal. Beyond negotiating a price, you’ll need a negotiated deal structure that meets your needs.