This is part six of our series discussing the sale of a business from the seller’s perspective. We’ve covered deal structure issues, seller financing, earn-outs, letters of intent, and due diligence. In this post, we’ll begin discussing the primary definitive deal document, the purchase agreement.
The first draft of the purchase agreement will generally be prepared by buyer’s counsel and will be divided into several separate sections, such as the following:
- Description of the Transaction
- Representations and Warranties of the Seller
- Representations and Warranties of the Buyer
- Pre-closing Covenants
- Conditions to Closing
- Post-closing Covenants
- Termination
- Survival and Indemnification
- Miscellaneous or General Provisions
The actual sections included will depend, in part, on whether the deal is structured with a signing date followed by a later closing or, alternatively, as a “sign and close” transaction where both events happen simultaneously. In the latter case, the purchase agreement is generally simpler and won’t include the Pre-closing Covenants or Conditions to Closing sections.
The first section, which we’re discussing in this post, will often contain the major business terms. Here’s a brief list of the major terms and tips for reviewing this section of the purchase agreement.
Assets/Interests to Be Sold. The buyer’s draft of the purchase agreement should accurately describe what is actually being purchased by the buyer (the specific assets in an asset deal or the stock or other ownership interests in a stock deal) and those assets or liabilities being retained by the seller, if any. Hopefully, there is agreement on such big picture terms prior to receipt of the purchase agreement so that there won’t be lots of negotiation on these points.
As a seller, you’ll want to be sure all of the descriptions are correct. In particular, in an asset deal, be sure all assets you intend to remain with you (“excluded assets”) are specifically listed. Typical excluded assets are cash, marketable securities, assets associated with retained liabilities (e.g., 401(k) assets if the plan is being retained), and often certain personal assets (e.g., the seller’s vehicle). Generally, the buyer will draft very broad language when describing the transferred assets, such as “all assets used in the business, including…” Therefore, it’s up to you, as the seller, to carve out assets that should not be transferred.
On the liability side, be sure all liabilities that the buyer will take are listed (here, the buyer’s purchase agreement will usually use very restrictive language such as “seller retains all liabilities and obligations except for the following: [list of specific liabilities]”). Typical liabilities that the buyer will assume include obligations under assigned contracts and accounts payable. Again, this is only relevant in an asset deal.
A stock deal is typically simpler to describe but be sure the description of stock or other interests being purchased and sold is correct.
Purchase Price. Often, the purchase price terms will be one of the first subsections of this section. It should include (i) the portion of the purchase price to be paid at the closing and how it will be paid (e.g., $5,000,000 million by wire transfer to a bank account of the seller), (ii) any portion of the purchase price to be paid via delivery by the buyer of a promissory note to the seller (e.g., $2,000,000 by delivery of the buyer’s promissory note to seller), and (iii) any portion to be paid via an earn-out. Many times there are potential adjustments to the purchase price too (e.g., working capital adjustments), some of which may be made at the closing and others which are made post-closing. Such adjustments should also be very clearly described.
Closing. The “Closing” should be defined and described in the purchase agreement. Most deals now close by exchange of documents by electronic transmission with originals to follow by overnight mail. A specific date for the closing should be set, especially in a deal that will provide for signing of the purchase agreement before the closing. Also, it’s common to set the effective time for the closing (e.g., 11:59 p.m. on the date of closing), to eliminate any confusion about events that occur or conditions that apply on the “Closing Date” but before or after the “Closing” itself.
This first section of the purchase agreement should be fairly straight forward and should not require significant negotiation but it is one of the most important sections because it contains the major business terms. So be sure to think it through and review it very carefully with your lawyer and probably your CPA.
In the next post, we’ll discuss representations and warranties in the purchase agreement.
This article is for general information only. The information presented should not be construed to be formal legal advice nor the formation of a lawyer/client relationship.
