Latest Legal News - Selling a Company - It's as Easy as Selling a House, Isn't it? (August 2010)

You have decided to sell your business or company. The price has been agreed. Non-binding heads of terms have been signed. The buyer's accountants have done due diligence and now it is down to the lawyers!

Although many large companies have specialist acquisition teams, for most people the process of selling a business or company will be a fairly unique experience. First and foremost when you sell your house buyers will not expect you as seller to change the bathrooms and kitchen to meet their wishes. This is not however the case in a corporate sale where the buyer and his advisers (both lawyers and accountants) will be doing their best to "cheese pare" the price by the use of the documentation. They will say this is part of the process of them ensuring that they know what they are getting.

The first surprising step for a seller is to receive a laundry list of questions and request for information (a lot of which they will consider are duplications to those already given to the buyer's accountant in financial due diligence). In addition, there will be lots of questions which appear to be completely inappropriate to the business being sold but will cover a wide range of matters including contracts with customers and suppliers; arrangements with employees, health and safety, data protection, property matters (intellectual and realty), taxation issues and more. This process is important because it will form the basis on which warranties are given by the seller as to the condition of his business at completion. The more information that is properly disclosed to a buyer the less likely he will be able to make a claim after completion.

In due course an incomprehensible 75+ page document will arrive. In most cases the transaction will provide for the taking of completion accounts with a view to ascertaining the net assets of a company or business at completion. The first principle that is often misunderstood is that completion accounts are significantly different from a company's annual accounts as they are subject to specific adjustment and it is in this area that the buyer will be seeking to reduce the amount they actually pay. Just a few thoughts on how they would go about this;

1. What are the assets of the company? Will they include the intangible assets in the company's balance sheet e.g. goodwill, intellectual property etc.

2. Will the buyer be seeking to change the accounting policies for example writing off all unpaid debtors in excess of 60 days when the company's prior policy was 90 or even 120 days?

3. Will the buyer seek to suggest that unsustainable earnings do not count in the profit calculation? This is a highly contentious area that may well affect any earn out payments.

4. What basis of accounting will apply? In many cases the buyer will want to put the provisions of UK GAAP (Generally Accepted Accounting Principles) in priority to the company's actual accounting policies not withstanding that they comply with GAAP. Another complicated process.

5. Will provisions have to be made for contingent and uncertain matters e.g. small litigation, termination of unwanted contract, product liability and servicing etc?

6. Whose accountant will actually prepare the completion accounts and who will pay for them? Buyers will be very keen to put their accountants into the company from the day of completion. Sellers will want to resist this suggesting that the existing accountants, having knowledge of the company's affairs, are best placed to prepare the accounts albeit with a review by the buyers and their accountants. Do the costs of preparation follow a charge against the net assets or are they shared equally by the parties?

Most of these issues will be determined probably at a lengthy round table meeting with parties and their advisers. For the uninitiated to this process the best part of the meeting is likely to be the quality of the lunchtime sandwiches, as much of it will be in considerable detail with the lawyers hanging on to the minutae of language in the documentation.

What is the net effect? In respect of completion accounts and computing net asset or for example the level of profit to determine the price, there will generally be a procedure so that if the parties' advisers cannot agree the matter is put for an independent accountant to determine the amount. It should be remembered that although this is likely to be a numerical outcome it will not be on a scientific basis and is likely to be determined by an opinion. The same principles may well apply if the matter ends in Court. There have been numerous cases over the years on valuations and the one hard and fast rule is that there are no hard and fast rules.

What other steps then can a seller take to protect himself to avoid any claims being made against him in the sale and purchase agreement? This area is colloquially called "vendors' protection" and is an important part of the negotiating process, which is not usually contained in the heads of terms. A seller's lawyer will be seeking to limit the basis on which the buyer can make a claim in time, amount and scope. Customarily claims for breach of warranty are made within two years of completion and those relating to tax within seven. Question - should these limits apply to claims under the whole agreement or simply for breaches of warranty?

Financially, the parties generally agree that there will be an aggregate threshold before any claims can be made. This is so the seller can have a general caution should he have made a mistake, be given incorrect information by say his staff or advisers or just not had sufficient detail to make accurate disclosure to the buyer. This is generally speaking between 1% and 2% so on a £5 million transaction may be somewhere between £50,000 and £100,000. In addition, the seller will agree with the buyer a "de minimis". This means that no claims at all can be made for individual items of under say £1,000. This is to avoid the seller having to count every pencil and paper bag and having to be put to the expense of defending a small claim. Some agreements say that the "de minimis" will include tax claims. Most buyers will vehemently try and resist this saying that any tax claim should not have such limitation. Finally, the scope of a claim will be limited in so far as proper disclosure of items has been made to the buyer before completion in what is called a disclosure letter. This is why the original list of items and the documents are so important to both buyer and seller's solicitors as this will be listed and appended to the contract. The question is should matters in the disclosure letter again apply to all claims under the agreement (including tax liabilities) or just a specific class of warranties given by the seller.

I trust you will see from this short piece the process is something of a maze, not necessarily being lost at Hampton Court but more akin to the up and down Disney style lines now so familiar at airports throughout the world. Choose an adviser who understands not only the legal detail but also the commercial impact on you.

Print this article