Buying An Existing Business

Transcription

1 Buying An Existing Business (Last Revised January, 2005) The fllwing is intended fr general infrmatin nly, regarding sme f the issues relating t purchasing a business in Saskatchewan. We advise yu t seek specific legal advice prir t making any f the arrangements utlined in this article, as the particular facts f each persn's situatin will vary, as will the advisability and effectiveness f any particular strategy. TABLE OF CONTENTS 1. Intrductin 2. Structuring the Deal Shares r Assets? Tax Issues Valuatin Financing Emplyees Nn-Cmpetitin 3. Letter f Intent 4. Due Diligence Business Due Diligence Legal Due Diligence 5. The Frmal Agreement The Basic Elements Representatins and Warranties Clsing Matters 6. Ready fr Business 7. Cntacting a Lawyer n this Subject 1. Intrductin Instead f starting yur wn cmpany r business, yu may decide t buy an existing ne by acquiring either the shares f an existing cmpany r all f the assets f an existing cmpany r business. There can be certain advantages t this; fr example, the custmers and suppliers already exist, yu can get advice and infrmatin frm the previus wner (whm yu might chse t hire as a cnsultant fr three t six mnths), and it is easier t prepare yur business plan and apply fr financing because the business already has a track recrd.

2 Page 2 Yu may find businesses fr sale thrugh real estate r business brkers, newspapers (business pprtunities) r trade magazines, but usually it's thrugh wrd f muth. Start asking arund and see what's best fr yu in terms f size, price and smething yu think yu wuld enjy ding. There are ther alternatives t purchasing assets r shares, depending upn the nature f the business. Yu may instead find that yu are interested in purchasing a partnership interest, frming a jint venture, purchasing a franchise interest, r making a majr equity investment in a ging cncern. These alternatives, hwever, are beynd the scpe f this article. 2. Structuring the Deal Once yu've started seriusly talking t a prspective seller (but befre yu've put pen t paper), yu will want t give sme thught and get sme preliminary prfessinal advice as t what will be sme f the key issues in the negtiatins. Sme f the key issues t keep in mind are: Shares r Assets If buying shares f an existing cmpany, yu must remember that yu're buying all the baggage that ges alng with the shares. Yu're buying the cmpany and yu will be that cmpany. Any existing debts, lawsuits, envirnmental prblems, ptential r actual liabilities will be yurs unless they are cleared up befre the transactin is clsed. Purchasing shares means that yu will have t use extra care in yur investigatin f the cmpany (called "due diligence"), and negtiate additinal rights t prtect yu against future liabilities. If yu buy assets, then yu will nt, generally speaking, be respnsible fr the past liabilities f the business (an exceptin is envirnmental liabilities, where yu are buying land.) Yu want t make certain, hwever, that the seller sells yu all f the assets yu need fr the peratin f the business, and that yu will receive thse assets free and clear f all claims and encumbrances. Yu will als want t make certain that the assets and peratin will nt be affected by the sale; fr example, certain licences r cntracts crucial t the peratin f the business may nt be transferable, and may cease t exist upn a sale f the business. If yu already have an existing cmpany and wish t expand, then instead f buying shares r assets yu might chse t amalgamate with the target cmpany. Bth cmpanies then disappear and a new cmpany is frmed. Everyne exchanges their shares in the ld cmpany fr shares in the new ne. The new cmpany culd keep ne f the existing crprate names r take a new name altgether. Amalgamatin has its risks (since the newly amalgamated cmpany will have all f the liabilities f bth yur cmpany and the target cmpany), but it is smetimes useful where, fr example, yur cmpany is able t make use f existing tax lsses r credits f the target cmpany. Of curse, yu will als have t cnsider the seller's psitin. The seller may have his r her wn reasns fr wanting t sell assets r shares. If yur are financing the transactin yu

3 Page 3 shuld als cnfirm that the lender is cmfrtable with the prpsed structure befre yu prceed. If the seller is nt incrprated, then it will likely be an asset purchase. Tax Issues What is yur current tax status? What is the tax status f the target business? Will capital gains be an issue? There may be special cnsideratins fr accunts receivable and inventry. A purchaser may wish t purchase assets s they can be depreciated ver time. There may als be tax lsses that may make the purchase f shares attractive. Smetimes a crprate rerganizatin is advisable which may include the use f hlding cmpanies t reduce tax expsure. GST can als be an issue but there may be exemptins r electins that can be utilized in reprting these taxes. These are nly a few f the tax cnsideratins which may arise in the purchase f a business. Yu'll have t get advice frm yur tax advisr n the tax ramificatins f any transactin, but whatever yu decide, make sure it makes gd business sense and is nt slely based n tax issues. Valuatin Yu may need the assistance f an accuntant r business valuatr when cnsidering what the purchase price is ging t be fr a business, whether yu are buying shares r assets. Yu want t pay a fair and reasnable price fr the shares r assets taking int cnsideratin the future ptential f the business. This may nt necessarily cincide with what the seller has put int it. Ask yurself, why are they selling? What's the ptential here? Depending n the type f business, yu may als want t lk at cmparable sales r have an independent appraisal dne. Yu shuld cnduct investigatins int the business' financial and crprate affairs befre finalizing a price. Yu may find that the seller will require yu t sign a cnfidentiality agreement befre he r she disclses the infrmatin yu require t make a gd business decisin. Once yu have agreed n a purchase price, if it is an asset purchase yu will als need t cnsider hw t allcate it. Yu may want t allcate mre t depreciable assets r inventry than land r gdwill which is nt depreciable. Whatever allcatin yu agree t, it has t be reasnable r Revenue Canada will questin it. Financing Hw will yu pay fr the purchase? There are many different ways t finance yur acquisitin which are beynd the scpe f this article, but ne ptin yu may wish t cnsider is vendr financing. Yu may be willing t pay a little mre if the seller will let yu pay ver time.

4 Page 4 Sme advantages f vendr financing are: easier t btain generally better terms yu dn't have t explain the business/ptential t a third party seller is likely mre willing t help yu get n yur feet if he r she has a vested interest. Emplyees If yu are purchasing the shares f the cmpany, yu will be acquiring all f the current emplyees. If yu d nt wish t keep all f thse emplyees, yu will have t cnsider the liabilities f the cmpany fr severance pay, in making yur decisin t buy. If yu are purchasing the assets f the business, then in mst cases the current emplyees will be terminated in their emplyment by the seller, and may be re-hired by yu as the purchaser. As this can lead t severance and vacatin pay issues fr the seller, it is ften the subject f negtiatin between the seller and purchaser. Yu will als want t cnsider whether there are any key emplyees whse cntinued emplyment with the business is imprtant t its success, and whether there is any added prtectin yu will require if any such emplyee shuld decide t leave nce wnership f the business changes. In sme cases, yu will want the current wner t stay n fr a perid f time t advise yu as t the peratin f the business. Yu will generally negtiate a separate cnsulting agreement fr these services. Nn-Cmpetitin Whether yu are buying the shares r assets f a business, yu may wish t btain a nncmpetitin agreement frm the seller s that he r she can't turn arund and pen up shp next dr t yu. This wuld have t be a reasnable cvenant taking int cnsideratin the type f business, the territry it cvers and the length f time needed t prtect yur interests. 3. Letter f Intent Once yu've dne sme preliminary investigatins and yu've decided n the basic structure f the transactin and the price yu're willing t pay, the next step is generally t make an ffer by way f a Letter f Intent. This letter will set ut the basics and may be revised several times befre bth parties agree t the terms f the transactin. This Letter f Intent will frm the basis fr a binding definitive agreement.

5 Page 5 The transactin prpsed in the Letter f Intent shuld be cnditinal upn the results f the due diligence, the btaining f all necessary cnsents and the negtiating f a final agreement. It may als be cnditinal upn yur being able t btain the necessary financing. It is very imprtant that the Letter f Intent clearly state that it is nt intended t be final and binding until a frmal agreement is signed by the parties. There are many small details which will need t be negtiated befre yu sign the final cntract. 4. Due Diligence Due diligence is like detective wrk. It is the prcess f gathering infrmatin by cnducting investigatins, searches and inquiries and is vital t any share r asset purchase. The results f due diligence may help yu decide: whether yu prceed with an acquisitin; whether t buy shares r assets; hw much t pay and hw t allcate the purchase price; what matters need t be cvered in the purchase agreement fr yur prtectin. In rder t save the expense f cnducting due diligence searches, purchasers may simply wish t have the seller give extensive representatins and warranties in the purchase agreement, and then rely nly upn these representatins and warranties as prtectin. The danger with this apprach is nce the transfer has taken place, yu may be saddled with certain liabilities that yu didn't cntemplate. Yu can sue the seller fr breach f the cntract, but this may be cstly and time cnsuming r the seller may have gne bankrupt r left twn. It's better t d yur investigatins and knw abut these prblems befre yu invest yur hard-earned mney. There are many types f due diligence. Tw f the mst cmmn types f due diligence are: Business Due Diligence This starts as sn as yu start lking at a particular type f business. It includes, fr example, yur market studies, library, newspapers, jurnals, asking arund, getting cpies f material that are in the public dmain (e.g. brchures) and speaking t yur financial advisrs. Once yu decide t fcus n ne particular business, yu can apprach the wner r wners wishing t sell and get as much infrmatin frm them as yu can regarding the cmpany's prspects, custmers, lease arrangements, backgrund, and ther aspects f the business. They prbably wn't let yu see their financial statements r custmer lists until yu give them a cnfidentiality agreement and perhaps a refundable depsit with a Letter f Intent t shw yu're serius abut buying the business.

6 Page 6 Yu may need additinal assistance frm accuntants, engineers r envirnmental specialists in cnducting yur business due diligence. The extent f yur investigatins may well depend n the type f business yu wish t acquire and hw yu intend t finance it. Envirnmental due diligence is assuming increasing imprtance, since the liabilities assciated with envirnmental prblems can be extensive, and can affect the directrs f the cmpany persnally. Legal Due Diligence The lawyer's jb is t cnduct varius searches and review dcuments t determine the legal status f the business yu are buying, such as ptential liabilities, the status f lease arrangements, emplyee matters, and cntractual bligatins. The lawyer will als check t make sure the assets being acquired are free and clear f all encumbrances unless, f curse, yu intend t assume these encumbrances. If yu are taking ver a lease r cntracts, yu will want the lawyer t check that these agreements are in gd standing, and that the landlrd r ther party will allw yu t take ver the cntracts. The extent and cst f this due diligence review may depend n the amunt f mney invlved, the type f business being acquired, and the level f risk with which yu are cmfrtable. Frm the seller's pint f view, a certain amunt f due diligence is als advisable s that the seller can back up his r her prmises. There may be a ptential liability f which the seller is unaware. As well, ften the purchaser's lawyer will ask the seller's lawyer fr a legal pinin regarding the status f the cmpany r n ther legal matters. Due diligence and legal pinins are als ften required by the financial institutins wh are funding the transactin. The results f the due diligence exercise may nt always be what yu want, but at least it cuts dwn the surprise factr and aids in the negtiatin f the purchase agreement. 5. The Frmal Agreement The preparatin f the frmal agreement gives the parties the pprtunity t flesh ut the basic agreement, and tie dwn a number f smaller matters which may nt have been thught f by the parties in their initial negtiatins. Often clients will say that they want nly a very simple agreement - nthing lng r cmplex. While a shrt and simple agreement is always pssible, it's nt always advisable. Mst f what is put int the purchase agreement is there fr yur prtectin. The shrter the agreement, the mre risk yu as purchaser will assume. The three basic cmpnents f the frmal agreement are as fllws:

7 Page 7 The Basic Elements The first part f the agreement will usually cver the basic elements f the agreement--the parties, the assets r shares being purchased, the purchase price, adjustments t the purchase price, hw and when the purchase price and adjustments will be paid, and hw GST will be handled. Yu will smetimes want t give extra thught as t wh the parties shuld be. If yu are buying assets frm a cmpany, wh wuld yu wish t sue if smething ges wrng? D yu nly want t be able t sue the cmpany (which may nt have any assets left), r d yu als want the right t sue the sharehlders (wh will likely be receiving the sale prceeds.) Often sharehlders are added as parties t the agreement as additinal prtectin fr the purchaser. Adjustments t the purchase price can als be a cmplex issue, depending upn the nature f the business r assets being purchased. Prepaid expenses, inventry, and accunts receivable are all matters which can require special cnsideratin. Representatins and Warranties The representatins and warranties are given primarily by the seller n thse matters which are imprtant t yur purchase f the business. Yu first have t cnsider what facts and issues are imprtant t yur decisin t purchase the business and the amunt yu are willing t pay. Then, in additin t cnducting yur due diligence n thse matters, yu will lk fr a representatin r warranty frm the seller that the facts as represented t yu are true. This is intended t prtect yu shuld there be ther facts r infrmatin yu d nt knw abut, r if the seller has misled yu n sme imprtant matter. A breach f representatin r warranty will allw yu t sue the seller (r ther parties) making the representatin r prmise. Fr example, if yu are buying the shares f a cmpany, yu will likely want a representatin that all incme tax and GST returns have been prperly filed, and all incme tax and GST has been paid. If, after yu have purchased the cmpany, Revenue Canada shuld reassess fr incme tax wed by the cmpany befre yu purchased, yu wuld have the right t sue the seller fr that additinal incme tax. Clsing Matters This prtin f the agreement will generally set ut the clsing date, and what must be exchanged at the time f clsing. It will als set ut any special cnditins f clsing which must be met befre the sale can be finalized. Typical cnditins f clsing are: All representatins and warranties given prir t clsing cntinue t remain true and accurate as f the date f clsing;

8 Page 8 Yu will receive the purchased assets r shares free and clear f all encumbrances, except thse yu may have agreed t assume; Any special licences r cnsents have been received; All gvernmental clearance certificates r apprvals have been received; All ther dcuments which frm part f the transactin have been signed and received; and Yu have tendered the payment as prmised in the agreement. Often yu will be required t attend at either yur lawyer's ffice r the seller's lawyer's ffice t frmally sign the dcumentatin and tender the purchase price. The business is nw yurs! 6. Ready fr Business Nw yu are the prud wner f a new business. If yu have cnducted yur due diligence and have a gd purchase agreement in place, yu are well n yur way t success. Yu may need nging cnsultatin with the prir wners, s it is always wise t keep a gd wrking relatinship with thse peple. Yu may als require the nging assistance f yur team f advisrs (accuntants, lawyers, etc.) because even thugh the transactin is cmplete, the wrk has just begun! 7. Cntacting a Lawyer n this Subject Fr mre infrmatin n this subject r specific legal advice, cntact Rbertsn Strmberg Pedersen LLP at (306)