Selling Your Business: the first approaches and the sale process
This article is the second of two and follows "Selling Your Business: getting the ducks in a row" . In this article we look at the stages of a sales process once a buyer has been identified.
Negotiating a Sale
Having identified a buyer you will obviously negotiate and agree the key commercial terms with that buyer. If you have taken the time to plan your sales strategy (as discussed in article one), your negotiating position should be strengthened as you will know that you are presenting your business at its best.
Heads of Agreement and Confidentiality Arrangements
Once the key terms are agreed those terms would normally be recorded in signed heads of agreement, sometimes referred to as heads of terms or a term sheet.
The heads of agreement are for the most part not legally binding and often clearly state that they are not exhaustive. However, certain specific clauses will usually be expressed to be legally binding including:
- a confidentiality clause;
- an exclusivity period. This is often an important requirement for a buyer because it will want to have an unrestricted period in which to carry out its investigations into the business - known as due diligence (discussed below). An exclusivity period is often required, given the time and money a buyer is spending in carrying out due diligence and negotiating the deal;
- any commitment or exclusivity fee.
It is vitally important that the buyer enters into confidentiality arrangements with you to ensure that any confidential information you provide about yourself and your business is kept confidential and used only by the buyer in relation to the transaction. This is likely to be needed most if any proposed sale should subsequently fall through, as information may be at risk of being used by the abortive buyer in competition with you.
Professional advice should generally be taken in preparing the heads of agreement and the confidentiality agreement. The value of including advisers at this stage means that the key terms agreed (and the binding provisions) are accurately recorded in the heads of agreement so that they can then be replicated effectively in the formal sale contract. You also want to ensure that the confidentially arrangements put in place appropriately protect your position and that of your business.
The Legal Aspects of the Sales Process
Once the heads of agreement and confidentiality agreement are signed the next stage is for the buyer to conduct its due diligence. This is where the buyer (and its advisers) conduct investigations into the business. These investigations cover all aspects of a business - both financial and legal - looking at areas such as the assets, the accounts and financial records, key legal contracts and employees. They will also look at sales profiles, reliability or continuity of source materials and key contracts and relationships.
Again, it is at this stage where the value of good pre-planning prior to a sale can be felt by the seller. Where issues relating to the business are identified, this can have a significant impact on the negotiation process. In a worst case scenario, where a problem is considered serious enough, it can result in the buyer seeking a price reduction or even walking away from the deal altogether.
Therefore, the value in taking the time to ensure that your business is in its best possible shape can have a real impact at the due diligence stage as any key issues would have already been identified and dealt with by you. This in turn should help to ensure that the due diligence process is quick, efficient and cost effective and uncovers no shocks for either party.
Sale Contract and Disclosure
At the same time as the due diligence process is proceeding the parties and their lawyers will negotiate the sale contract - either as a share purchase agreement or a business and assets purchase agreement, depending on the structure. This is the main contractual document that records all the terms on which the sale will take place and, in particular, records the transfer of ownership (in shares if it is a share sale, or in the assets if it is an asset sale). The sale contract will reflect the key commercial terms recorded in the heads of agreement and will detail the other necessary legal protections that the seller and the buyer will require. It is the sale contract that is often heavily negotiated between the buyer and the seller and their legal advisers.
In particular, any sale contract will contain a number of warranties. Warranties are statements or promises that the seller is asked to make in respect of the business being sold. The purpose of a warranty is to counter the Common Law principle of "caveat emptor" - let the buyer beware - and to provide a mechanism for re-adjusting the purchase price to take account of any re-evaluation of the basis on which the price was calculated.
The warranties can, in turn, be qualified by the seller. This is done by the seller either reducing the ambit of the warranty or making specific disclosures against it. The warranty disclosures are set out in a document called a disclosure letter.
The purpose of the disclosures is to make the buyer aware of a situation or set of facts that may exist that contradict or are not entirely in keeping with the statement made in a particular warranty. By making a disclosure the buyer is made aware of the issue before it has finalised the sale and so has notice of it. It is then up to the buyer, if it accepts the disclosure, either to require some form of remedial action to be taken or to proceed with the transaction, accepting the consequences of the disclosure.
Third Party Consents
The parties will also need to consider whether specific third party consents are needed under the terms of any material contracts. A classic example in relation to a sale of shares is where the business occupies a property under a lease which contains a clause stating that the landlord's consent is required if any change of control occurs to the company (as the tenant). Other examples are IT licence agreements or agreements with key customers and suppliers that contain similar change of control clauses.
If the need for such consents has been identified in the planning stage, and if it is thought appropriate or prudent to approach that third party early on in the sales process, then obtaining such consents may be achieved a lot quicker. It can be a longer process if the need for consent is only identified during due diligence.
It is also worth noting that in some scenarios consents may take a number of months to obtain, such as obtaining regulatory consents (e.g. from a government department or agency) or consents from overseas parties. As a result one common option is for the parties to proceed to the exchange of the sale contract but with final completion of the sale deferred and made conditional upon that consent being obtained at the later date. However this does put the third party into a powerful position if it is, or becomes, aware of this.
To summarise, once:
- the buyer's due diligence exercise is completed;
- the key transactional documents (including the sale contract and other ancillary documents) are agreed;
- the necessary disclosures have been made; and
- any third party consents have been obtained,
the transaction can proceed to exchange and completion. This is the final step in the process whereby the formal legal documentation is signed and entered into and legal title passes to the buyer and, most importantly, the seller receives the sale proceeds. Where companies are involved, all appropriate board meetings will also need to be held and other procedural steps taken.
The above sets out an outline of a typical sales process, although each transaction has its own issues and peculiarities.
We are of course available to discuss with you any thoughts or questions you may have arising from this article, and we are available to assist with any stage of a sales process - whether you are a seller or a buyer.
Andrew Bailey, solicitor, Company & Commercial department.
10 New Square, Lincoln's Inn, London WC2A 3QG
DX 40 London/Chancery Lane
Tel: 020 7465 4300 Fax: 020 7465 4400 www.phb.co.uk
This publication is not intended to provide a comprehensive statement of the law and does not constitute legal advice and should not be considered as such. It is intended to highlight some issues current at the date of its preparation. Specific advice should always be taken in order to take account of individual circumstances and no person reading this article is regarded as a client of this firm in respect of any of its contents.
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