Robert Lee, who heads up the corporate law group at Wright Hassall, discusses the process of selling a business. 

 

Whether it’s as a result of the continuing fallout from the pandemic or owing to the current cost of living crisis, the opportunities for business owners looking to sell up are abundant. However, the process of arranging a sale may be incredibly stressful, with many legal and financial issues all influencing any possible acquisition. Here we look at how the process works.

Valuing a business

The ultimate value of any business is the amount of money a buyer is prepared to pay, therefore completing a thorough valuation is critical to attracting the appropriate buyer at the right price. Several methods can be used to determine the price depending on the business; these include an asset valuation (appropriate if the business owns assets such as plant and machinery or a property), a price-earnings ratio (P/E ratio), discounted cash flow, and the cost to the buyer to enter the market.

Documentation

Several key documents must be created before a sale can proceed.

• Primer – A ‘teaser’ that includes basic information about the company, USPs, customer base, existing contracts, forecasts, turnover, gross profit, and profits before interest, tax, depreciation, and amortisation (EBITDA).
• Non-Disclosure Agreement (NDA) – To safeguard the interests of workers, suppliers, and customers, confidentiality should be preserved in the early phases of a sale, thus potential purchasers must be requested to sign an NDA before entering into more extensive talks.

Heads of Terms

Once the price and terms of the transaction have been agreed upon in principle, the parties must confirm everything in writing by signing Heads of Terms. Although not legally binding, these documents outline what has been agreed upon and serve as a road map for the transaction to go through due diligence, the sale agreement, and conclusion.

Due diligence

The buyer will want to conduct extensive due diligence on the company and study the legal, financial, and commercial aspects of the company by questioning the seller. The results of due diligence frequently form the foundation of any warranties placed into the final sales agreement, and if any difficulties surface, the price may be renegotiated.

Disclosure letter

A disclosure letter protects the seller from a claim for violation of the warranties outlined in the Sale and Purchase Agreement (SPA). The Disclosure Letter is the seller’s opportunity to tell the buyer of any aspects of the business that may be inconsistent with the warranties being provided. The legal protection provided by the disclosure letter’s contents, as well as the SPA, ensures that the buyer enters the transaction fully informed.

Sales and purchase agreement

The SPA is negotiated by lawyers and covers the most minute details of the deal, stipulating all additional documentation, what needs to be delivered (hard copy or online confirmation) and by whom. It will also specify how much the buyer has agreed to pay, whether it is a fixed price or a sum which depends on future revenue or profit (an “earnout”), as well as how and when payment(s) will be paid.

An agreement outlining the seller’s future engagement with the firm may also be drafted. The document will also include any adjustments to employment contracts to retain personnel post-sale, as well as a restrictive covenant to prevent the seller from starting up in direct competition after completion. The warranties, which provide a contractual, enforceable guarantee as to the health of the business upon completion, are one of the most important aspects of the SPA.

These include anything that might provide a danger to the organisation, such as staffing, accounting, litigation, tax, compliance issues, and IT systems. If a problem develops during due diligence that results in a cost, the price may be renegotiated or the seller may be required to provide an indemnity in the SPA, which means that if any cost arises post-completion in regard to that indemnity, the seller will cover that cost.

The majority of warranties are good for 18 to 36 months after construction, with tax extending for seven years. This provides the buyer with an adequate chance to uncover any violation, with a financial cap on the sums that can be claimed in light of a breach so that they do not exceed the purchase price. This highlights the necessity for the seller of using counsel who is knowledgeable and capable of properly managing the due diligence and disclosure process to reduce the risk of a future claim for any breach that may arise.

Completion

Once all documentation has been agreed upon and the buyer has the completion funds, the lawyers representing both parties will oversee completion, arranging for the documents to be signed by both parties, the purchase payments to be transferred, and the transaction to be finalised. The entire sales process is complex. Getting it correct will affect the buyer’s return on the long-term investment, preserve the ‘history’ of the firm, and protect the cash received by the seller from any prospective claim.

To promote a smoother transaction and successful sale for all parties involved, it is essential to seek legal and accounting guidance early in the process and progressively increase professional participation as the final sale approaches.