How to buy a business: A simplified legal guide

Buying a business

Whether you’re a first-time buyer or a seasoned entrepreneur, we aim to make the process as clear and straightforward as possible.

Legal steps to buying a business

1. Preliminary due diligence

Get a sense of the business beyond the sales pitch. Research its market position, main competitors, and potential risks. Meeting the seller and seeing the business in action can offer invaluable insights that you won’t find in any report.

Seek opinions from industry insiders. Their perspectives on market trends, competition, and future demands can help you assess the business’s viability and potential challenges.

Reviewing financials under confidentiality: At this stage, it’s common to sign a non-disclosure agreement (NDA) to gain access to the target business’s sensitive financial information. This step is key for a deeper financial analysis, allowing you to scrutinise the numbers, understand the business’s financial health, and identify any red flags or opportunities that the financial statements may reveal.

2. Completing your deal team

Once you’ve identified a promising business you would like to acquire, assembling your deal team is your next move. This team is your backbone throughout the acquisition process, providing expertise, guidance to help mitigate risks and ensure the structure of the deal aligns with your objectives.

Key members and their roles:

Lawyer: Your legal advisor is indispensable for navigating the complexities of business acquisitions. They will handle contract negotiations, legal due diligence, regulatory compliance, and protect your interests at every stage of the process.

Accountant: An experienced accountant will examine the financials of the target business, identify any financial discrepancies, and help assess the target company’s financials. They play a critical role in ensuring the numbers stack up so you can have faith the investment is the right one for you.

Together, these professionals form the core of your deal team.

3. Making an offer

Don’t just take the seller’s word for it; conduct your own valuation, with the help of an experienced accountant. Consider the business’s assets, customer base, and market position. Acknowledge inherent risks, especially if the business relies heavily on a few customers or is currently unprofitable.

Your offer should reflect your valuation and take into account the seller’s needs and your own risk tolerance. Be ready to negotiate, but know your limits.

4. Heads of terms

Heads of terms, also known as a letter of intent, is a critical document that outlines the preliminary agreement between a buyer and a seller in a business acquisition. It’s not common for the commercial terms to be legally binding but it will be a foundational piece in laying the groundwork for the formal agreement, covering key aspects like the structure of the deal, payment terms, and the timeline, for effecting completion.

Why heads of terms matter

Clarifies deal structure: It specifies whether you’re buying the shares in the target company or just cherry-picking some or all of its assets. The structure will have a big impact on the direction of legal and financial planning thereafter.

Facilitates due diligence: Lays out the scope for a detailed investigation into the business, guiding the due diligence process.

Aids negotiations: Acts as a positive show of interest, streamlining negotiations and setting expectations for the formal contract.

What buyers need to know about heads of terms

Payment terms: Outlines payment methods such as; payment in full on completion, deferred payments, or earn-outs.

Conditions and exclusivity: Include necessary conditions for the deal to proceed and request an exclusivity period to prevent the seller from engaging with other buyers.

Timeline: Establish a clear timeline for due diligence, negotiations, and completion to keep the acquisition process on track.

In essence, heads of terms are necessary for ensuring the parties expectations are clear so the acquisition can proceed smoothly.

5. Thorough due diligence

Due diligence is the meticulous investigation into a business. It’s a crucial stage that helps buyers verify the accuracy of the seller’s claims, understand the business’s true value, and identify any potential risks or liabilities.

What due diligence involves

Due diligence covers financial, legal, and operational aspects of the business.

Financial due diligence inspects the business’s books, cash flow, debts, and profitability.

Legal due diligence examines the target company’s corporate structure, property elements (leases, licences etc), contracts, information technology (IT), intellectual property (IP), regulatory compliance, employment elements, and non-contentious and contentious dispute (or litigation) history.

Operational due diligence assesses the business’s processes, customer relationships, and supply chain efficiency.

Why due diligence is essential when buying a business

The primary purpose of due diligence is risk mitigation. It ensures you’re making an informed decision and are aware of all (or as many as possible) potential issues that could impact the investment’s success.

It can also influence the final purchase price and terms and provide a stronger negotiation position if issues are uncovered.

How to conduct due diligence

The process usually involves a team of experts, including accountants, lawyers, and industry specialists, who can thoroughly evaluate different aspects of the business. It’s a detailed and often time-consuming process, requiring access to a wide range of the documents and records.

6. Share purchase agreement (SPA) or asset purchase agreement (APA)

The SPA or APA is a legally binding contract that finalises the terms and conditions under which the shares/assets in the target company are sold and purchased. It will be signed following the conclusion of negotiations and due diligence, outlining in detail the agreement reached between the buyer and seller.

Key components of a share purchase agreement

Parties involved: Identifies the buyer and seller.

Assets or shares: Specifies whether the transaction involves the purchase of the business’s assets or its shares.

Purchase price: Details the agreed-upon price and the payment structure, including any deferred payments or earn-outs.

Representations and warranties: Representations are statements of fact that will be made by the seller to the buyer, while warranties are contractual assurances that facts are true and will remain so for a specified period. They are both subsidiary provisions of the APA or SPA that serve to provide security to the benefitting party.

Covenants: Obligations (that can be both positive or restrictive) that parties agree to fulfil (or not to do certain things) both before and after the sale. For example, it is common for a buyer to seek restrictive covenants from the seller that they will not work in the same geographical location as the target company for a period of time, post completion.

Conditions precedent: Conditions that must be met before the transaction can be completed, such as obtaining necessary regulatory approvals.

Cancellation rights: Circumstances under which either party can withdraw from the agreement.

Dispute resolution: Methods for resolving any disputes that arise related to the agreement.

Importance of the SPA/APA

The SPA or APA serve as the definitive guide for the transaction, ensuring all terms are clearly defined and agreed upon. They provide a clear path for the transfer of ownership, minimise misunderstandings, and offers protection for both parties. It’s crucial in facilitating a smooth transition of the business from the seller to the buyer.

Finalising the SPA/APA

Before signing the SPA/APA, it’s vital for both parties to thoroughly review the document with their legal advisors. This ensures that all terms accurately reflect the agreement and that both parties fully understand their obligations and rights. Finalising the SPA/APA is a significant step, marking the point where the deal terms become legally binding.

7. Legal obligations post-purchase

Formalise the transition: Legally document the change of ownership to ensure all employees, customers, and suppliers are aware of the transition. This involves drafting official announcements or assigning contracts to reflect the new business ownership, which can help prevent any confusion or legal disputes.

Execute legal obligations and plans: Once the purchase is complete, it’s crucial to legally bind any verbal commitments made during the acquisition process. This might include fulfilling any agreed-upon conditions with previous owners, or initiating any legal steps necessary to execute your strategic vision for the business. Ensuring these actions comply with relevant laws and regulations is vital for the seamless integration of the business and the mitigation of potential legal risks.

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