10 Issues to Consider Before Selling Your Business

Selling a business can be lucrative but it’s complicated. Consider these points:

  1. What are You Selling?  Early in the negotiations, buyer and seller must agree on what is being bought and sold—company stock (or other equity interests) or business assets.  Ordinarily, the seller would prefer to sell the company stock, because that will make unknown company liabilities the buyer’s problem (subject to seller’s indemnification commitment). However, the seller might favor a sale of business assets because getting the cooperation of all the stockholders and option holders might be difficult.
  2. Don’t be Coy.  Be open and honest in responding to the buyer’s due diligence investigation requests.  Every company has taken shortcuts along the way which it might not want to disclose, but the consequences for misleading a buyer are much worse.  Expect to put a lot of time and work into responding to due diligence, have a good Non-Disclosure Agreement, and let the buyer have at it.
  3. The Straight and Narrow.  Avoid general, open-ended representations and warranties in the sale agreement.  Certainly, there are some issues for which seller “should know,” and reps about these issues are just about risk allocation.  But whenever you can get away with it, the seller should keep its reps and warranties as narrow and focused as possible.  “To seller’s best knowledge” is a welcome (if rarely accepted) qualifier.
  4. Run Out the Clock.  The seller should expect to indemnify the buyer for costs or losses resulting from the inaccuracy of seller’s reps and warranties.  However, the obligation to indemnify the buyer should not go on forever.  The seller should limit the time period for its indemnification as much as possible.  Often, different indemnification periods will be appropriate for different potential liabilities.
  5. Taxes as Usual.  Sale of the business will likely result in a lot of taxes.  There’s capital gains tax on the sale of the stock or business assets, which could be quite high if basis is low.  The seller is responsible for his or her own capital gains taxes, but responsibility for other taxes is negotiable.  The seller and buyer should agree on responsibility for sales taxes, documentary stamp taxes, or intangibles taxes, if they apply.
  6. Delayed Gratification.  The seller would probably love nothing more than getting a big check at the closing table, but the buyer might insist on holding back part of the purchase price.  This might be because an accurate value for the business cannot be determined until all the numbers are in for a given period.  Holdbacks are sometimes reasonable, but the seller should insist that the money is placed with an impartial escrow agent.
  7. Something for Nothing.  Remember how happy your employees were when they got those stock options?  Don’t expect them to remember now.  Unless they’ve completed the “incentive stock option maneuver” perfectly, your employees are going to have a big tax bill on the exercise and sale or redemption of their option stock.  And they won’t be happy if they have to wait on a holdback either.
  8. Unbind the Ties.  Most business owners, when the business is growing, are required to personally guaranty every bank loan, trade credit, and other obligation of the business.  The seller must be sure to negotiate a release of all of those personal guaranties as part of the sale.  If a creditor refuses to release the seller, the buyer should at least indemnify the seller for liability resulting from the personal guaranty.
  9. Trust But Verify.  Often buyers will want to pay part of the purchase price in installments over a period of time.  Now the seller needs to be the cautious trader.  The seller must conduct its own due diligence investigation of buyer’s ability to pay.  The buyer’s obligation should be documented in a promissory note (on which doc stamp taxes are paid) and secured by the purchased stock or assets.
  10. A New Hat. Buyers often insist on the seller continuing to work or consult for the business for a period of time.  This requires a separate agreement between the buyer and seller, which should be fully negotiated and documented at the time of closing on the sale.  Especially watch out for non-competition restrictions.

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