What Is the Legal Process for Buying an Existing Business?

Building a new business is not the only way to have a business to call your very own. Buying an existing business is a very popular option for many reasons. One being that the business itself has already been founded and built. The business may also have a decent customer base and the brand may also be established as well.

While this method of obtaining a business may seem to be less risky in some aspects, you should perform due diligence to make sure that you are completely aware of the purchase terms.

Where Do You Begin the Process?

Proper legal advice and support is essential in any major transaction for the following two reasons:

1. To confirm what exactly you are buying or selling. Hiring a law professional will ensure that the agreement reflects correct information about what you are buying or selling.
2. To safeguard your investment, against unexpected liabilities

If you are selling the existing business, you should take detailed tax advice to make sure that the timing and structure is right for you. Do some research to know, would there be an unforeseen tax “break” if the sale were to be delayed for six months.

Ensuring Confidentiality of your Trade Secrets

A seller generally discloses to the buyer all his confidential and sensitive commercial information such as pricing, customer lists, trade secrets and more. As a buyer, you have to agree on not to use or disclose the confidential information, which could make the biggest asset of the business.

Before you disclose any details, the first step should be to ensure the buyer signs a confidentially agreement and agrees to the practical steps to avoid unauthorized disclosure and use. Always remember that sensitive information and trade secrets cannot be unlearned.

Shares Or Assets?

If a sole trader or a partnership runs the business, there will be no shares to buy. The assets including contracts and goodwill of the business will be sold by the seller and will be called an asset sale.

If a company owns the business, there is a choice of buying the assets from the company, or buying the whole company itself by acquiring its shares from the shareholders. The main rule of thumb for a company sale is that a buyer generally prefers to buy the assets of a business, and sellers prefer to sell the shares.

A buyer may choose shares over assets in the following instances:

• There may be important contracts that are non-transferable, or certain licenses that might be unique to the seller. Sometimes, a buyer will want to preserve as many customer relations as possible.
• There may be tax losses that can be set against future profits to minimize tax liabilities.
• The company may occupy leasehold premises and there may be some problem in getting the property owner’s consent to an assignment of the lease. Alternatively, the buyer is not in position to take an assignment without personal guarantees being given in support of the buying by its directors, which may not be acceptable.

Performing Due Diligence

As you have decided to buy the existing business, following are some items that you need to address before any business agreements and transactions.

Get All Licenses & Permits: Many businesses require some licenses and permit to operate. The type of license or permit you require largely depends on the industry and the state in which you are operating the business. Many state-wise licenses and permits finder tools available to get a listing of federal, state and local permits and licenses to help you in running the business without any legal interruption.

Zoning Requirement: Zoning requirements may affect the type of business that you are intending to operate in a particular area. Buyer should visit the Basic Zoning laws to learn more about zoning and ensure that your business is abiding by all laws in your area.

Environment Concerns: if you are acquiring real property along with the business, it is imperative to check the environmental regulations in the area.

Calculate the Value of the Business

Apparently, before investing your hard-earned money, you have to determine the fair and equitable price for your business. Following are some common methods that businesses use to determine the value of any business for sale:

Capitalizing Earning Approach: it refers to the return on investment that is expected by an investor.

Excess Earning Methods: It is almost similar to the capitalizing earning, but it separates return on assets from other earnings.

Cash Flow Method: it is used when you attempt to determine how much loan the cash flow of the business with support. The adjusted cash flow is used as a benchmark to measures the business’s ability to service debt.

Tangible Assets (Balance Sheet) Method: this method is used to value the business by the tangible assets.

Value of Specific Intangible Assets Methods: it compares buying a wanted tangible asset versus creating it.

The main valuation techniques and criteria used are as follows:

• Return on Investment
• Discounted cash flow analysis techniques
• An earnings multiple valuation
• Net asset valuation

There is no such thing as “a correct valuation” of a private business. To get a fair estimate, you should consider past results, profit growth, One-off events, and scarcity value. Other factors that should be taken into account are as follows:

• Any salary increases will be required after an acquisition to bring people in line with the current employees of the buyer company
• Any staffing requirement
• Any additional pension costs
• Relocation costs
• Withdrawal of any product
• Redundancy costs
• Any cash generated by selling an asset, which is not required
• Refinancing sots

Form a New Legal Entity

Hire a lawyer to form a new legal entity that will acquire that asset of your target business. As a general precaution, forming a corporation or an LLC to buy a business will minimize your personal risk for the businesses’ past obligations.

Write Up a Letter of Intent

Once you determine what are you buying, and what liabilities you are taking on, then you should draft a letter of intent. This is a non-binding agreement outlining what is to be done when the buyer and the seller have generally agreed upon the terms of the transaction.

Negotiate Purchase Terms

In order to negotiate purchase terms, work with your lawyer to draft and sign the sales agreement. You should push to get it into escrow as soon as possible to protect you from other buyers.

Bring On Board Employees

Never assume that the employees will automatically be transferred to you. You can make the decision during the negotiation phase. If you have to onboard employees due to sales agreement, you should still review headcount and employee costs and contributions after the sale. Check with your state law regarding worker protection rules and the amount of calendar notice that you need to provide. Meticulously read Employment Law to learn about layoffs and severance payments.

Deal Structure

The valuation of a business and the deal structure proposed for an acquisition are interrelated and must be seen together. The structure often has important implication for tax planning and should be discussed at a very initial stage with your accountants. Changing the deal structure during the negotiation process can be time consuming and may weaken your bargaining position.

For instance, if the net asset were low as compared to the overall valuation, then you as a buyer would take an unacceptable risk to pay the full price on completion. Alternatively, it might be an acceptable risk for the seller to agree to defer the purchase price over a longer period.

Closing the Deal

Closing is generally done either by means of an escrow settlement or through a professional attorney who performs settlement. In an escrow settlement, the money, bill of sale, and other relevant documents are places with a neutral third party known as an escrow agent until all condition of sales have been fulfilled. After that, the escrow agent disburses the held document and funds to the parties according to the terms of the contract.

If your attorney is performing the settlement, meanwhile, he or she will act on behalf of both buyer and seller, or for the buyer – draws up a contract and acts as an escrow agent until all stipulated conditions of sale have been met. Under escrow settlement, the buyers and the seller do not have to get together to sign the final documents, but when attorney close the settlement, both parties have to get together to sign the final documents.

Buyer can choose to pay through various payment modes such as deferred payments, earn-out, loan notes, pre-sale dividends, motivation and triggers. You can talk to the seller or your attorney will talk to the seller to determine which payment mode would be more appropriate,

Conclusion

Make sure you disclose the transfer of ownership to all creditors of the business. If possible, try to get one article published in the local newspaper. It will make the transfer of ownership public and can serve as free advertising for the business itself. Buying an existing business is risky, but with patience, and good legal advice, your hard work will definitely go hand in hand with satisfaction and success.