Structural Formats of Business Sales
Before buying or selling a business, one needs to know how exactly that will be accomplished. The format in which a business is structured has significant legal and tax implications. Both the buyer and seller should be aware of the advantages and disadvantages of the different structural formats of the sale.
The three main structural formats of business sales are:
- Asset Purchases
- Stock Purchases
- Partnership Agreements
Asset Purchases Most Common
An asset purchase means that the buyer forms their own corporate legal entity (either a corporation or a limited liability company) and purchases the assets of the seller’s corporate entity. This generally means that the buyer will not inherit any of the seller’s liability (such as lawsuit liability, debts, or tax liability) upon the sale of the business. The buyer will be doing business under their own corporate legal entity (not the seller’s) and with their own tax ID number and bank account. The trade name or fictitious name is included as part of the assets that the buyer is purchasing.
Seller Dissolves Corporate Entity
Most buyers will want to structure a business transaction via an asset purchase deal because they will not want the seller’s liability. The seller typically dissolves their corporate legal entity after selling all of the assets that its corporate entity owned at the time of the sale. Normally this will include all of the tangible and intangible assets of the seller’s corporate entity. The seller usually will want to dissolve their corporate entity after the sale so that there is no chance of any future liability.
An Example of A Common Asset Purchase Sale Structured Agreement
- Let’s say Jill wants to buy Paul’s Ice Cream Shop.
- The business and trade name Paul’s Ice Cream Shop is legally be owned by XYZ, Inc (which is owned by the individual seller of Paul’s Ice Cream Shop).
- Jill does not wish to be the actual owner (or shareholder or officer) of XYZ, Inc.
- After all, Jill does not wish to be responsible for any legal or tax liability of XYZ, Inc.
- So Jill forms ABC, Inc. and purchases all of the tangible and intangible assets of XYZ Inc. (such as its leasehold rights, equipment, inventory, goodwill, recipes, and brand name).
- This structural format is the most common form of a business purchase.
Stock Purchase Sales in South Florida
In contrast to an asset purchase deal, a stock purchase deal is where the buyer will personally purchase the seller’s actual corporate legal entity. If the seller does business as a corporation then the buyer will purchase all of the shares of the corporation and thus become the corporation’s owner and sole shareholder. If the seller does business as a limited liability company (LLC), then the buyer will purchase all of the membership interests of the limited liability company and thus becomes the LLC’s sole managing member.
Most Buyers Do Not Want A Stock Purchase Deal
With a stock purchase deal, a buyer will inherit all of the seller’s tax or legal liability from the corporate entity being purchased. The buyer does not form their own corporate entity and instead inherits the seller’s tax ID and even bank account. Because of the fear of liability, most buyers do not use stock purchase deals when structuring their deal format. In some specific circumstances, however, a buyer will want to a stock purchase deal in order to take possession of the seller’s tax identification number.
An Example of A Stock Purchase Deal
- Let’s say Jim wants to buy a home healthcare company called ‘Therapy To You’.
- The legal owner of ‘Therapy to You’ is XYZ, LLC.
- As the prospective buyer, Jim is very concerned about losing the insurance contracts under which Therapy to You does business.
- This is because if Jim uses the typical asset purchase format, he will have to form his own corporate entity and will have a new tax identification number.
- He will then have to re-apply with the insurance companies to get properly reimbursed with the different providers.
- Re-applying with insurance companies as a healthcare provider takes time and expenses.
- Thus Jim decides to take the risk of inheriting the seller’s liability and proposes a stock purchase deal.
- Under a stock purchase deal, Jim will be the new managing member of XYZ, LLC by purchasing all of its membership interests.
- As such, Jim can then continue doing business under the same tax identification number, and thus keep all of the company’s insurance contracts intact.
- It is of paramount importance that the business broker involved in the deal proactively present both of these options along with the advantages and disadvantages to the buyer.
- The value of a business broker in holding a deal together is demonstrated when helping the buyer find the most favorable structural format.
Partnership Agreements Not Common
The final type of structural formal for business sales are partnership agreements. Partnership agreements may be structured in any number of different ways. Typical partnership agreements are true partnership agreements whereby buyer and seller will each have half-ownership interests. Other partnership agreements may leave the seller with a minority ownership stake. It is strongly advised that parties contemplating a partnership agreement seek legal counsel.
Partnerships Not for Everyone
Buyers and Sellers normally will not want each other as partners. If a buyer is buying a business, the buyer will normally want to retain sole authority over the operations of the business. Any sort of ‘power-sharing’ arrangement is very hard to implement in practice. Further, the high transaction costs of having lawyers draft partnership agreements often will dissuade either party from moving forward.
Be sure to consult a legal and tax professional prior to structuring an asset purchase, stock purchase, or partnership deal format.
Give Martin at Five Star Business Brokers of Palm Beach County a call today with questions about how to best structure the sale of your business.