Sale of Business – Frequently Asked Questions

>Sale of Business – Frequently Asked Questions
Sale of Business – Frequently Asked Questions2020-01-31T11:53:04+11:00
  • How can you lawfully terminate a contract?

What is goodwill?

Goodwill is the value placed upon the worth of a business which exceeds the net value of the tangible assets of the business (e.g. equipment). It is normally the premium the business owner can ask and that a buyer is prepared to pay for an establish business with expected future profits.

What is a due diligence period?

The due diligence period is when the purchaser is able to assess the value of the business and associated risks. This allows the purchaser to review relevant documentation, make a comprehensive appraisal of the business they are considering purchasing, and be satisfied that the vendor has not made any substantial misrepresentations. During due diligence checks the purchaser will typically look at the financial position of the business including any taxation liabilities, outstanding liabilities of the business, ongoing or past legal disputes, and security interests.

What does ‘subject to finance’ mean?

If a sale is ‘subject to finance’, the contract may be conditional on the purchaser obtaining a loan to purchase the business. A subject to finance clause specifies that the transaction is conditional upon the purchaser receiving finance approval before a particular date.

What happens on exchange of contracts?

Once both the vendor and purchaser are satisfied with the contract (and are still willing to enter into the transaction), they will sign the contract. Usually, each party will sign a separate counterpart, which is an identical copy of the contract. The contract is ‘exchanged’ when the parties swap signed counterpart contracts. The counterparts will then be dated. From exchange, the parties are legally bound to perform the transaction in accordance with the contract. Usually, the purchaser will pay the deposit on exchange. A deposit is typically 10% of the purchaser price.

When should the vendor start transferring assets to the purchaser?

The vendor should not transfer or handover any asset until settlement. This includes both tangible assets (e.g. equipment) and intangible assets (e.g. intellectual property, client data, business name, phone numbers).

What is settlement?

Settlement means the completion of the transaction. The ‘Completion Date’ is the day that settlement (or completion) occurs. The remainder of the adjusted purchase price is due on the date of settlement. If stock needs to be valued, this will usually happen the day before or day of settlement. At settlement, the vendor will need to hand over the business, equipment and important documentation.

Is GST applicable to the purchase price of the business?

If a business is sold as a genuine ’going concern’, the business sale transaction will be GST free. However, if a transaction does not meet the criteria for being sold as a ‘going concern.’ The purchaser may be able to claim a credit for any GST payable. Vendors and purchasers should obtain their own accounting and legal advice on whether is GST applicable to the sale and purchase of the business.

What is the purpose of a deposit?

The deposit is intended to provide some available funds in the event the purchaser reneges on the purchase of the business, if this occurs the vendor may take the deposit and may sue for damages as a result of a breach of contract. Otherwise, the vendor is not entitled to the deposit until they have complied with the terms of the contract and the transaction has completed.

What are intellectual property rights?

Intellectual property rights include ownership of copyright and trademarks. Copyright can attach to assets such as include things such as logos, procedure manuals and client lists. A business will also have other assets which are important for branding, such as a business name, social media accounts, and contact details. These assets may be transferred at settlement, or the vendor may instead grant a licence to the purchaser to use particular assets.

What is a restraint of trade?

A restraint of trade prevents the vendor  (and key personnel) from being involved in a competing business within a certain area and time period. Usually, a restraint will also prevent the vendor from soliciting clients or employees of the business. The restraint area is usually a radius from the business premises.

To be enforceable, a restraint of trade must be no more than is necessary to protect a “legitimate business interest” and be reasonable in the circumstances. What is reasonable will depend on a range of factors, such as the nature of the business, and the price paid by the purchaser for the business.

What is a guarantor?

If the business is purchased by a company, a guarantor may provide a personal guarantee that the purchasing company will perform all obligations under the contract, and indemnify the vendor against losses it may suffer as a result of the purchaser’s obligations under the contract. Usually we would recommend that a vendor insist on a director of a corporate purchaser providing a director’s guarantee.

What happens to the lease?

If the vendor has an existing lease (or sub-lease), this might be assigned to the purchaser. This means that it will be transferred to the purchaser, with the landlord’s consent. Alternatively, the purchaser might negotiate a new lease with the landlord. It is important that the key terms of the new lease are noted in the sale contract. Typically, the sale will be conditional on either the assignment of the lease or grant of a new lease on specific terms.

What does it mean if stock is included in the sale?

The stock of the business is included in the price if stock is sold on an inclusive basis. In this scenario, a set purchase price is agreed, and the business is handed over “as is” on settlement. There is no stocktake. There should be sufficient stock available to run the business.

What is stock-in-trade?

In this scenario, a certain portion of the sale price is for stock. A stock take will occur the day before or of settlement.

For example, $10,000.00 of the price may be apportioned to stock. However, if the stock is only valued at $7000.00, and adjustment of $3000.00 will be made to the final purchase price. On the other hand, if the stock was valued at $11,000.00, the purchaser may choose to only take stock up to the value of $10,000.00 and may reject the rest of the stock. If this is the case, no adjustment is made to the purchase price and the vendor must remove the rejected stock from the premises.