Business Sale Concepts, Issues, Traps & Tools Seminar A – The Two Types of Business Sales and When Each Is Used
1. Asset Purchase.
This is the most common way to purchase small businesses. It is strongly desired by Buyers because it avoids Buyers unknowingly assuming the liabilities of the entity (e.g., a corporation or limited liability company — “LLC”) that owns the business, which liabilities were not disclosed by, or were even unknown to, the Seller. These liabilities are avoided because the business and all business assets are purchased, but the entity owning the business and assets is not, which entity remains responsible for the liabilities. The entity is actually left in the hands of the Seller, the only change usually being to the entity’s name, if the name of the entity was also the trade name of the business and the Seller had agreed to sell the trade name to the Buyer.
2. Stock Purchase.
a. Despite the liability pitfall discussed above, the stock purchase is the preferred way to purchase large businesses owned by corporations whose stocks are publicly traded on the stock markets. It is simply too cumbersome to purchase the assets of the businesses individually, so a controlling interest in the corporation’s stock is purchased, which in turn gives the Buyer control of the corporate entity, which in turn gives the Buyer control over the business and its assets. The stock purchase is also used in small businesses where the Seller has negotiating leverage and perhaps has a larger tax basis for capital gains tax purposes in the stock than the Seller does in the business and its assets. Also, a stock purchase is used when the Buyer is buying out one or more owners of the business, but not all of them.
b. In a stock purchase transaction, the stock has to be valued to determine the price to be paid, but the stock’s value is based upon the value of the business and its assets. Therefore, the value of the business and its assets plus the business’s revenues, expenses, and liabilities must also be verified to ensure the stock is worth what it is thought to be worth. Thus, all of the inspections and due diligence that must be completed, and all the issues and deal points discussed below that must be considered, in an asset purchase also apply to a stock purchase, since, again, the value of the business and its assets creates the value of the stock.