In any M&A transaction, one of the first questions for the parties to the transaction is how the deal should be structured. There are two options for buyer to consider:
- Acquire shares of the company comprising the business; or
- Acquire the business directly from the company.
Whether to provide for the buyer to acquire the assets or the shares (or other equity interests) of the target company will impact virtually every aspect of the deal. When the time comes to draft the definitive purchase agreement, there will be significant differences in the agreement depending on the type of transaction structure agreed upon by the buyer and the seller. This article is focused on the sale and purchase of a business operated by a company only. For other business form such as a private enterprise or partnership, the buyer is usually only able to purchase the assets of that business due to the scope of liability of the owner of the business.
The difference between an asset sale and a share sale
An asset sale involves the sale and purchase of assets of company. The transaction is between the company and the buyer of the business assets. The purchased assets often encompass all or substantially all of the assets of the company that generate its business. Sometimes, the assets involved in the transaction only limit to those used in a specific division or segment of business of the target company. The subject of asset sales can be factory, buildings, equipment, machinery, stock, licenses, contracts, and intellectual property rights. After selling the assets the seller retains ownership of the company.
A share or equity sale transaction involves the sale of the equity interests in a target company from the equity holders to a buyer. The objective of this transaction is acquisition of the target company – a separate legal entity, not acquisition of the business from the company. The buyer purchases shares in a company, rather than just the assets. The transaction is between the company’s shareholders and the buyer of the shares. All business assets remain with the company. It is the composition of the ownership of the company that changes.
Though this article has used the term “share sale” to describe the primary alternative to an asset sale, it should be noted that another common M&A transaction structure, a merger, provides another alternative. A merger is, in many ways, similar to a share deal in that the buyer acquires the entire entity operating the business, including all of the assets and liabilities of the business. However, under the merger the acquired company will be merged into the another company and thereafter, shall cease to exist.
Pros and cons of asset sale and share sale
An important benefit of an asset sale is that it allows the parties significant flexibility as to what assets and liabilities are included in the transaction. In particular, for a buyer is able to reduce the its risk of assuming unknown liabilities of the target company. In addition, the asset sale also provides the buyer with opportunity to select the needed assets and avoid spending money on unwanted one. For a seller, an asset sale is often not preferred over a stock sale, but in some instances it is ideal for allowing a seller to dispose of just a portion of its holdings. Asset sales often are used in connection with the sale of a distressed business, the sale of a business division, or in transactions where there are significant concerns regarding known and unknown liabilities of the business.
A share sale is often favoured by the owners of a selling company because, in general, all of the known and unknown liabilities of the business are transferred to the buyer, and therefore the sellers avoid ongoing exposure to such liabilities. Thus, if the buyer acquires the shares of such company without the creditors’ consent, the transaction may be void and subject to the risks of dispute in the future. To mitigate the risks associated with a share sale transaction buyer usually must engage in extensive and detailed due diligence to detect liabilities and risks associated with the target company. Buyers may also benefit from the share sale as they can quickly get the control of the business and assets of the target company. Sometimes, it may be difficult to complete an asset sale, for instance when there are restrictions on the transfer of certain assets from the selling company to the buyer or burdensome third party consents needed to transfer the assets.
There are other considerations, including tax considerations, to attend to in opting for a merger instead of a stock sale and any party to a potential M&A transaction should discuss these with its legal and tax advisors.
Drafting M&A Agreements
Depending on whether an acquisition is structured as an asset sale or a share sale (or merger), there will be significant differences in the transaction documents. A substantial portion of an asset purchase agreement is used to identify the assets to be acquired and the liabilities to be assumed by the buyer. Typically, the buyer will want the asset purchase agreement to provide that the buyer disclaims any obligations other than those liabilities that are expressly assumed. If the provisions describing the acquired assets and assumed liabilities are carefully written, then the representations and warranties from the seller can be limited to focus on items that have or might impact such assets and liabilities. In addition to an asset purchase agreement, other ancillary agreements will be required to transfer the assets from the seller to the buyer. It may also include the provisions to define the responsibility of registration of ownership of the asset in the name of buyer (for certain types of asset).
In a share sale, the share purchase agreement will not focus on the assets, but the rights and liabilities relating to the acquired shares since the entire spectrum of assets and liabilities of the business will be transferred to the buyer along with the entity that is purchased. As such, typically the representations and warranties in a share purchase agreement from the seller to the buyer will be more comprehensive and broader in scope, covering all aspects of the acquired business and the historical operations of the entity. While additional ancillary agreements are required in a share sale, often fewer are needed than in an asset sale and, typically, the number of third party consents needed to complete the deal is much lower (because the acquired company remains the owner of the assets).
Deciding on the best deal structure for an M&A transaction requires evaluation of a number of factors, some of which are complex or deal specific. The determination of the optimal structure should be made as early as possible, since the decision will impact virtually all of the transaction documents. To avoid making wrong decision, it is advisable that before a potential M&A transaction, the seller or purchaser consult with lawyer and financial adviser.
Dung Le & Tran Viet Dung