SELLING YOUR BUSINESS - BE MINDFUL OF DEAL STRUCTURE AND PURCHASE PRICE ALLOCATION TO KEEP MORE MONEY IN YOUR POCKET

Jun 12, 2023

By: Daniel J. Fetter, Esq.



You accepted an offer to sell your business. The buyer has proposed to purchase your company's assets. You are thrilled with the value the buyer has placed on the business and don't pay attention to the transaction structure, i.e., asset vs. stock. As the closing approaches, you begin to discuss how the purchase price will be allocated among those assets sold and suddenly you realize the purchase price was deceiving. 


Deal Structure: Asset vs. Stock Sales


For tax (and non-tax) reasons buyers typically prefer an asset purchase while sellers prefer to sell their stock in the target company.  


Asset Sale


The purchase price allocation is the process in which the buyer and seller assign a value to the assets to be sold. This determines: (1) seller’s income tax liability; (2) buyer’s tax basis in the acquired assets; and (3) how quick the buyer can depreciate or amortize those assets to recognize future income tax savings. Generally speaking, what is good for the seller is bad for the buyer, and vice versa. 



Seller's gain on the sale of assets will result in a combination of capital gains tax rates (up to 20% federal) and ordinary income tax rates (up to 37% federal). In order to keep the tax bill low, seller will prefer to allocate more of the purchase price to goodwill and other intangible property taxed at the lower capital gains rate, which subjects buyer to a 15-year amortization period.


Buyer will prefer to allocate the purchase price among those assets which can be depreciated in the short-term (e.g., vehicles and equipment), which subjects seller to ordinary income tax rates. 

 

An asset sale is the more common deal structure, and if the buyer insists on purchasing assets over stock, then seller may have leverage to negotiate an increased purchase price to account for the higher tax bill.  


Stock Sale 


If selling stock of the target company only, no purchase price allocation is needed. Seller’s gain on the sale of stock is taxed at the capital gains tax rate. Buyer loses the ability to step up the tax basis in the acquired assets and assumes the target company's depreciation history. If the company's assets are fully depreciated, buyer receives no future tax savings.


Be mindful of the deal structure and do not wait until the 11th hour to negotiate the purchase price allocation. 


This article is intended to be for informational and discussion purposes only and is not to be construed as legal advice or as a legal opinion on which certain actions should or should not be taken.

SMB M&A SERIES: What Is A Letter of Intent?

26 Jun, 2024
By: Daniel J. Fetter, Esq. The SMB M&A series provides insights into buying and selling a small business. If buying or selling a business, you may have heard of a "Letter of Intent" or "LOI". What is it and why is it important? The LOI is a non-binding offer that allows the parties to agree at a high level on certain key terms and conditions of a proposed deal. Starting with an LOI can make the deal process more efficient as it creates a roadmap when drafting and negotiating the definitive agreements. The LOI typically includes the following terms/conditions: Transaction Structure . In most cases, the LOI will specify the transaction structure – whether the buyer is acquiring the stock or assets or some other type of arrangement. Purchase Price and Method of Payment . It sets forth the purchase price or how the purchase price will be determined, including any post-closing price adjustments or working capital calculations. The LOI will also address how the purchase price will be paid (cash, seller financing, debt assumption, equity, etc.). Due Diligence . The LOI will outline the time period for the Buyer to conduct its due diligence investigation (typically 30-90 days after signing the LOI) and the limitations around that investigation (e.g., when the Buyer can contact employees and customers). The due diligence investigation will allow the Buyer to inspect the business from a financial, legal and tax standpoint. Conditions . It may include certain conditions that must be met for the parties to proceed with the transaction, including Buyer obtaining financing and/or any necessary government or third-party approvals. Exclusivity . The LOI will typically include an "exclusivity" or "no shop" clause that prohibits the Seller from entertaining other offers from prospective buyers for a period of time. Generally speaking, the LOI is non-binding and cannot force a buyer or seller to proceed with the transaction. With that said, however, there are certain provisions which create binding obligations on the parties, including: (a) each party will cover their own expenses in pursuit of the transaction; (b) the governing law applied to the LOI; (c) the confidential nature of the proposed transaction; and most importantly (d) the exclusivity clause discussed above. The Scolaro Law Firm handles small business M&A transactions throughout New York State, Vermont, Pennsylvania and Florida. If you are interested in buying/selling a business, please contact Daniel Fetter or the attorney at our firm with whom you work. This article is intended to be for informational and discussion purposes only and is not to be construed as legal advice or as a legal opinion on which certain actions should or should not be taken.

SMB M&A SERIES: Before Disclosing Confidential Information. . .

24 Jun, 2024
By: Daniel J. Fetter, Esq. The SMB M&A series provides insights into buying and selling a small business. When preparing to sell your business, make sure you require any potential buyer to sign a Non-Disclosure Agreement ("NDA") before disclosing any confidential information. An NDA protects sensitive information like financial records, customer information, intellectual property and other proprietary information (including that you are in discussions to sell your business) from unauthorized disclosure. By requiring potential buyers to sign NDAs, you maintain confidentiality throughout the sale process and preserve the value of your business. In the event of a breach, the disclosing party may be entitled to monetary damages or injunctive relief to prevent further disclosure. In addition to the NDA, Sellers should take other precautions to avoid disclosure of Confidential Information, including: Limit disclosure only to those individuals who need to know for purposes of pursuing the transaction; Wait to disclose your most sensitive information (e.g., customer list) until you have more assurance that the deal will close; Use data rooms to share information rather than sending documentation by mail/email. This also allows users to track who viewed the information. The Scolaro Law Firm handles small business M&A transactions throughout New York State, Vermont, Pennsylvania and Florida. If you are interested in buying/selling a business, please contact Daniel Fetter or the attorney at our firm with whom you work. This article is intended to be for informational and discussion purposes only and is not to be construed as legal advice or as a legal opinion on which certain actions should or should not be taken.
Share by: