Introduction
A proposed sale by a small company of one of its significant assets raises the question:
(a) Sell the asset?
(b) Sell the company and with it the asset?
Many will be one ship, one hotel or farm companies.
Then as so many of these transactions are by companies in which the directors are also shareholders:
(a) What are the directors’ obligations to their companies, and potential creditors.
(b) Then the often separate interests as shareholders to their company, other shareholders and them personally.
With the risks of conflicts of interest.
Especially if one of the shareholders or directors is both buyer and seller personally or through a separate company.
Differing Contracts for Different Purposes or Reasons
When selling the assets, the exact law applicable will depend upon the asset being sold. But it will be a sale so a Contract of Sale, Memorandum of Sale or Agreement.
When selling the company, a Share Purchase Agreement. There are hybrids where:
(a) one of the shareholders is in fact a trust,
(b) where a part share or purchase is proposed either of the asset or the company
(c) there is to be a seller’s loan
(d) one of the parties in the selling company proposes to buy the asset from the selling company and using the asset start afresh.
Under a Contract or Memorandum of Sale, the seller may often want to carry on in the business but not with the sold asset. It could be his old boat, tractor, pub or hotel which for him has reached its time for sale. For the buyer he may prefer the asset without baggage through a simple purchase of the asset.
Under a Share Purchase, anticipating the sale is by Limited Company and so it has its legal personality, then you are buying the shares of the company which owns the asset. With it, unless you make it clear, the historic risks and liabilities affecting the company and its assets.
A buyer might prefer to cherry pick the chosen asset without additional debt or liability. Some might see benefit in taking the company perhaps with a term under which the selling company pays from the price some of its liabilities. The purchaser otherwise gaining access and use of the brand name, with good human resources, license’s or even accrued losses which can be set off against profits.
Whatever, there is one golden rule. The courts job is to interpret and apply the deal agreed between the parties not a better deal than the one made. The legal rule on mistake is a very dangerous area of law to try to seek help under.
The Varied Applicable Law
An asset sale or purchase is like any other sale or purchase, so for land the Law of Property Acts, other assets the Sale of Goods or Sale of Goods and Services Act.
With a sale of shares a sensible buyer will need to check the assets just as if they were being sold. The transfer of shares introduces the Companies Acts of 2006(“CA”) and the Corporation Tax Acts (“CTA”) of 2000 and 2010. Also considering the Insolvency Act.
Just as you may look deeper, so with property the Land Registration Acts or with a boat the Merchant Shipping Acts 1995 the platform will vary, but the search may be in a different way but the same.
The Corporate Disposal
Each Corporate disposal will by its nature bespoke. Most though through the process below. The time frame can be very different. It will usually consist of 7 steps:
(1) The parties agreeing and understanding the Deals Structure in principle.
(2) Moving on to the signing up of “confidentiality and/or exclusivity agreement” .The first for the benefit of the seller, usually the second for the intended buyer.
(3) Due Diligence (see below). Increasingly not just by buyer to check the purchase but seller to ensure payment and other terms.
(4) Negotiating and ultimate signing of the agreed documents (see below).
(5) Final checks, searches, resignations and appointments.
(6) Completion,then
(7) Post-Completionwork.
Due Diligence and Misrepresentations
Whichever route taken the common law is “Buyer Beware” The buyer must undertake “Due Diligence” or risk it. The Misrepresentation Act 1967 (or its exclusion by contract), alongside claims of Collateral Warranty may apply depending upon who made any misrepresentation/warranty on behalf of who. The company cannot talk, save through its shareholders or directors if properly authorized. Whilst a personal shareholder selling his shares is a different person. If there has been a misdescription causing loss, then who by and who can rely on the breach? Contract (Rights of Third Parties) Act 1999.
“Entire Agreement” clauses are increasingly common in Contracts, one attempt being to restrict the Contract to that which exists within the Contract signed whether that is the sale of the asset or the shares in the holding company.
Licenses, Contracts and Associations
Part of due diligence needs to extend to appraisal or examination of the licenses, main contracts, associations memberships needed, or leases used by the company to operate or use the asset. Many businesses operate under licenses. Many specifically applicable to the assets the buyer is looking to own. Their terms will not be set out in the accounts. Many customers may only want to deal with the existing directors and no one else. A sale of the company and change of directors is often with licenses, memberships of trade organisations. Change of controlling ownership is often a trigger point bringing one agreement to an end with no guarantee another will follow for the company. That will affect valuation, lending and anticipated profit. In short, the “drop dead” term.
A fishing boat needs a license. Points on that license may trigger a revocation. That boat may need quota to operate profitability. If not part of the deal and held by the company the viability of the company becomes questionable if not to the buyer, then certainly the lender. The Fish Producer’s Terms of membership will usually have a change of director trigger point. As will many secured or unsecured loans and debentures. The effect obvious. Similar will apply with a hotel.
Directors and Shareholders
Few people in business are deliberately dishonest. When challenged common responses are “it just never occurred to me”, “I did not understand” or “I never saw it”.
The Companies Act 2006 was largely a codifying Act. In short, on both sides there are duties and obligations to be respected and observed. In summary:
Sections 170-177 summarise and list the directors’ duties and who will be regarded as a director and to who those duties are owed to.
Section 171 requires directors to act within powers as directed by the constitution defined at Section 257.
Section 172(1) provides directors “must” exercise those duties in a way to promote the company. So, for a seller the reason for selling, the price and when. If this is to be an asset disposal.
Section 190(1) then the following sections 192 to 194, apply to “Substantial Property Transactions” (so selling the biggest asset in value or profit out of the company or buying in).
Section 252 relating back to 191-194 require thought and compliance where there is a sale to a “connected person”.
A risk of non-compliance may be to make the resolution to sell or purchase and the terms voidable.
With the sole director company there is an immediate check of the Articles of Association to check it allows a sole director to sell. If not changes must be made. Regulation 14 Model Articles, section 190 Companies Act 2006
If a sale of assets a check that those selling have the power to sell through the company at the price. A check that the sellers understand their Fiduciary Obligations under the Companies Act
Loans, quasi-loans, mortgages and credit transactions
The sale of a company’s substantial asset may well involve an asset covered by a Debenture. That may require the holder to release or confirm payment to the company will not be challenged and so a Subordination Deed before any money is paid.
Some assets are potentially unprofitable without licenses (with a boat quota on top). They might be held by the company or being borrowed or controlled separately.
Where there is a sale by a company to one of its existing shareholders, then a further level of internal company arrangement approved by a Board and undefeatable under the Insolvency Act need to be done.
Either on an asset sale or purchase or the purchase of the company, there will be the question of debts and repayment and the trigger event a sale produces.
There will in most small companies be Directors Loan Accounts the amount in which and method of repayment will on a purchase of the company need to be negotiated and agreed. Often without them the company would not have been able to trade.
A buyer of a company must recognise he is buying potential risk and obligations at common law and under the CA.
The purchase is two-fold:
(a) the company which enables his acquisition of
(b) the asset.
Employees
There is an issue of Transfer of Undertakings (Protection of Employment) Regulations 2006 (“TUPE”). The very seller of the company might be director with an employment contract and rights. Conversely, those employees might be regarded as true “human resources” desperate to the purchase and provision needs to be made.
These will include, unless careful on a company sale, the very directors selling.
Warranties
Most buyers will be looking for warranties to be safe. Whether with Contract of sale or a purchase of shares.
Different sales and purchases justify differing warranties. Usually they will be split between:
(a) general warranties over the shares, information about the company, insurance, compliance by the company for a sale, confirmation there are no disputes or impediments to the sale, the shares can be sold at the agreed price and finance guarantees etc.
(b) tax warranties
(c) specific warranties to the particular transaction, such as licenses needed, intellectual property rights, title to the assets, employees contract determined, this to be extended, continuing contracts.
Limitations
If a selling shareholder is granting warranties, it would be common to limit the extent or value of risk. Often to the value of the price to be paid. The secondary issue, if that term will be full and final or leaves the buyer to choose that or any separate common law rights on top.
Tax
When buying an asset from the company you pay your money to the company. It then must pay any tax and declare the sale. Then the company directs in dividend payment what is left to the relevant shareholders.
In contrast, if you are buying the company the shareholders are selling their shares at a price. The tax treatment will depend upon the shareholder’s personal tax permission. With a large asset such as the hotel or the fishing boat that might trigger CGT and entrepreneurs’ relief. Whatever, it is neither the holding company nor the buyer’s concern.
The buyer must consider though ensuring the current directors’ loans and investments are paid out. The debenture holders (often banks and private lenders) are paid out from the purchase price together with other specific liabilities or have that risk valued and reflected in the price paid up to the £1 purchase.
Scoping
Each potential transaction tends to be bespoke to the deal, dependent on market forces and tax. The above is itself just a starting point and offered on that basis.
Contact at
David Hassall LLM, MSc (Distinction).
If we can help, please email [email protected] or call 01548 854878
21.3.23.