An Insider’s Guide: What You Need to Know When Purchasing a Business Asset

Buying or selling a business is a complex process that demands careful consideration. One of the pivotal decisions in this endeavor is choosing between a share purchase or an asset purchase structure. Opting for an asset purchase in a business transaction grants buyers the flexibility to choose specific assets and liabilities. Anything not explicitly acquired remains with the seller. 

Although every transaction comes with its distinct intricacies, this article will give you an overview of the essential elements you need to understand when acquiring the assets of a Canadian business. These crucial considerations can shape the evolutions of your business acquisition.

First Things First – State Your Intentions

Initially, the parties involved will typically start the process with a letter of intent (an “LOI”) which outlines the key ‎terms and parameters of the transaction. An LOI will typically address crucial aspects like the type of transaction, the purchase price, the assets to be purchased and the timeline for closing. It ‎is essential that this is accurate since it acts as a framework for drafting the definitive asset purchase agreement. Even though it’s not entirely legally binding, an LOI can specify that certain provisions are binding. As the purchaser, you should include a binding exclusivity provision so the seller doesn’t entertain alternate bids throughout your discussions.

Be Sure To Do A Background Check

The buyer’s due diligence involves using specialists in business, IT, human resources, real estate, finance, tax, and law to assess the target business thoroughly before moving forward with any official purchase. Legal due diligence focuses on reviewing corporate documents, contracts, licenses, permits, and intellectual property related to the target business. If the seller is a corporate entity, legal approvals may be necessary, such as shareholder consent for the sale of assets. The buyer must also examine the seller’s minute book to ensure proper shareholder consent and that they have been keeping clean records. 

During the purchase, assuming essential contracts for the target business is common, but careful review is needed, as third-party consent may be required. This process can be time-consuming, especially if negotiations are involved. Certain searches, including public records, are crucial to uncover information on the seller and purchased assets, such as security registrations and litigation. Addressing any registrations or litigation is necessary before closing as it’s important to know the full history of what you are buying.

Make Sure The Price Is Right and Negotiate Until It Is

When you’re considering your offer on a business, you need to be certain that it’s a fair price. After evaluating the company’s assets, your offer may need to be revised. One common purchase price adjustment can be made through something called a working capital adjustment. This means looking at the current assets (like money and inventory) and subtracting the current liabilities (like debts) of the things you’re buying. It helps make sure the buyer has enough money to run the business after everything is finalized which is a key indicator as to whether the business you are looking at buying will be a profitable one or not.

Don’t Forget To Allow For Taxes

When buying all the assets of a business, you usually have to pay GST/HST at closing, but the purchaser and seller often agree to make a joint election under section 167 of the Excise Tax Act to have no GST/HST payable on the sale. As the buyer, you can benefit from this type of purchase because you can use the purchase price as your cost base for tax purposes. However, it’s important to note that there may be additional taxes like sales tax and land transfer tax in the event that real estate involved which. You may also be allowed to deduct accounts receivable that are unlikely to be collected so be sure to carefully review all of these details before finalizing your contract.

Understanding The Asset Purchase Agreement

There are three parts to an asset purchase agreement: parties, property, and purchase price.

Parties: Identifying the correct parties is crucial, especially in businesses with complex corporate structures where assets and liabilities are held by different entities. If the selling party is a corporation with no ongoing business, adding the principal as a party may be necessary for reasons like personal representations, restrictive covenants, and direct obligation under indemnification provisions.

Property: It’s important to clearly define the assets to be purchased and liabilities to be assumed. This is typically detailed in a schedule attached to the APA (asset purchase agreement), including a list of excluded assets, and, as the buyer, you should carefully review this list to assess any potential impact on post-closing business operations.

Purchase Price: When determining the purchase price, attention should be given to both the amount and the payment method. The purchase price can be in cash, shares, other property, or a combination, with timing adjustments, like an upfront payment and deferred balance with a promissory note, often reflecting the parties’ circumstances and requiring a registered security interest in Ontario.

Make Sure It’s Guaranteed

Representations and warranties in a deal are like the promises the seller makes about themselves and the stuff you’re buying. As a buyer, you want assurance that the seller really owns what they’re selling, that it’s in good shape, and there are no legal issues. The number of these promises in a deal can vary, and there’s a timeframe (usually 12 to 24 months) for claiming a problem after the deal if you do find something that’s not quite right. Some promises, especially about crucial things like ownership, might last indefinitely or until a legal time limit runs out.

Know What Happens To The Employees

In simple terms, when a business is bought (an asset purchase), the new owner doesn’t automatically have to keep the existing non-unionized employees, unlike when buying the company’s shares. The buyer needs to thoroughly check the employment situation in the business they’re buying and decide which employees, if any, they want to keep. 

New employment agreements may be needed, and the seller might still be responsible for employees not hired by the new owner. If the business being sold has unionized employees, the new owner becomes the employer and must follow any existing union agreements. It’s essential to get legal advice as employment laws differ, and there are many factors to consider throughout the process.

What To Do When Things Aren’t As Promised

If the promises made about the business turn out to be false during a certain period, the affected party can ask for compensation through an indemnification claim. This is a standard way to make sure one party compensates the other if they break any promises in the deal. The buyer should customize these provisions based on their concerns, like asking for compensation if there are issues with things excluded from the deal. 

Additionally, the buyer might want to check if the seller has enough money to cover potential compensation claims, and they could hold a portion of the payment in case certain conditions aren’t met. Another option is to offset any due payments against damages caused by broken promises or other issues.

Make Sure To Take Advantage of Legal Advice

While this guide offers insights into the fundamentals of buying and selling a company, it’s crucial to seek legal advice at every step of the process. If you’re gearing up for an acquisition, give Hukam Law a call 📞 at 705-915-0884 or send us an email at info@hukamlaw.ca and we’ll help you through the process from start to finish.

***The information provided in this blog is for general informational purposes only and should not be construed as legal advice. If you have legal questions, we strongly advise you to contact us.