If you're having serious conversations with sellers, you should have in the back of your mind what type of transaction you'd like to structure it as.
Deals get sticky in practice when you want to change the structure of the agreement at the end of due diligence.
So when we level set the acquisition, you need to understand the key differences between an asset sale and a stock purchase.
An asset sale, rather than buying an entire entity or a specific business, you are really just buying the assets of the company and then you're transferring them over into a new entity.
If I was pursuing an asset acquisition of company A, I would effectively buy all of the assets of company A and transfer them to my name as the buyer and then I would put these assets very likely in a new entity that's created.
You establish an entity. You may own 100% of that entity. Then you transfer over these assets and liabilities you just purchased with your consideration and you place it underneath this corporation.
Some of the advantages of asset sales include favorable tax treatments.
Buyers get a step up tax to claim higher depreciation and amortization of the assets purchased.
This step up basis for the assets purchased can be quite different than the current basis used in the case of a stock sale.
You are leaving a significant depreciation expense that you're unable to take in a stock sale.
It can protect some liability risk because you're simply purchasing the assets of the company and not the entity itself.
In the case of an asset sale, you're just buying the assets of the company. You very likely would not be exposed to undisclosed or unforeseen liabilities given they exist with the old entity.
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The buyer transfers cash to the target company and in exchange the assets and liabilities are transferred to the corporation owned by the buyer.
The charter company dissolves and transfers the cash to creditors with the remaining amount to shareholders.
The buyer now takes over the assets and liabilities.
A stock purchase does exactly what it says.
The buyer agrees to buy the target company's stock in exchange for consideration.
The entity is going to exist going forward.
From an operational standpoint nothing changes other than the change of stock ownership.
It is often the easiest type of transaction to execute.
There is far less paperwork to complete a stock sale than an asset sale.
An asset sale requires the establishment of a new entity and the transferring.
A stock sale is quite cleaner and easier to execute from a paperwork standpoint.
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A stock purchase is generally a better tax result for sellers because they aren't subject to double tax.
A gain recognized in the transaction would normally be capitalized for federal tax purposes, but they're not also taxed again at a personal level.
It allows for a buyer advantage because buyers can usually continue the business of the target company with relative ease.
You don't need consent from third parties.
There should be little to no third party consent required for the sale to execute.
In a stock sale, you may be exposed to undisclosed or unforeseen liabilities of the target company.
Given the entity has not changed, those liabilities continue forward.
There may be shareholder holdouts and approvals.
There may be less favorable tax treatment from a buyer standpoint.
Stock sales are often favorable to sellers.
Don't be surprised when you talk to brokers who are pushing for the stock sale because they know the implications of some of those tax benefits the seller can realize.
In an asset sale buyers get a step up tax to claim higher depreciation and amortization.
In a stock sale buyers cannot step up the assets.
If you're pursuing a business which is asset heavy or has a significant balance sheet, I recommend conducting an analysis which shows your net benefit if you conduct an asset sale or you conduct a stock sale.
Your perceived enterprise value should be the same amount of money if it's an asset sale or a stock sale.
The total dollar amount delivered or consideration you give will change based on the type of structure you choose.
If the seller wants to do a stock sale, your perceived enterprise value should be slightly less because you are not getting that favorable tax treatment.
Contracts and licenses may require you to renegotiate or rebid on certain contracts with customers in the case of an asset sale.
If you're buying a government contracting company or a company that works heavily with municipalities, typically these contracts are tied to the entity.
In an asset sale, that entity is going to no longer exist.
You would have to rebid on the same contracts.
There lies a risk that you may not win the same work again.
The best practice is you need to read the contracts and understand what they mean from an operational standpoint and a legal standpoint and then choose accordingly.
I've also seen stock sales with heavy municipal contracts.
If you're a landscaping company or a construction company and you work with hospitals or other governmentowned entities, that work may be based on some contract which renews every year tied to that entity.
The buyer will elect to do a stock sale because the entity will remain intact.
There is not a one size fits all.
In a 338H10 election, the buyer purchases the target stock.
Although it's treated as a stock acquisition, in the eyes of the tax man, it's treated as an asset acquisition.
The buyer receives the tax benefits of an asset step up.
The seller will only be subject to the single capital gain tax.
There are stipulations you must meet in order to be eligible.
The sellers must be either a US corporate subsidiary of a parent company or an S corporation.
The buyer must be a corporation making a QSB of at least 80% of the total stock.
If you're buying an LLC, you don't qualify.
If you're going the route of the SBA, it gets even stickier.
There is a lot of paperwork and other criteria you need to meet.
It often starts with a signed LOI.
It's best practice to kick off a financial due diligence provider and project right away.
You're submitting a LOI based on compiled numbers in a SIM or a slide deck, but none of it is verified.
It is very important you conduct your own due diligence and run those reports in the accounting system to do a quick verification that there aren't material discrepancies.
This is a typical 90 day period of due diligence.
Days 1 through 30, 30 through 60, and 60 through 90 to get you to the closing table and sign that purchase agreement.
If you're a buyer, you will want an asset sale so you can get the benefit of that depreciation expense.
If you're a seller, stock sales are often favorable.
You should have in the back of your mind what type of transaction you'd like to structure.
I have seen deals die over the structure.
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