Posted by Kris Tabetando | December 29, 2014
Every business is unique. Therefore, every merger or acquisition transaction between any 2 or more businesses will inevitably be unique. There are a myriad of ways that any M&A deal can be structured.
However, the ultimate objective is simple: To structure a deal that satisfies the objectives of the buyer and seller in a transaction.
Of course, as with every deal, there will have to be compromises made by all parties involved. No-one ever gets every single thing he desires in a transaction. The end-result should be a deal structure that all parties are satisfied with.
ASSET SALE OR STOCK SALE
In the simplest terms possible, every M&A transaction is either an asset sale or a stock sale.
An asset sale involves the sale of some or all of the assets of the seller to the buyer. A stock sale involves the sale of some or all of the stock (ownership shares) of the seller to the buyer.
A number of factors will determine whether an asset or stock sale is appropriate for the transaction. These factors include the legal, financial, tax, and strategic objectives of the buyer and seller.
There are advantages and disadvantages of asset and stock sales to both the buyer and seller. In this article, we’ll explore the advantages and disadvantages on both sides of the negotiating table.
Let’s begin by reviewing the advantages and disadvantages of an asset sale:
ADVANTAGES OF AN ASSET SALE TO THE BUYER
1. In an asset sale, the buyer can select exactly which assets of the seller he is willing to purchase. As such, if the seller owns assets that the buyer doesn’t want, the buyer can simply eliminate them from the deal. Essentially, the buyer can cherry pick the seller’s best assets.
2. In an asset sale, the buyer generally does not acquire the liabilities of the seller. The buyer may choose to assume certain liabilities of the seller, but he is not required to.
As such, the buyer’s risk is reduced because he is protected against any hidden or omitted liabilities in the seller’s business.
3. In an asset sale, off-balance sheet liabilities such as employee benefit plans are not assumed by the buyer. The seller generally continues to assume responsibility for managing or terminating the plan after the asset sale.
4. In an asset sale, the buyer can step-up the asset basis which will be used to determine the buyer’s purchase price of the assets. This means the buyer can then increase depreciation and amortization deductions of these assets.
ADVANTAGES OF AN ASSET SALE TO THE SELLER
1. In an asset sale, the primary advantage to the seller is that the seller’s corporate entity continues to exist independently. The entity may acquire other assets or use remaining assets to continue to operate.
2. In an asset sale, the seller may decide to sell certain assets and retain other assets and continue to operate the business. Like the buyer, the seller can cherry pick which assets he intends to sell and which assets he intends to keep.
DISADVANTAGES OF AN ASSET SALE TO THE BUYER
1. In an asset sale, the process can become complex if there are many assets to be included in the sale. The title to every single asset must be transferred and a new title assigned to the new owner.
2. In an asset sale, a creditor of the seller may have to approve the transfer of certain assets to the buyer.
3. In an asset sale, certain assets may not be legally transferred from a seller to a buyer. These include assets such as registered patents or certifications which may be assigned to the seller’s corporate entity or to individuals within the seller’s corporate entity.
4. In an asset sale, if the seller was facing financial problems and the assets were sold to the buyer at a deep bargain price, there’s a step down in the basis of assets.
5. In an asset sale, the buyer cannot take advantage of tax benefits in the seller’s corporate entitiy. These may include net operating losses and tax credit carry-forwards.
DISADVANTAGES OF AN ASSET SALE TO THE SELLER
1. As with the buyer, in an asset sale, the process can become complex if there are many assets to be included in the sale. The title to every single asset must be transferred and a new title assigned to the new owner. The seller may be required to pay the transfer fees.
2. In an asset sale, creditors, suppliers, and even key customer consent may be required to approve the transfer of certain assets to a new owner. This adds complexity and time to the process.
3. In an asset sale, if the seller sells most of its key assets and decides to dissolve the corporate entity, he may face double taxation.
The seller is taxed on any capital gains on each asset sold. And he is taxed again upon distributing the proceeds of the asset sales to the shareholders of the corporate entity.
4. In an asset sale, the bill of sale must be very clear and detailed. It will list every single asset being sold by the seller to the buyer.
These extra exhibits and details could add to the legal expenses in the transaction. Legal counsel preparing the agreements may spend more time and charge more fees to complete the work.
Let’s now review the advantages and disadvantages of a stock sale to the buyer and seller:
ADVANTAGES OF A STOCK SALE TO THE BUYER
1. In a stock sale, the buyer can take advantage of the tax benefits of the seller’s corporate entity. The buyer can use accumulated net operating losses and tax credit carry-forwards from the seller.
2. In a stock sale, if the seller had a recognized brand name, the buyer can use the seller’s name and benefit from any other goodwill of the seller.
3. In a stock sale, there are fewer restrictions on the transfer of assets to the buyer unlike an asset sale in which creditors, vendors, and even customers may need to approve the transfer.
4. In a stock sale, the buyer inherits key assets such as patents and certifications assigned to the seller’s corporate entity.
5. In a stock sale, the corporate entity’s identity is continued along with all legal contracts in which the corporation is party to.
ADVANTAGES OF A STOCK SALE TO THE SELLER
1. In a stock sale, there’s no issue of double taxation to the seller. The seller only pays taxes on the sale of the corporate entity’s stock.
2. In a stock sale, all the seller’s assets as well as liabilities are transferred to the buyer.
The seller doesn’t have to worry about liquidating remaining assets not acquired by the buyer. Or continuing to assume responsibility for liabilities not assumed by the buyer.
DISADVANTAGES OF A STOCK SALE TO THE BUYER
1. In a stock sale, the buyer acquires all the assets of the seller and assumes responsibility for all the liabilities of the seller. The buyer cannot cherry pick certain assets or liabilities as in the case of an asset sale.
2. In a stock sale, the buyer may assume hidden or omitted liabilities that he wasn’t made aware of during the sale process. This risk must be accounted for in an affidavit related to liabilities and in the final purchase agreement before the sale is closed.
3. In a stock sale, the buyer assumes responsibility for over-funded or under-funded employee benefit plans. Employee benefit plans can represent a significant liability to a buyer. And these liabilities are usually undervalued on a corporate balance sheet.
If the employee benefit plan is large and complex, during the legal due diligence process, a buyer should hire an actuary to study, calculate, and establish the true extent of any future liabilities to the buyer.
4. In a stock sale involving minority shareholders in the seller’s corporate entity, dissenting shareholders may choose to object to the sale terms unless their needs are met. This can complicate the sale process when a buyer must negotiate with multiple parties and their conflicting interests.
DISADVANTAGES OF A STOCK SALE TO THE SELLER
1. In a stock sale, the seller must sell all the assets of the corporate entity and usually give up control of the business. The seller cannot cherry pick which assets to sell to the buyer.
2. In a stock sale, the seller loses all his corporate tax benefits including accumulated net operating losses or credit carry-forwards.
Later, we will look at how tax minimization, business strategy, legal, and financial issues often determine whether a mergers and acquisitions deal is structured as an asset sale or as a stock sale.