Asset Purchase Agreement

How To Use

This review list is provided to inform you about the document in question and assist you in its preparation.  Because of the complexity of this type of agreement, we have included an additional checklist applicable to buying businesses. Since this is a major purchase, you need to have an attorney review the paperwork for various issues that may arise.

  • This agreement should be used only when the assets of an ongoing business will be purchased. In other words, it should not be used for a direct stock purchase. The purpose of this kind of agreement, as opposed to a stock purchase, is to avoid responsibility for the ongoing responsibilities associated with the seller’s corporation such as lawsuits, unknown liabilities or potential liabilities, accounts receivable, and other possible negative issues. A bulk transfer or asset purchase never can fully isolate you from these issues. But, they can provide substantial help to avoid these unforeseen liabilities.
  • The Asset Purchase Agreement form contemplates that the buyer will purchase all of the assets used in the seller’s business, but will not acquire things like cash and accounts receivable. The form provides that the buyer will acquire the seller’s trade names and telephone numbers.  However, cash and accounts receivable can be included and often are. This is a discretionary item of the parties.
  • After signing the agreement, both the buyer and seller must do significant work to prepare for closing. Buyer makes sure the funds for the purchase are in place and must use “due diligence” to investigate the seller’s business and make sure that the assets are appropriate for purchase. The seller must accommodate buyer’s investigation and make sure that clear title to assets can be conveyed. Review the agreement carefully and also see Buying a Business Checklist.
  • Print multiple copies of the agreement so all of the related parties can have a copy as required. The buyer will certainly need a few for future business dealings.

Buying a Business Checklist

This checklist is provided to help you complete the transaction.

  1. No signatures are required; this is for your internal use.
  2. Print the checklist and keep it with your other important documents related to your transaction.
  3. Take the Buying a Business Checklist with you to closing in case you need to refer to it as needed.

Finding and Evaluating an Acquisition Candidate

1. Research.

If you have not identified a business to purchase, this is the most important part of the process.  The following are possible sources of information about businesses that may be for sale:

(a) Classified advertisements. Check out business publications and trade publications in industries of interest.

(b) Bankers, lawyers, and accountants. These and other professional advisors will have clients or customers who are interested in selling their business.

(c) Industry sources. If you have identified an industry in which you would like to purchase, check with trade associations and other groups where members of the industry come together.

(d) Business Brokers. There are many reputable business brokers. Investigate the reputation of a broker before you make contact. Remember that these entities usually work on a commission paid by the seller from the proceeds of the sale. Consequently, some brokers are primarily motivated to complete a sale at the highest possible price, regardless of whether the transaction makes sense for the buyer.

(e) Internet. Many sites are available with information about businesses for sale. Many are run by brokers promoting their inventory of businesses or listing services that accept a fee from the seller for the listing.

(f) Vendors and Suppliers. Many companies in the business of selling goods and services to other businesses hear about companies that are for sale. Develop contacts with those that supply to the industry in which you are interested in.

2. Evaluation.

Once you have identified a suitable candidate, contact the owner or broker representing the owner, to make an initial inquiry. The request for a non-disclosure agreement at this point is a reasonable request. We have such a form in our Legal Guide. Owners usually are concerned about their employees’ reaction to a sale. So do not discuss the purpose of your contacts with the owner until authorized to do so. Consider asking for financial records, including tax returns, market and sale plans, projections and important contracts. Involve your professional advisors as needed to review these items.

The owner may not agree to share some or all of these until satisfied that you are a legitimate prospect to purchase and negotiations have progressed. It is important for both parties to be realistic about valuing the business. Consider assistance from an appraiser, accountant, banker or other knowledgeable advisors. Don’t make the mistake many buyers do: Appraising the value should be based on assets or earnings, but not both.  Buying the assets enables you to acquire the “engine” for future earnings. Don’t “double-count” through a valuation that includes both assets and earnings components.

Offer and Contract Negotiations

1. Offer

Your offer may be a final one or an informal one.  “Informal”, means the price and other terms are generally agreed to, subject to completing a final, binding purchase agreement. If this is your choice, be sure that any offer letter (often called a “letter of intent”) includes language that makes clear the offer is not binding until a final contract is signed, for example: “This letter expresses the intent to complete a transaction as outlined herein, but no binding commitment shall be made by either party until a final, written agreement is signed by both parties”.

Ask the seller to confirm his or her intent to sell according to your proposal in writing by signing an acknowledgment on the both of your letter of intent. If financing is necessary, the seller may make the deal contingent on specifying necessary financing. Consider obtaining some financing through the seller; this is usually possible and the terms are the most favorable in this instance. Will seller or any of its principals be asked to stay on as a consultant to help in the transition? If so, that needs to be written up in the exhibit so identified in the agreement.

2. Negotiation

When the binding or non-binding informal offer is accepted, it is customary (though not universal) for the buyer to prepare a draft agreement such as this one. Make sure your attorney reviews any agreement before you send it to the other party for negotiation. Allocation of the purchase price among the items to be purchased is a matter of negotiation. The IRS will normally accept an allocation made in arms-length dealings, but retain records to support the final allocation. Buyer is often most concerned about allocation to maximize tax deductions for expenses and depreciation through an asset purchase. Tax consequences are usually an important consideration in any sale or purchase for both parties. These are a few areas to investigate:

Internal Revenue Section 453 allows “non-dealer” sellers to use this deferral method to spread out tax payments due on gains from the sale. It cannot be used for sales of inventory. At least one payment must be received after the close of the taxable year in which the disposition occurs. If the buyer will not operate as a sole proprietor, buyer must determine what kind of entity may need to be created to own the business: Partnership, Corporation (including “S — Corporation”), or Limited Liability Company.

The seller should also consider tax strategies. For example, for corporate sellers, the tax code provides that shareholders may get some tax relief through a complete liquidation following a sale of assets. See Internal Revenue Code sections 331 and 337. If a corporate seller has significant operating losses, a buyer may prefer a stock purchase. This enables the new owner to take over the existing corporation and, when profitable, shelter income with the old losses. Determine if carry back or carry forward credits are available. Discuss this with an accountant or lawyer.

After Contract Signed

After the contract is signed, the buyer must complete his or her due diligence to ensure that the purchase can be completed as planned and that there will be no problems after ownership changes hands.

Buyers should carefully check the condition of the assets to be purchased. Consider building and termite inspections, and equipment tests and other reviews of physical assets. Also, talk to vendors, service personnel and others to verify any seller claims, as well as to customers and potential customers.

Buyers should carefully review and review financial statements and tax returns with their accountants. If audited statements are available, obtain them. Determine if items in the tax return look suspect, which might give rise to penalties for fraud or negligence. Ascertain if the seller has been under audit or if seller currently is undergoing one. Pinpoint any substantial changes occurring between the date of execution of the purchase contract and closing, or since the date of the latest financial statements.

Address any concerns about the seller’s creditors. This means the buyer must get a list of creditors of the seller and make sure all will be paid before closing. If they will not be paid, the buyer must make sure there will be no liability to the seller’s creditors after closing. Buyer should consult an attorney for assistance here.

The seller should furnish the buyer with a tax clearance report for state taxes. Be sure to consider all states where taxes should be collected and paid.

Buyer should obtain written approval from the landlord, if possible, and if the seller’s lease of the business premises will be assigned. Determine if the lease or leases are in default and proper renewal options have been exercised.  Consider transfer or another handling of security deposits, and account for them in the agreement.

Will seller’s accounts receivable be assigned to the buyer?  If so, investigate these accounts. Are they collectible?  Are any subject to dispute or set-offs? How old are they?  And so on and so on. Usually, a discount is given to ensure fairness or a holdback is made by Buyer and later settlement date is established.

Are customer lists current and accurate? Buyers should talk to customers, at least key ones. Determine whether the business is dependent on a few customers? Are they related to the seller? Can customers be expected to continue to do business with the buyer?

Is the seller’s relationship with suppliers good? Will they continue to extend credit on the same terms to the buyer? Ask them.

Make sure all necessary licenses, permits, and governmental approvals can be transferred. If they can’t be transferred, will new ones be granted?

Check and review miscellaneous contracts for terms and to ensure they are still in force. Can these be assigned without the other party’s permission? Also review (if any) with your lawyer:

  • Employment Contracts with key employees
  • Pension/Profit-Sharing Plans
  • Labor contracts
  • Franchise agreements
  • Stock purchase agreements
  • Contracts with customers or suppliers

Are there any laws or regulations pertaining to the particular business? Will zoning be affected by the sale?  Is property threatened by condemnation?

Check any copyrights, trademarks, and patents that will be acquired for validity, infringing uses, and expiration.

Did the seller maintain adequate insurance to cover any potential claims? Buyer should be certain to have insurance in full force at closing.

The agreement should specify which liabilities (if any) are to be assumed by the buyer, and which ones will remain the seller’s responsibility.

Current Liabilities and Debts – Obtain verified information about each.

Pending Claims/Contingent Liabilities – Obtain a letter from seller’s attorney verifying litigation and claims.  Carefully review and account for these.

Are there any outstanding unsatisfied judgments against the seller? A significant number of judgments should make the buyer wary. Make provision for how claims and judgments will be handled.

Check for liens on seller’s property with the Secretary of State and Recorder of Deeds in the county in which seller’s property is located. Use form UCC-1 1 Request for Information. If real estate will be purchased, the title insurance company will check for liens on real estate. Be certain to have liens released.

Check with Recorder of Deeds in seller’s county for any income tax liens. Beware of an unrecorded lien for estate taxes if the seller in an estate. If such is the case, obtain an estate tax closing letter, if possible.

Are bankruptcy proceedings pending against the business or its principals? If so, your concern is obvious and you should seriously question whether to enter into the agreement until those matters are finalized.

Buyer should obtain a variety of tax numbers and registrations: Federal ID (available in this CD), state sales tax number, withholding, and unemployment taxes are primary concerns. If employees are involved, using a payroll service such as ADP is advised for accounting, tax payment, and general compliance purposes. The Seller may already have such a service. If not, get one.

At Closing

Closing is the event where the business changes hands as provided for in the agreement. This means that the seller and buyer must each be sure that each and every obligation of the other has been properly completed beforehand. If the Buyer receives a Non-Competition Agreement from one or more of seller’s principals, it must be reasonable as to time and geographical location in order to be enforceable. Buyer will often want the seller to be subject to such a covenant.

If a broker is involved, the commission will be due. Be certain it is paid or addressed otherwise.

Review the bill of sale to transfer personal property, and be certain that all items are included and clearly identified. Items transferred by bill of sale may include inventory, machinery, equipment, office furniture, supplies, and goodwill.

A General Warranty Deed for real estate purchased should be executed and recorded to transfer realty. Obtain the owner’s title policy for the buyer. The seller should consider obtaining mortgagee’s policy if the seller is financing any part of the real estate. If the buyer will assume the existing lease, make sure all necessary consents are in place.

If motor vehicles are purchased, make sure titles are transferred to the buyer. Corporate officers and spouses should guarantee all warranties, representations, and covenants in the contract. This is not always possible to obtain but Seller should request it and consider a lower priced offer if not getting them.

If the seller finances any part of the transaction, the buyer and spouse may be required to personally guarantee payment, especially if another security is not adequate.

The seller should be sure to perfect the lien on the property if seller financing is involved. This is done by filing a UCC form I Financing Statement with your local and state authorities.

Obtain necessary formal shareholder approval and director approval of corporation or approval of partners if a partnership or joint venture is a seller if substantially all assets are being sold. The seller should also obtain certified copies of proper resolutions of the buyer.

Buyer should carefully review the corporate records, and pay particular attention to:

  • Articles of Incorporation
  • Minutes
  • By-laws
  • Stock Certificates

Both buyer and seller (if incorporated) should have a certificate of good standing for the other party available. These should be requested from the appropriate state office approximately one to two weeks prior to closing.

If closing is in escrow, prepare detailed escrow agreement with clear instructions. Provide for payment of escrow fee.

Seller may insist on cashier’s or certified check for funds to be paid by buyer at closing. Buyer should try to have a portion of price retained (or financed) to provide offset protection for possible claims. Buyer should consider withholding sufficient amount to cover sales taxes (and interest and penalties) which may be due from the seller until seller produces a receipt for payment of Department of Revenue.

Go through the entire contract, including Exhibits, and be certain that everything has been completed.

After Closing

After the agreement is closed and ownership has officially changed hands, a few “clean-up” tasks remain for both parties. The corporate seller should change its corporate name and relinquish any fictitious name registrations if assets are purchased. Similarly, the buyer should register its name with Secretary of State as a fictitious name, if necessary. Transfer gas, electric, telephones, and other services. Obtain the necessary keys and change all the locks as soon as practical. Seller may be required to file final tax returns. The seller must usually file final sales tax returns within a specified time limit following termination of business.