Buying or selling a business

There are a number of steps that need to be worked through when you are buying or selling a business. These include:

• valuing the business
• tax advice
• sales memorandum
• purchase offers
• due diligence
• heads of terms agreement
• completing the sale.

Valuing the business

A business can be valued in a number of ways or using a combination of different methods although ultimately, reaching an agreement on price will be a matter of negotiation. Just make sure you bring in an expert to work out the value of the business. Valuation methods include:

• When a business has a record of sustainable profits it is often valued at a multiple of earnings. An estimate of normalised earnings is reached following an adjustment of projected profits for any unusual, one-off items or events.
• A business valued on the basis of cash-flow sees short-term and long-term cash flows totted up and averaged, with long-term cashflow discounted as it is considered to be worth less than cash-flow due in the near future.
• Stable businesses with significant tangible assets might be valued on the basis of its assets. This might include property or manufacturing businesses. The value of assets stated in the accounts (the net book value) is taken as the starting point and the figures refined depending on factors such as asset value changes or bad debts.
• The cost of establishing a comparable business can be used as a basis for valuation with costs taken into account including the buying of equipment, employing staff, developing products, bringing in customers, etc.

Tax

If you’re selling a business you’ll probably be liable for Capital Gains Tax (CGT). Get advice from an accountant on how to structure the deal to minimise your liabilities for CGT and make the most of the reliefs available. This could include accepting payment on a deferred basis.

You will also need to ensure that your accounts are all in order before the sale is made so you can finalise your tax affairs and submit final accounts and any other relevant forms pertaining to tax, VAT and National Insurance to HM Revenue & Customs (HMRC).

If you are buying a business it’s an idea to ask for an indemnity from the seller to cover you for any future losses such as penalties resulting from tax or VAT inspections into accounts drawn up before you took over the business.

Sales memorandum

All prospective buyers should be given a confidentiality or non-disclosure agreement which they must sign before they receive a copy of the sales memorandum. It is up to the seller to check the credit-worthiness of prospective buyers. The sales memorandum is not legally binding but it will give details of:

• the business sector
• how long the business has traded
• main financial details (profit, cashflow, asset value, total debt)
• number, age, length of service, job descriptions and salaries/ benefits of employees 
• location of premises, size, rent and rates, freehold or leasehold (with terms) special considerations (eg special licenses) 
• extent of the sale (eg if it for all or part of the business).

Purchase offers

Purchase offers should ideally be made in writing. They will be made subject to contract (i.e. not legally binding) and should include the terms for seller handover and premises takeover, e.g.: the extent of the purchase (whether premises, business, assets etc); offer price and payment terms; the information requires before a firm offer is made. The seller will compare offers and select a buyer.

Heads of Terms agreement

Once a buyer has been selected, some initial checks will be made by both sides. This is known as preliminary due diligence. Detailed due diligence comes in at a later stage – see below. If the preliminary due diligence checks are acceptable to both buyer and seller and an initial offer has been made and accepted, the firm purchase offer is negotiated. This is a document called a Heads of Terms agreement which sets out the main points of the sale. It should specify the:

• sale and what is included in it;
• price and payment structure;
• terms of the period of exclusivity to complete the sale (the buyer often offers a deposit in exchange for the seller taking the business off the market);
• preconditions for the sale (e.g. minimum level of profits or orders within a certain period).

Although some of the Heads of Terms agreement is not normally legally binding, some parts are. These include matters involving exclusivity; confidentiality; warranties; indemnities; and agreements on paying costs if the sale falls through. These issues are usually set out in separate documents and should be carefully checked. If the seller does not meet the preconditions, the sale could fall through, while if warranties are breached, the buyer can claim damages. A seller should never give false or misleading information about company shares as this is a criminal offence.

Detailed due diligence

Detailed due diligence takes place after the heads of terms agreement is signed. It involves the gathering of information about all aspects of the business by the buyer’s solicitors and accountants. What is unearthed during this due diligence process could lead to the terms of the sale being modified. Areas which will be looked at include: profit and loss statements, tax returns, any relevant leases and outstanding loans, with repayment schedules. There are three types of due diligence:

• Legal – for example, checking the business has legal title to the assets it is selling.
• Financial - checking that all is sound financially.
• Commercial - assessing the business's position in the market place.

Completion

While the due diligence process is in progress there will no doubt be ongoing negotiations between seller and buyer over the drafting of the final sale agreement, or sale purchase contract. Once agreement is reached, the sale purchase contract should be checked carefully to ensure that all agreed terms (plus amendments) are included and that all the necessary details are set out in the accompanying documentation. Most of these documents are drawn up by the buyer's solicitor and each side will receive a copy. They include:

• The sale agreement
• The tax deed
• Any other indemnity agreements
• Board meeting minutes which include an agreement for the transfer of ownership and director resignation.
• Transfer documents for leases, licences, client contracts, shares, etc
• Service agreements (for employees staying with the business).
• Finance details for the sale (including guarantees, loan or share agreements)
• Agreements for any deferred payments by the buyer
• Warranties (such as those guaranteeing the accuracy of the seller's statements during the sale process)
• The seller protection schedule for the buyer's claims against warranties
• The seller's disclosure letter and documentary evidence regarding warranties
• Non-compete agreements or covenants

On completion, the change of ownership and directors must be registered at Companies House and the seller must deregister, and the buyer register, for VAT purposes.  

Existing employees

Under the Transfer of Undertakings (Protection of Employment) Regulations 2006 (TUPE), when a business is bought or sold, the terms and conditions of the employees who transfer in the sale are preserved so their terms and conditions must remain the same. Affected employees must be kept informed and consulted by the seller and buyer throughout the sale process.