Buying a Business in the US
Why is legal due diligence essential when buying a business in the US?
An individual looking to buy a business in the US needs to know that he/she is getting value for the money being paid. There are several key areas of concern that need to be reviewed by an attorney (and investigated as appropriate) to assist the Buyer in verifying what the Seller has, and is actually able to sell. Here are the typical areas of concern that legal review of a proposed transaction should evaluate.
Business Entity – Whether buying assets or shares, these are some of the important questions to address: (1) What type of business entity is the Seller? (2) If it is a corporation, what do the incorporation papers and the bylaws provide, and are they up to date? (3) Have all legally required actions been taken, and are there accurate and up-to-date records of the meetings and minutes of the corporation? (4) Who are the owners, how is their ownership represented, and how are their shares evidenced? (5) Are there equity owners with convertible interests? Similar questions would apply for partnerships, sole proprietorships, and limited liability companies.
Contracts and their status – Often some of the most important assets of a business are its various contractual rights with third parties. These could be supply contacts, banking arrangements, building or space leases, customer contracts and Intellectual Property (copyrights, trademarks, and patents), ownership rights and licenses. Additionally, there are numerous other important contracts that may affect a business’s value, such as: insurance policies, marketing contracts, service contracts and equipment leases. Analysis of the various contracts, their terms and significant conditions should be performed by an experienced attorney to establish their value.
Permits and Licenses – Businesses in the US are regulated in many different ways. A review of all licenses and permits for the continuing operation of the business should be done. Questions as to whether they are transferable, and, if so, the regulatory processes for doing same must be clearly understood and accounted for as to their effect on the timing and viability of the transaction.
Litigation – It is well known that the US is a litigious society. Past, present and potential future litigation must be reviewed not only in areas of contract disputes and personal and property claims, but also for employment and regulatory claims. This includes the review of claim histories from liability insurance carriers, workers compensation carriers, and wage and hour agencies. Even an asset purchase may not isolate the Buyer from the effects of certain types of matters. Therefore, it is important to know what exists, and how it may affect the value of the business.
Employment Matters – Just a few of the matters that should be looked at when considering employment matters are: employment retention; bonus plans; sick leave and vacation plans; accrued and unpaid benefits; wage and hour disputes; recently terminated workers.
Real Property Owned and Leased – The value of real property may depend greatly upon how it is owned and occupied. What is the physical condition of the property, the buildings or leased space? Are there environmental concerns, deferred maintenance issues or ADA compliance requirements? Are there restrictions, either private or governmental, affecting its current and future uses. If there is a lease, how long is the term, and are there landlord approvals to obtain? Does a change in the ownership of the business affect zoning use or permits? A review of property title and/or lease terms is crucial to valuing this aspect of the business to be purchased.
Financial Matters – Although not strictly legal due diligence, it is important to ensure that the Buyer is provided with essential financial data in order to arrive at a reasonable purchase price. In working with qualified certified public accountants, the attorney looks for consistency in federal and state tax reporting. Banking records should be correlated with the business’s bookkeeping records, sales and vendor accounts, and payroll and expenses. Three (3) years of tax returns are the minimum needed to determine trends and verify Seller representations. These questions need to be asked and the answers carefully considered.
Miscellaneous – Before the Buyer signs the purchase contract, have key terms been thoroughly addressed? Are the business and its assets adequately described? What documents does the Seller have to provide and when? Are there critical conditions to be satisfied? Is there sufficient time to perform all the due diligence? What are the Buyer’s rights to terminate and be refunded any deposits? Are there to be covenants not to compete? What are the remedies if the Seller does not perform or the Seller’s representations prove untrue? These and other questions and contract provisions must be addressed before the Buyer signs a binding contract to purchase.
By now, it should be clear that legal due diligence is not only necessary, but vital, when buying a business in the US. Never assume that all of the Seller’s representations are accurate or paint the whole picture of what is being offered. Retain an experienced attorney to make sure you are receiving your money’s worth.