Attorney Interviews

Key Points from our Conversation

  • Ideally, the attorney has a business background, either in the form of a Business degree from a university, and/or experience in dealing with asset purchases that are prevalent among small business purchases.
  • You should hire an attorney (and a C.P.A.) prior to calling a business broker in order to make sure that your business is in a clean mode.
  • Depending on who could sue you, you certainly would not want to enter into new contracts with anyone.
  • Equipment might have some value, but remember in over 95% of the deals, you are not also purchasing the real estate, hence most of the value is not part of the business sale.

Interview

Tina: I am located outside of the United States and would like to purchase a business within the United States. Will any business law attorney be able to help me or is there a certain type of attorney that I should look for?

Francis: No. Not every business lawyer is qualified to assist you with this type of matter. This is because some attorneys are actually more “corporate lawyers” who deal with securities issues, mergers and acquisitions, on the higher end, or merely simply perform business incorporations, on the lower end.

The perfect profile is a business lawyer for small business, which in the U.S. is defiend by the Small Business Association (SBA) as having up to 500 employees! Ideally, the attorney has a business background, either in the form of a Business degree from a university, and/or experience in dealing with asset purchases that are prevalent among small business purchases.

 

Tina: What should I be aware of when buying a business in a different country?

Francis: You must first recognize that even if you speak the language (you are from the U.K., Australia or Canada) and you might recognize some legal terms and practices, the actual application and understanding of these can be very different from what you are accustomed to. Never take for granted that you understand a contract, the ramifications of the clauses nor what is left out.

 

Tina: What should  I be aware of when selling my business to someone from another counrty?

Francis: You should inquire as to whether or not the person intends to apply for a visa in order to purchase the business and if this could delay the Closing Date. As a seller, you should also inquire as to whether or not the funds are already in the U.S.

Never take for granted that you understand a contract, the ramifications of the clauses nor what is left out.

Tina: I am selling my business, at what point do you recommend hiring an attorney and what role do they play in the process?

Francis: You should hire an attorney (and a C.P.A.) prior to calling a business broker in order to make sure that your business is in a clean mode.

 

Tina: As a business owner preparing to sell my business, what precautions can I take to avoid being sued?

Francis: Depending on who could sue you, you certainly would not want to enter into new contracts with anyone. You would want to make sure outstanding bills are either negotiated or paid up to date and that any sales tax or IRS taxes are also handled. The last thing you want is a lien on the business that would prevent Closing.

 

Tina: Do I need an escrow agent to assist with the sale of my business?

Francis: Depending on the Buyer’s negotiation and the amount of the sale, it can be justified to have a third attorney as an Escrow Agent only.

 

Tina: Is it really necessary to receive an earnest money deposit from the buyer? If so, can you, as my attorney, hold the earnest money deposit on my behalf?

Francis: It is not legally an obligation to get a deposit, however, it is the customary practice because as a Seller, you want the Buyer to be financially invested (as well as phychologically invested). Your attorney can hold that money as a general rule, but it is a question of the terms of contract.

It is not legally an obligation to get a deposit, however, it is the customary practice because as a Seller, you want the Buyer to be financially invested (as well as phychologically invested).

Tina: Is my bank loan transferable when I sell my business?

Francis: Usually not. Bank loans would be handled at Closing with a pay-off letter indicating the exact amount to be remitted to the bank at a specific date.

 

Tina: I am buying a business. How do I minimize post-closing problems?

Francis: First, have a good tailor-made contract drafted. Second, conduct detailed due diligence. Third, keep some money as a hold-back from Seller.

 

Tina: What was the toughest problem regarding buying or selling a business that you have handled recently? Please provide an example if possible and how you represented your client.

Francis: Too many small businesses in Florida do not have proper bookkeeping. Some of them are clearly evading taxes by underreporting income. Sellers would sometime base the selling price on the unofficial income, trying to get two bites at the apple, one from the IRS, one from Buyer. Likewise, a business purchase entails a lease negotation with the Landlord. This is a three-party deal.

The last thing you want is a lien on the business that would prevent Closing.

Tina: Do you have any other tips or advice for anyone buying, selling or appraising a business?

Francis: Be truly aware what you are buying and what this is truly worth. Equipment might have some value, but remember in over 95% of the deals, you are not also purchasing the real estate, hence most of the value is not part of the business sale.

Key Points from our Conversation

  • The first thing an owner should do is get a forensic accounting of the business so that it can be properly valued; the second...is to get all agreements and correspondence about the sale in writing.
  • The attorney can help navigate all the necessary paperwork to make sure the transaction is appropriately consummated.

  • The major problems facing sellers of businesses is the amount of detail and paperwork associated with the sale.

  • The hardest situation is obviously when the business is being bought or sold by family members because with family there are usually personal issues that affect both sides ability to think clearly and rationally.

Interview

Tina: As a business owner preparing to sell my business, what precautions can I take to avoid being sued?

Adam: There are a number of precautions a business owner should take before selling his or her business. The first thing an owner should do is get a forensic accounting of the business so that it can be properly valued. The second thing a seller should always remember is to get all agreements and correspondence about the sale in writing.

 

Tina: I financed a portion of the sale of my business and the buyer has stopped making payments on the note, what should I do?

Adam: First thing a seller should do is check the agreement and determine what options are available to the seller. If the buyer has breached the terms of the agreement, the next step is determine what course of action is available contractually. Some contracts call for arbitration and others require that a court case be filed in a particular jurisdiction.

First thing a seller should do is check the agreement and determine what options are available to the seller.

Tina: I am selling my business. The closing is scheduled next week. Unfortunately, I found out today that my corporation is not up to date. What do I do?

Adam: This can happen for a number of reasons. However, if your corporation is out of date, you should file the necessary paperwork to make sure that it is in compliance with your state’s regulations.

 

Tina: When should I inform my attorney that I am considering selling my business? What are the risks if I wait until I receive an offer?

Adam: You should contact your attorney immediately once the decision to sell a business is made. The attorney can help navigate all the necessary paperwork to make sure the transaction is appropriately consummated.

 

Tina: How would a business owner get the most out of working with an attorney? What tips do you have for working with an attorney when selling a business?

Adam: When working with an attorney, make sure that the attorney-client relationship is properly defined at the beginning of the relationship. If you only need the attorney to draft purchase & sell agreements then tell the attorney that his role in the transaction will be limited to drafting documents. The seller should also get a good proposal for the costs of the overall project and the hourly rate for the work.

When working with an attorney, make sure that the attorney-client relationship is properly defined at the beginning of the relationship.

Tina: What resources do you use in your practice to help you successfully represent your clients? For example, do you rely on paralegals, other attorneys, accountants, financial planners, any other professionals?

Adam: It depends on the matter at hand. In the sale of a business, the best attorneys will work with forensic accounts to evaluate the business, financial planners to help invest the money received from the sale, and accountants to help navigate the tax consequences from the sale of business. The attorney will generally help make sure all of these professionals work together.

 

Tina: How do you manage your team, such as paralegals and legal assistants? What role does each play in helping your client?

Adam: My team has a very high ratio of attorneys to paralegals (we do not use legal assistants). With any team, you want to make sure you are only working with bright contentious individuals who can handle any task assigned to them. 

 

Tina: What are some of the most imaginative and creative things that you have done for a client in relation to buying or selling a business?

Adam: In the sale of a waste management company we were able to sell a company by lending the buyer shares in the company that were paid back in such a way to lower the seller’s tax consequences over time.

In the sale of a business, the best attorneys will work with forensic accounts to evaluate the business, financial planners to help invest the money received from the sale, and accountants to help navigate the tax consequences from the sale of business.

Tina: What was the toughest problem regarding buying or selling a business that you have handled recently?

Adam: The hardest situation is obviously when the business is being bought or sold by family members because with family there are usually personal issues that affect both sides ability to think clearly and rationally.

 

Tina: Do you have an interesting story regarding buying or selling a business?

Adam: Many times when a seller approaches us after the sale has already occurred and a number of interesting issues arise. One time, a buyer completely failed to pay the amount owed pursuant to the agreement and we had to sue the buyer in court. This issue could have easily been avoided with the proper protections in place at the onset of the transaction.

 

Tina: In your view, what are the major problems facing your industry?

Adam: The major problems facing sellers of businesses is the amount of detail and paperwork associated with the sale. The bigger the business, the more issues the seller will face.

Key Points from our Conversation

  • Make sure you have the approval in writing to prevent any potential lawsuit if the new owner does not abide by the lease.
  • Part of buying a business is to continue the established business profit margin; not many buyers are willing to pay for a business only to have to restart and rebrand it somewhere else.
  • A really good agreement will have terms outlined in the event of a purchase of the business.
  • An experienced attorney should spell everything out in clear language so that anyone can read the agreement without it being vague or incomprehensible.

Interview

Tina: How does the sale of my business affect my lease?

Ella:  It depends on the terms of your lease or your state laws, if any.  If your lease explicitly states that you must seek approval by landlord, then you must seek approval from landlord.  Make sure you have the approval in writing to prevent any potential lawsuit if the new owner does not abide by the lease.  Prior owners always seem to get pulled into litigation unless there is written documentation that they have been released.  If your lease doesn’t address the issue of selling your business, then you need to see if your state has any statutory laws in favor of the landlord. 

 

Tina: Am I legally required to inform my landlord that I am considering selling my business? At what point do I need to inform my landlord? I have been having problems with my landlord and I do not think he will extend the lease if he knows I am selling the business.

Ella:  If the lease is not a part of the deal in selling your business, then you may not be required to inform your landlord.  But remember, you still have to fulfill any agreement with your landlord until the date of expiration.  This includes any notices you must give to the landlord of not renewing or vacating the premises, usually a sixty (60) or ninety (90) day notice are in leases. 

Now, if renewing a lease is part of your business sale, then you will want to make sure that the landlord is willing to renew the lease with the new owner.  You will want to facilitate a meeting to ensure that happens.  Part of buying a business is to continue the established business profit margin; not many buyers are willing to pay for a business only to have to restart and rebrand it somewhere else.  You will need to review your lease agreement with the landlord to see what exact time frames of notices are required.  Being prepared and doing things prior will only help you with the business sale and prevent any foreseeable problems.  Having a problem with the landlord may work in two ways: (1) landlord may be willing to work with new owner because you will no longer be in the picture; and/or (2) landlord has a tenant for an additional period of time with immediate continual rent without landlord having to try to seek a tenant and losing rent during that period.

Being prepared and doing things prior will only help you with the business sale and prevent any foreseeable problems.

Tina: How do I ensure that key customers stay after I buy a business? Can I address this with a contract?

Ella:  If the business is a service providing business, there is no guarantee that key customers will stay with you as the new owner forever.  If there are existing service agreements, I suggest that you review those agreements prior to purchasing the business to see what options the customers have.  Most customer agreements for services have terms that state the agreement will be abided by successor interests.  A really good agreement will have terms outlined in the event of a purchase of the business.   Good management, service, and business relationship will determine whether key customers will stay.  If there is an existing agreement, something to consider is to meet with key existing customers to enter into a new contract with them.  This will establish the beginning of a business relationship, give the customer a chance to meet you in person, and have a new agreement between you and the key customer for a new time period.  As far as buying a pure service business like a dry cleaning or convenience store, there are no guarantees that key customers will stay with you.  In these types of businesses, the quality of service and good management will reign.

 

Tina: What is escrow? It is necessary?

Ella:  Escrow refers to an account held by a third party where all funds are held to be paid out to the necessary parties.  It is usually preferred to ensure that all debts or liabilities outlined in the purchase agreement are satisfied.  This will include but not limited to: seller’s mortgage, if real property is involved; taxes; documentary taxes; and seller’s liabilities. Leaving disbursement of funds up to seller may cause problems, especially if seller does not pay off what it/he/she is supposed to payoff to give the buyer a clean start.  If real estate property is involved, then an escrow account will be required for the closing.  If it is just a business transaction, the seller’s attorney will most likely use a trust account to serve as the escrow account.  Keep all records and request copies of satisfactions for your business records.

 

Tina: What does an attorney provide business owners, besides legal advice?

Ella:   The type of attorney you will need depends on the type of business you are buying/selling.  You may need either a commercial real estate attorney or a business transactional attorney.  Depending on the experience of the attorney, you may need both.  Full service law firms have departments where the work is divided among different attorneys.  So, the commercial real estate attorney will be handling the closing aspect of the land/building of the sale while the business transactional attorneys are drafting all the agreements for the purchase and sale of the business.  If your purchase/sale does not involve any property, you can get by with just a business/corporate attorney.  What the attorney will do for you is give you legal advice on what needs to be done and what problems you may have based on the existing documents and proposals.  If you are the buyer, your attorney will review the purchase contract to protect the buyer.  If you are the seller, your attorney will be the one drafting the purchase contract and associated addendums for the sale according to your terms.   Some try to do it themselves, which usually results in a lawsuit or litigation because the terms were misunderstood or misinterpreted as to their meaning.  An experienced attorney should spell everything out in clear language so that anyone can read the agreement without it being vague or incomprehensible.

The type of attorney you will need depends on the type of business you are buying/selling. 

Tina: Do you have any other tips or advice for anyone buying, selling or appraising a business?

Ella:  Do your research and homework before you even start the process.  Do your research on the industry of the business.  Because of today’s economy, businesses have to function differently within their industry.  How marketable the business is will play a factor in the purchase price.  You should look to see what liabilities and expenses are associated in the business.  Understanding what you are truly buying or selling will alleviate a lot of problems from the start.  Understand what debts/contracts/liabilities are joined with the business.  Are you buying the existing business and name or are you buying business with the intention of creating a new name?  If you are serious about buying or selling a business, I always recommend that there is an appraisal on the business and its assets.  Most banks will require it if you try to finance the purchase through a bank.  If you plan on financing the business purchase, I highly recommend a buyer to see if the business will qualify for a commercial loan.

Key Points from our Conversation

  • From a legal aspect, it is important to have a lawyer lined up in order to make sure paperwork is in order, and everything is being done legally.
  • Sellers are given some lee-way to puffer their business, to make it sound good, but they ca not tell intentional mistruths, as that is fraud, if the buyer relies on the false statements to their detriment.
  • Too many times numbers are presented in a way that is deceiving, so it is important that due diligence is done to make sure the deal is good and that money will be made at the end.
  • As anything, it is all about compromise, as the lawyer needs to be paid for his services and the client needs to feel that he is getting a fair price.

Interview

Tina: From a legal standpoint, if I am looking to sell my business, where would you suggest I start the process?

Jamie: I would suggest that you hire an attorney, and possibly a business broker to find a buyer.  Of course, the broker will charge you a commission, but they have the connections to find you a buyer.  From a legal aspect, it is important to have a lawyer lined up in order to make sure paperwork is in order, and everything is being done legally. 

 

Tina: What disclosure obligations do I have to a buyer when selling my business? Am I legally required to tell him all the bad things about my business?

Jamie: You are required to give accurate information, as well as provide tax returns and other financial forms.  I have seen many lawsuits when the books have been “cooked,” or false information has been given, and it always turns around and ends badly for the seller.   Sellers are given some lee-way to puffer their business, to make it sound good, but they ca not tell intentional mistruths, as that is fraud, if the buyer relies on the false statements to their detriment.  Lastly, at the closing, the seller has to sign an affidavit that the company is in good standing and that the documents submitted are accurate, which will protect the buyer to a certain extent.

I have seen many lawsuits when the books have been “cooked,” or false information has been given, and it always turns around and ends badly for the seller.

Tina: I own a small business as well as the land it is on. The business is on half of the land. However, I own the land with my brother and he does not want to sell his half when I sell the business. What are my options?

Jamie: That is a tough situation. The first thing to do is attempt to work out a deal with you brother, as amicable settlements are better than lawsuits.  If that fails you can sue for a partition of the property, as the owners are in a dispute and it is a deadlock.  To obtain a partition you will need to prove to the judge it is in the best interests of the parties to sell the property. 

 

Tina: What constitutes a billable hour? Are these fees negotiable? How would an entrepreneur go about negotiating fees with her attorney?

Jamie: A billable hour is the hourly fee an attorney charges for his work.  These fees are negotiable, but most lawyers do have a range they will stay in, which is based on their expertise and the type of work being performed.  An entrepreneur should ask the lawyer his fee, and then if he thinks it is too high ask him to lower the fee.  As anything, it is all about compromise, as the lawyer needs to be paid for his services and the client needs to feel that he is getting a fair price.

 

Tina: What are the most important things that an attorney can contribute as I sell my business?

Jamie:  The attorney can help to make the selling of the business as easy as possible, as well as make sure that the seller ends up with no liability, and making the sale go as fast as possible.   Even small sales of businesses should have a lawyer involved, as it is important to make sure the process is done properly and that at the end of the day the seller is done, gets their money, and sells the business. 

Moreover, the lawyer can assist in the process regarding tax savings and 1030 B exchange. This is where you can take the profits from the sale of a building, and then put those into another building, and you can save the taxes. 

Even small sales of businesses should have a lawyer involved, as it is important to make sure the process is done properly and that at the end of the day the seller is done, gets their money, and sells the business.

Tina: What aspects of a job do you consider most important when assisting an entrepreneur buy or sell a business?

Jamie: I think the most important thing is making sure that all the liabilities are paid off, and that the buyer or seller gets what they bargained for.  Of course, both sides want the best deal possible, and for the deal to close quickly and efficiently.  A lawyer can make all of these things happen.

 

Tina: What are some of the most imaginative and creative things that you have done for a client in relation to buying or selling a business?

Jamie:  I have done it all, I have negotiated for a seller to sell only a part of a company, to get some revenue, made the buyer a co-owner, and when the buyer saw how well the company was doing, with the co-buyer involved, then the buyer bought the rest of the business out.

 

Tina: Do you have an interesting story regarding your specialty or buying/selling a business?

Jamie:  Yes! I once represented a woman selling a day-care.  She was saddled with IRS liens and liens on her buses.  I was able to get the IRS and the lienor of the buses to take a small fee, get a reduction in the amounts owed, and get the property sold.  I was also able to convince the IRS and the lienor that if they did not allow the sale to go through, that they would end up with nothing but a bankrupt business!

The attorney can help to make the selling of the business as easy as possible, as well as make sure that the seller ends up with no liability, and making the sale go as fast as possible.

Tina: Do you have any other tips or advice for anyone buying, selling or appraising a business?

Jamie:  Most important, do your due diligence; do not rely on the word of friends or the person selling the business.   Get your own appraisal, and really look at the numbers.  Too many times numbers are presented in a way that is deceiving, so it is important that due diligence is done to make sure the deal is good and that money will be made at the end.

Get the Most Out of Your Attorney’s Time and Fees When Buying or Selling a Business

Key Points from our Conversation

  • Very rarely are deals drafted once and then signed. In fact, a deal that is inked that quickly may be on the fast track to litigaiton.
  • Once you have identified what you want and require it becomes much easier for your attorney and the rest of your team to structure the deal and help guide the transaction in the right direction.
  • Different firms have different policies but the standrrd is to bill in six minute increments (i.e. tenth of an hour).
  • Identify your primary goals and your secondary goals and provide them to your team so your broker can shop the deal you are interested in pursuing and your attorney can structure the deal toward the same goal.

Interview

Tina: From a legal standpoint, if I am looking to sell my business, where would you suggest I start the process?

Royce: The starting point for each transaction is identifying your goals. Once you have identified what you want and require it becomes much easier for your attorney and the rest of your team to structure the deal and help guide the transaction in the right direction. For instance, if you are selling the company because you want to relocate and start a similar business elsewhere, this is an important goal to share with your counsel so he or she can be congnizant of that goal when reviwing non-compete provisions that are often an intrigal part of a buy/sell agreement.

As a matter of contract, you must accurately disclose the level of information you have agreed to disclose.

Tina: What disclosure obligations do I have to a buyer when selling my business? Am I legally required to tell him the bad things about my business?

Royce: As a matter of contract, you must accurately disclose the level of information you have agreed to disclose. For example, if the contract expressly places the due diligence burden entirely on buyer with buyer merely having access to your records, then you need only provide records and nothing more. However, as a matter of tort law, you are not allowed to make false statements or withhold information necessary to clear up or correct a statement, representation or warranty previously made that has become false or that is unclear or misleading without the additional information. In other words, you are not allowed to take active steps to deceive or conceal information that would clear up a material mistatement or misleading statement regardless of the contract’s provisions. 

 

Tina: As an owner looking to sell my business, how can I minimize fees when working with an attorney? Would this answer change if I was looking to buy a business?

Royce:  The cost sensative client should consider the following:

  1. Be prepared when you meet with your attorney.  It is your attorney’s job to make sure you understand the documents and the transaction. It generally takes longer if you have not read the documents, considered the transaction, and compiled your questions before you meet with your attorney.
  2. Find an attorney you trust and then trust him or her. Clients often increase their bill by trying to micromanage a deal. Remember, your attorney must bill for each call, email or meeting. The more time spent talking through realtively minor details with you, the less time he spends actually getting those items done. He must then spend, and bill for, additional time to actually perform those actions.
  3. Do the work you can. Attorneys will generally give you as much or as little assistance as you need. If you ask your counsel to prepare exhibits, schedules and spreadsheets for attachment to the agreement then your attorney will.  However, if you prepare the business-related documents, then your counsel just needs to review and modify them, where necessary. 

 

Tina: What constitutes a billable hour? Are these fees negotiable? How would an entrepreneur go about negotiating fees?

Royce:  Different firms have different policies but the standard is to bill in six-minute increments (i.e. tenth of an hour). Generally, attorneys bill for each full and any partial six-minute increment spent on your matter. So if an attorney works 25 mintues, he or she will bill five six-minute increments to account for four full six-minute increments and one partial. Generally, more established firms/attorneys will not negotiate fees. If a lower cost is the most important factor, you may have more success finding a young/unestablished attorney. However, you should use caution with this approach because you may “get what you paid for.” 

The key is to identify your primary, i.e. required, goals and your secondary, i.e. ideal, goals and provide them to your team so your broker can shop the deal you are interested in pursuing and your attorney can structure the deal toward the same goal.

Tina: I own a business and the land it is located on. I would like to sell the land to my brother, but he does not want a business. What is the best way to structure this sale? Are most people looking to buy land when they buy a business and will separating the two decrease the value of the business? What else should I consider with this sale?

Royce: Generally, any time you remove a significant asset from a business it will reduce the overall purchase price. However, a skilled broker is looking to fit the right buyer to the correct assets in order to maximize the sale you are attempting to make. For instance, a buyer who is only interested in your client list, your intellectual property or the goodwill associated with your name is not looking to purchase land. In fact, that buyer may look at the land as a detractor to the purchase.  The key is to identify your primary, i.e. required, goals and your secondary, i.e. ideal, goals and provide them to your team so your broker can shop the deal you are interested in pursuing and your attorney can structure the deal toward the same goal. 

 

Tina: What are the most important things you, as my attorney, can contribute as I sell my business?

Royce: Attorneys should first help their client understand the deal, its structure and implications as negotiated or written. An attorney should then help their client identify issues and solutions to help mold the deal into what the client requires it to look like. Very rarely are deals drafted once and then signed. In fact, a deal that is inked that quickly may be on the fast track to litigaiton.  Instead, the points of the deal should be considered, discussed and agreed to by all parties with eyes wide open in order to avoid litigation because even successful litigation is often considerably more costly than a justifiable price reduction at the time of sale.

 

Tina: What is the most interesting matter you have worked on regarding buying/selling a business in the past year?

Royce: This is a difficult question to answer because each transaction has its own points of interest. My favorite was a deal in which I represented a private equity firm seeking to acquire a company which owned and operated salt water disposal wells in central Texas. The private equity firm was based in the east coast and the business owner was a country boy who had worked in the oilfields his entire life. The central aspect of the deal was getting each unique personality to find and focus on the common objectives that originally gave birth to the deal. 

Attorneys are trained to point out the flaws, liabilities and negative aspects of a transaction.

Tina: Do you have any other tips or advice for anyone buying, selling or appraising a business?

Royce: Always remember to focus on what you are getting out of the deal as much as you focus on what you are putting into the deal. Attorneys are trained to point out the flaws, liabilities and negative aspects of a transaction. While those are important to note and consider, they must be considered squarely in the light of the benefits you are getting in return for those potentially negative consequences.

Key Points from our Conversation

  • The first thing that my clients go through when they are buying or selling a business is disclosure.
  • While many shareholders want to sell their business at its peak value, this is not the optimal time to sell.
  • It is never too soon to being developing an exit strategy.
  • Valuation is an inherently forward-looking exercise.

Interview

Tina: I own a small grocery store. I am in the process of selling my business and I have a buyer. However, a customer slipped and fell at my store and is now suing me for her injuries. What affect will this have on the sale of my business? Can I still proceed with the sale, or will it have to be postponed until after the lawsuit?

Ekaterina: Pending litigation is not necessarily a legal obstacle in this type of transaction.

If a business is organized as a legal entity (corporation, LLC or other), then it is separate from its owners and the business can be transferred in spite of pending litigation. In this instance, the owner is not the subject of the litigation, the company is. An easy way to understand this is to think about a company that is publicly traded (i.e. Apple, Microsoft or IBM). Each person that owns stock in that company is an owner of the company. Each owner can then sell their stock regardless of what litigation is pending.

This does not mean that it will not affect the transaction. A savvy buyer will ask about any pending litigation at the “due process” phase of the acquisition. The seller has a legal obligation to disclose, and not doing so can cause further litigation. The most common way it affects an acquisition is in reducing the value of the business. It will be viewed as an extra risk and potential expense that will impact the ROI (Return of Investment).  Or the potential buyer may request to structure a transaction in a way that the seller remains responsible for all legal claims that emerged before the interest in the company was transferred to a new person. To avoid speculation one should try to settle the claim, if at all possible.

 

Tina: As a business owner preparing to sell my business, what precautions can I take to avoid being sued by the buyer?

Ekaterina: The most common cause in such transactions is breach of contract. This can be caused by two factors: misunderstanding the terms of the contract or failure to disclose. Let’s start with the latter. Failure to disclose can cause a contract to be declared null and void, plus it exposes the seller to being liable for damages. After signing a Non-Disclosure Agreement (NDA) with an interested buyer, the seller should open up the financial books, disclose all contractual obligations that the company is subject to and report any pending litigation or incidents that may cause litigation in the future. Misunderstanding the terms of the contract can also cause legal issues. These types of the contracts are very complex and most of the terms come from centuries of litigation. A simple word can change the meaning of a whole paragraph. The best way to prepare for this is to consult with a business attorney before signing a contract.

The role of the Attorney is to assure that the client makes an informed decision and to look out for the client’s best interest.

Tina: In your experience, what are the most common reasons buyers do not go through with the sale of a business?

Ekaterina: The most common reason for buyers to back out of a deal is bad bookkeeping. As an attorney, I am performing due diligence by when finding that a certain financial statement is not reliable, I advise my client that there is higher risk in the acquisition than anticipated. The transaction can still go through, but we would have to rely on external resources to assess the value of the business and the risks involved for the future owner.

 

Tina: What advice do you give to entrepreneurs who want to use standardized legal forms or contracts to save on attorney’s fees?

Ekaterina: Standardized legal forms can be used for the simplest transactions, and when the parties know exactly what they need. The forms are standardized and pretty cheap for a reason. They do not contemplate various specifics of the transaction, the desire of the parties, their personal circumstances and many other factors which may be significant for a deal. In most cases, a legal form will not be sufficient to replace the protection that comes from consulting with an attorney.

Furthermore, the savings that a party might get from using the form can end up costing more in case of litigation than the original Attorney Fees. If the parties decide to use the standardized forms nevertheless, the most reliable forms are the ones that are provided by the Bar Association of the State. For example, in Florida the Bar Association created a standard leasing agreement for real property. However, even if a person is using the form obtained from a good source, he/she should make sure he/she understands all of the terms precisely.   

 

Tina: I am selling my business, at what point do you recommend hiring an attorney and what role do they play in the process?

Ekaterina: The first thing that my clients go through when they are buying or selling a business is disclosure. I highly suggest to all my clients to sign a Non-Disclosure Agreement (NDA) before providing any information for the protection of both parties. As a buyer, you do not want the seller to disclose the details of your negotiations to avoid any interference in the transaction. As a seller you do not want the information that is being disclosed to be transferred to the third parties in case the transaction does not go through. I would recommend consulting with an attorney as soon as a decision to put a business for sale is made or a proposal to purchase has been made since there may be necessary precautions to be implemented before the negotiations between the parties progress. 

I would recommend consulting with an attorney as soon as a decision to put a business for sale is made or a proposal to purchase has been made since there may be necessary precautions to be implemented before the negotiations between the parties progress. 

 

Tina: I am purchasing a business and I want to make the seller sign a non-compete agreement. I do not want the seller to open up a similar business in the same state for at least 10 years. Legally, can I do this?  

Ekaterina: The short version of this answer is, yes, you can legally do this. With that said, the courts will not sustain a Non-Compete Agreement (NCA) if it is unreasonably overbroad in the geographical or durational term. What kinds of restrictions are considered to be reasonable depends on many factors like industry, time, market, price paid and many others. If competition is a concern, then it would be best to discuss with an attorney the best approach to protect the investment of the buyer.

 

Tina: I am selling my business and I already hired a CPA and a Business Broker. Do I still need to hire an attorney? How can an attorney, CPA and business broker work together as a team to ensure a successful transaction?

Ekaterina: Each one of these professionals have a different role and purpose when it comes to this type of transaction. While the Broker will focus his energy and skills on providing a ready, willing and able buyer, the CPA will make sure that the financials are properly organized and disclosed. The role of the attorney cannot be easily replaced as his/her concern is reducing the liability and exposure of the parties in the transaction and making sure that the seller (client) is well informed of the implications of the transaction. The role of the Attorney is to assure that the client makes an informed decision and to look out for the client’s best interest. This will be done using the information received from both the CPA and the Business Broker.

It is important to note that a contract may alter the way that a law applies to a specific situation.

Tina: What disclosure obligations do I have to a buyer when selling my business? Am I legally required to tell him all the bad things about my business?

Ekaterina: Yes, full disclosure is essential for a valid transaction. The seller must provide organizational documents to the company, any agreements that are in place and that may affect the business or the freedom of operations by a new owner, a list of assets with valuation, financial statements, tax documents, a list of interested parties, legal complaints, court procedures and liens if any, inventory, and other significant factors relevant to a particular business. Failure to disclose may be deemed as misleading or fraud, which may result in protracted and expensive litigation.

               

Tina: What is the bulk sales law and, as a seller, do I need to comply with these laws?

Ekaterina: The Uniform Commercial Code (UCC) is a group of laws that regulate different aspects of commercial transactions.  This code has been adopted by almost every state but with some variations. UCC2 has been adopted by the State of New York and it regulates the sale of goods (tangible movable property) among parties (merchant-merchant, merchant-non merchant).  UCC6 deals specifically with bulk sales, when it is defined as “a sale not in the ordinary course of the seller's business of more than half the seller's inventory” but this article has not been adopted by the State of New York.

It is important to note that a contract may alter the way that a law applies to a specific situation. For instance, a law may dictate: “the seller must pay at time of the delivery of goods, unless otherwise agreed upon.” The purpose of this type of regulation is to provide guidance when there is absence of direction coming from the contract. The best way to find out what rules and regulations apply to a specific transaction is to consult with an attorney.

           

Tina: Do you have any other tips or advice for anyone buying, selling or appraising a business?

Ekaterina: First, determine exactly what you want to buy or to sell – a business as an ongoing operation, just particular part of the business, but not the rest, or assets of the business such as inventory, intellectual property and other, but not the company itself. Based on that determination, discuss with an attorney what would be the most efficient way for you to structure the transaction (for example, to do a merger and acquisition, a reverse merger, asset acquisition or something else).

Second, do your market research and obtain an evaluation of the business. If you are a buyer, do your comprehensive due diligence on the business at stake. Third, know exactly what you are buying or selling – define all assets of the business, negotiate which rights and liabilities transfer to the buyer and which ones remain with the seller, the scope of each party’s responsibility in possible future events and other details of the transaction.

Your business attorney should be a part of your negotiating team and you should not agree to something without first privately consulting with your attorney. Preliminary agreements may be enforced in the same way as the final ones. An experienced attorney may identify some issues or concerns, which parties to the transaction may not initially anticipate, will advise you on the consequences of various offers, propose the best possible solutions and practical tips for structuring the transaction and accomplishing your goals and otherwise it will guide you through the whole process making sure that your rights and interests are well-represented and protected.

Key Points from our Conversation

  • The best method to ensure alternative dispute resolution is used is to incorporate such a requirement into the discussions leading up to the execution of the contract, as well as included in the final contract document.
  • You should review the terms of the lease prior to contemplating selling your business.
  • The best option to try and ensure such continuity is to be proactive in the negotiations.

Interview

Tina: I am selling my business and have a buyer. After the buyer found some problems with the business, we are now having issues with the sale. Can we participate in dispute resolution or mediation? How can we avoid litigation?

Robert: While I am always willing to litigate any dispute, it is in the best interest of all parties to work together to reach an amicable resolution. Alternative dispute resolution, especially mediation, is highly recommended.  Such a forum is an excellent opportunity for the parties to present and discuss all issues of concern before an impartial third party, specifically a third party who has experience with the particular issues that are involved.  When all parties come to the table with a desire to engage in active listening and to resolve the issues, either method (but preferably mediation) quite frequently resolves all pending issues. The best method to ensure alternative dispute resolution is used is to incorporate such a requirement into the discussions leading up to the execution of the contract, as well as included in the final contract document.

 

Tina: I am buying a business. We are scheduled for closing this week, and there was a fire in the business. It was not a major fire, but there was some minor damage and the insurance company will have to come in to assess the damage and determine repair costs. Do I still have to go through with the sale?

Robert: Generally, the simple answer is yes; however, I would recommend a review of the contract for sale to determine if it contains any contingency for factors impacting the sale and/or closing when such an unforeseen circumstance arises. I would further recommend you review the following to verify the fire does not interfere with the operation of the business nor cause you any additional financial exposure:

  1. The fire did not damage the structural integrity of the building or leasehold space which the business occupies
  2. The fire will not delay your being able to assume operation of the business as originally contemplated by the contract for sale and any related closing documents
  3. The insurance company for the current owner will fully pay for all damages, and if there is any deductible to be paid, that cost is borne by the current owner.  If the fire causes greater damage than you originally thought, such that numbers 1 and/or 2 become factors, then the contract language becomes important relative to the contingency I described, especially if the cause of the fire is due to the negligence of the current owner.

I would recommend a review of the contract for sale to determine if it contains any contingency for factors impacting the sale and/or closing when such an unforeseen circumstance arises.

Tina: Should I tell my landlord that I am considering selling my business? Am I legally required to inform him of the sale?

Robert: The option as to whether to share this information with your landlord depends upon two important factors: the terms of the lease and your relationship with the landlord.  Often the terms of a commercial lease will contain language that requires the tenant to provide notice as to change of ownership. In the absence of any language that prohibits such a change during the terms of the lease, simply complying with the notice requirements as specified will be sufficient. However, if a lease prohibits a change of ownership during the term of the lease or, more frequently, prohibits a sub-lease from being executed, a potential change of ownership can be problematic.  It is for these reasons that your relationship with the landlord is important. If you have a good relationship, the landlord will be more willing to waive any restrictions in the existing lease and simply re-negotiate a new lease with the new owner.  Therefore, you should review the terms of the lease prior to contemplating selling your business.

 

Tina: How do I ensure that key customers stay after I buy a business? Can I address this with a contract?

Robert: There is never an absolute guarantee that key customers will remain with the new ownership.  The best option to try and ensure such continuity is to be proactive in the negotiations.  It is important that all customer lists be provided, as well as proprietary information that is critical to the operation of the business. It would be important to allow you or your key employees to become familiar with the operation of the business and key customers by incorporating such an integration into the due diligence and negotiations part of the transaction. It would also be important to incorporate into an agreement a requirement that the former owner remain as a consultant, so the continuity is evident to the customer base.

There is never an absolute guarantee that key customers will remain with the new ownership.

Tina: I am buying a business that is currently a sole proprietorship. However, I am buying the business with two others, and we want to know whether we should create a partnership, Limited Liability Company, or a Corporation. Do you have any advice?

Robert: I would recommend either a Limited Liability Company or Corporation.  The primary advantage of both are, as corporate entities, you and the other owners/principals are typically protected from potential personal liability.  Additional benefits are that a corporate entity provides for continuity in the event of the death of a shareholder and makes transfer of ownership, through stock sale, much easier.  One detriment is on the tax side. That is, a corporation is deemed a “person” under the law, and, thus the corporate income is taxed. You would also be paying tax on your personal income (wages) received from the corporation.  Ultimately, the benefits of a corporate entity as described outweigh the potential tax related considerations.

 

Tina: I am selling my business this year. I do not have any documentation for my employees. Is it too late to properly document their employment?

Robert: Now that you have decided it is time to sell, you have an opportunity to review the records of your business to determine what information is missing or incomplete, especially information that you will need to provide. This information would include employee information such as basic personnel files. You will want to make certain this information is complete prior to formally putting the business up for sale, especially if your employees are expected to continue with the company once the new owners have assumed control. Other information that you should verify is complete includes accounting records, sales records, and tax returns, all for a minimum of a 5-year period. All of this information is in addition to the customer list.

 

Tina: I am selling my franchised business. I signed a franchise agreement, but the business is not producing any revenue. Do I need an attorney to help with this transaction?

Robert: It is very important for you to have an experienced attorney whose practice is concentrated in business law and litigation review the franchise agreement.  The terms of the franchise agreement are extremely important, including any restrictions on your ability to sell.  It is also likely that if a sale of the franchise is permitted, the franchisor must be provided with notice and consent to the sale.  Assuming the franchise can be sold, then you will also want to work with the attorney to review the details and history of your business. You will also want to verify all necessary corporate books and records pertaining to the business are proper and in good order to draft the contract for sale and to make certain that your interests are fully protected.   It will also be necessary to work with a CPA so a full financial analysis can be performed to properly value your business.  Once your due diligence has been completed, the attorney can assist with the negotiations and then participate in drafting a contract that will fully protect your interests.

It is very important for you to have an experienced attorney whose practice is concentrated in business law and litigation review the franchise agreement.

Tina: What would you, as my attorney, provide business owners like me, besides legal advice?

Robert: I have represented many small- and medium-sized businesses during my career. In developing a relationship with my client, I learn about the owners and principals as individuals along with the details of the business.  This knowledge is invaluable because learning about the details of a business and its owners provides a foundation for me to provide general business advice and counseling. For example, I have often reviewed and suggested re-writes or revisions to existing forms or regularly used contracts to better protect the interests of my client. I also have provided advice and recommendations regarding insurance coverage issues and for my contractor clients, given safety advice and improved safety practice recommendations. My ability to provide good advice avoids problems before they occur.

 

Tina: Do you have any other tips or advice for anyone buying, selling, or appraising a business?

Robert: The most important factor is preparation and due diligence.  When selling a business, it is essential that all books and records of the business are in good order.  The list includes the following, which will vary depending on the business:

  1. Accounting/bookkeeping
  2. Personnel
  3. Sales
  4. Tax returns
  5. Customer lists
  6. Leases if applicable or alternatively title to real estate that would be transferred
  7. Necessary UCC documentation for any equipment
  8. Title to vehicles

Additionally, it is very important to make certain your business valuation has been completed.  I emphasize to my clients the importance of transparency so that all issues that might impact a potential sale are disclosed. From the buyer’s perspective, review of all the documentation noted above is important, as is making certain that financing is, if not in place, will not be an issue within a potential time frame to close the deal.

Key Points from our Conversation

  • You should hire an attorney prior to executing an agreement to sell the business.
  • Both the buyer and the seller should look at the lease to determine what disclosures, if any, should be made by the landlord.
  • My advice is to build a relationship with an attorney while you are involved with your business, not when it’s time to sell the business.
  • Don’t try to buy or sell a business on your own.

Interview

Tina: I am selling my business, at what point do you recommend hiring an attorney and what role do they play in the process?

Richard: You should hire an attorney prior to executing an agreement to sell the business, for sure.  This does not always happen.  As the seller’s attorney, I would want to ensure the seller is getting an adequate price for his/her business and ensure the purchase is structured properly (i.e. asset purchase versus purchase of shares/membership interests).  The attorney acts as a facilitator, obtaining information the seller needs from various sources and providing information to the seller’s other professional servicers (CPAs especially), as well as the point person to deal with the buyer and their team.  At a minimum, the attorney needs to prepare purchase and sale documents and assist the seller in making representations and warranties. If the client wishes, the attorney will be intimately involved in all phases of the sale and will be at the closing table when the paperwork is finalized and the money is dispersed.

 

Tina: What are the three most important things that an attorney can contribute as I sell my business?   

Richard: I can really only answer this in relatively general terms.  (1) Preparation of legal documents essential to any sale; (2) protection of the seller’s interests before and during the sale of the business; and (3) legal research and legal analysis of the myriad of issues that inevitably come up during the sale.

 

Tina: How does the sale of my business affect my current lease? 

Richard: As with most things, it depends.  For instance, if you are selling the assets of your business to another business, you may need the landlord’s permission to assign the lease to the purchasing entity.  If you are operating a single-member LLC and are merely selling your membership interest to a third party, this may not impact your lease at all.  Both the buyer and the seller should look at the lease (with assistance of competent counsel, of course) to determine what disclosures, if any, should be made by the landlord.

Both the buyer and the seller should look at the lease to determine what disclosures, if any, should be made by the landlord.

Tina: I am buying a business. How long of a non-compete should I request from the seller?  

Richard: This varies by state and even by profession.  In North Carolina, as in many other states, non-compete agreements are disfavored by the courts.  They will need to be reasonable as to time and geographic territory.  If you, the buyer, do not want the seller competing with you for five years, as opposed to two years, then the applicable geographic territory will probably have to be narrower.  If the business you are buying only has offices in one state, your non-compete probably cannot restrict the seller from competing in neighboring states.  Even a well-drafted non-compete agreement may end up being deemed unenforceable by a superior court judge.  As a buyer, you should consult with an attorney regarding the laws in your state concerning non-compete agreements, as it very well may impact the price you are willing to pay for the business.  

  

Tina: Can I use a standard non-disclosure agreement with buyers when selling my business? 

Richard: Again, this depends.  If you are selling your business to a publicly-traded company, the rules regarding disclosure of the potential sale are going to be materially different than if the mom-and-pop deli is selling out to the butcher down the street.  However, non-disclosure agreements are not uncommon and are often vital to the success of a sale.  Both sellers and buyers often have an interest in keeping the terms of a sale confidential, at least until the sale is completed.  Each non-disclosure agreement should be tailored to the transaction.

 

Tina: I own 75% of the business and my spouse owns 25% of the business, it’s an S Corporation. Can I force my spouse to sell if I find a buyer? 

Richard: I would imagine this depends on the laws of your State and the by-laws and shareholder agreements of your corporation.  It is critical when establishing an S-Corporation that the by-laws and shareholder agreements are drafted effectively to meet the needs and desires of the shareholders.  Great care should be taken in drafting the initial corporate documentation, so that everyone is clear on their rights, duties and obligations to the company and to each other.  As the company grows and changes, as the shareholders’ relationships grow and change.  The shareholder agreements and by-laws and other corporate agreements may have to be amended or modified to change with the company and the shareholders.  

 

Tina: How would a business owner get the most out of working with an attorney? What tips do you have for working with an attorney when selling a business?

Richard: My advice is to build a relationship with an attorney while you are involved with your business, not when it’s time to sell the business.  This will allow you and your attorney to get to know one another and for the attorney to become familiar with your business.  When the time comes to sell, an attorney familiar with your business will more likely be able to help you negotiate a more favorable sale for with less attorney time than if your attorney were unfamiliar with you or your company. 

Be honest and forthright with your attorney about what you want from the sale of your business.  Is it more important to you that the right person buy your company or that you get top dollar for the business?  Are you selling your business to start a new one or as part of your estate planning?  Does your attorney have the staff and legal knowledge to handle your sale and will your attorney tell you if he/she does not? 

My advice is to build a relationship with an attorney while you are involved with your business, not when it’s time to sell the business.

Tina: Is it really necessary to receive an earnest money deposit from the buyer? If so, can you hold the earnest money deposit on my behalf?

Richard: It is usually a good idea to receive an earnest money deposit from a buyer, to ensure that the buyer is serious and that you will recoup something in the event the buyer breaks the contract prior to closing.  While you are involved with a buyer, your business is off the market, so to speak. You will be making disclosures to the buyer, taking time to make the buyer comfortable, and paying your attorney and other professionals to get the deal done.  Moreover, courts may be reluctant to force a buyer who has pulled out of a contract to buy your business after breaching the contract.  In those situations, the earnest money deposit may be the only money you ever see from a broken deal.  Typically, the seller’s attorney could hold the earnest money but I would want to do so only with an acceptable escrow agreement in place.  In the event of a dispute between the buyer and seller, the buyer may not want the seller’s attorney holding the earnest money and the seller’s attorney may not feel comfortable holding it in such instances.

 

Tina: Do you have any other tips or advice for anyone buying or selling a business? 

Richard: Don’t try to buy or sell a business on your own.  Selling or buying a business, even a small one, is a complex and serious thing.  There are a lot of moving pieces, from market analysis, to taxes, to liens and loans, to various and sundry warranties and representations that must be considered, even when a sale goes smoothly from start to finish.  Buyers need to know the ins and outs of the business they are acquiring and may not know where or how to obtain the information they need.  While sales are not adversarial in the same way as litigation, they certainly can become hostile.  The parties on one or both sides of the transaction are usually looking out for their own best interests and may not place the same emphasis as each other on issues of disclosure, integrity, honesty and the like.  Buying or selling a business may be the most consequential transaction you ever make and you need professionals assisting you along the way, both to facilitate the process and to protect you, the client.  And, at the end of the day, it is cheaper to pay an attorney to avoid a mess than it is to pay an attorney to get you out of one.

 

Key Points from our Conversation

  • A seller desperate to sell his business and retire, or a buyer who is terrified of losing out on what he perceives to be a great opportunity will almost always regret the deal terms he strikes without having a drop dead limit.
  • The best precautions to take are to make sure that all agreements are spelled out clearly in writing, and that when advertising the business for sale, there are no unintentional (or intentional) misrepresentations regarding the business and the desired terms of the sale.
  • The due diligence phase, particularly when buying a business, is the most critical point of the transaction.
  • A key reality in legal services is that it is less expensive for an attorney to prevent a problem than it is to solve one.

Interview

Tina: I have accepted an offer from a buyer. Can the buyer cancel the purchase at any time?

Chris: If an offer has been accepted, thereby creating a valid contract, the only way a buyer can cancel is if a contingency provision in the contract allows a buyer to terminate.  There will often be contingencies to allow the buyer to perform due diligence on the company and its records, inventories and other aspects of the business. Sometimes there is a contingency for the buyer to secure financing to complete the transaction. The contingency language will indicate under what circumstances a buyer (or seller for that matter), may cancel the contract.    

 

Tina: How are third-party contracts affected by the sale of my business? Are they automatically transferred to the buyer?

Chris: Third party contracts with employees, service providers and vendors do not get cancelled just because the business is being sold (unless there is a provision in the third party contract that provides for that).  Typically these contracts are assigned from the seller to the buyer at the closing of the business sale.

Most times, buyers will want to continue working with the seller’s third parties so they will expect those contracts be assigned to them in the sale.  A seller will want to make sure that the third party vendors and service providers sign off on the assignment and release the seller from their liability under the third party contract after assignment.

 

Tina: Can I use a “standard” non-disclosure agreement with buyers when selling my business?

Chris: The term “standard” is a dangerous term because what is standard for one type of business may not be standard for another type.  That being said, typically, for most businesses, a nondisclosure agreement will contain the same key terms:

  1. A description of the parties and the transaction being contemplated;
  2. A definition of what constitutes confidential information that is being shared between the parties;
  3. Instructions on how confidential information must be handled and with whom it can be shared;
  4. Instructions on when and how to return or destroy confidential information; and
  5. Consequences for a party breaching the agreement.

A business owner should speak with an attorney about the specifics of their transaction to determine if any special provisions should be included in a non-disclosure agreement for their specific business type.

The term “standard” is a dangerous term because what is standard for one type of business may not be standard for another type.

Tina: I am selling a business and the buyer has requested to contact employees and customers during due diligence. Is this normal practice and should I allow the buyer to do this?

Chris: It is not necessarily normal practice for potential buyers to be contacting employees and customers during due diligence.  Most times a seller will not want employees or customers to know that a sale is being contemplated until it is ready to close (or after it has already closed). 

Unless there is a unique set of circumstances to the contrary, the buyer should be able to complete thorough due diligence without speaking with employees or customers.   If employees find out about an impending or possible sale, it could lead to confusion, uncertainty and anxiety among the employees.  It is better that employees, as well as customers, find out once the deal is already done, because this provides certainty and will cause the least amount of disruption. 

 

Tina: I bought a business and recently found out that the seller lied to me about the income the business was generating. I found out he falsified the financial records. I am making monthly payments to him on the note. Should I stop paying him? How should I handle this?

Chris: The only advice I can provide here is to see an attorney right away.  The remedies that a buyer has been a seller has defaulted or misrepresented information will vary depending on the contract, business type, and governmental regulations. 

 

Tina: As a business owner preparing to sell my business, what precautions can I take to avoid being sued?

Chris: The best precautions to take are to make sure that all agreements are spelled out clearly in writing, and that when advertising the business for sale, there are no unintentional (or intentional) misrepresentations regarding the business and the desired terms of the sale. 

Of course when trying to sell, a business owner wants to make the business look as attractive as possible to a potential buyer.   While there is nothing wrong with putting the best spin possible on the business, if a seller goes too far by inflating revenue statistics or offering “projections” which are not factually supported by the business history or market trends, a seller could find himself with a buyer who will feel that he has been cheated.  Even a relatively minor misrepresentation can destroy the buyer’s trust in closing the transaction or, worse, lead to a post-closing lawsuit. 

 

Tina: Do I need an attorney to help with due diligence if I am buying or selling a business?

Chris: The due diligence phase, particularly when buying a business, is the most critical point of the transaction.  This is where the buyer gets to investigate what exactly it is that they are buying.  If something problematic is missed during the due diligence phase and the transaction closes, the buyer is stuck with it (assuming that there was no intentional deceit on the Seller’s behalf).  This can potentially lead to catastrophic consequences for the buyer, who might have absolutely walked from the deal if the issue was caught and objected to during the due diligence period.

When selling a business, an attorney can help to pinpoint and solve problems that might delay a closing.  Business brokers, unless they are licensed attorneys, cannot practice law or solve legal problems.  Therefore by foregoing legal representation, a seller is leaving a large void in the due diligence phase.

 

Tina: I am selling my business, at what point do you recommend hiring an attorney and what role do they play in the process?

Chris: A business owner should get their attorney involved right away when contemplating a business sale.  A key reality in legal services is that it is less expensive for an attorney to prevent a problem than it is to solve one.

The main role of the seller’s attorney is to help negotiate the legal terms of the contract between the parties and to help execute the transaction.   By getting an attorney involved from the beginning, the attorney can look for and help to solve potential problems before they cause an issue which could harm negotiations.  An attorney can also help advise a seller on certain matters that should or should not be agreed to in negotiations.  If a seller agrees to something problematic before the attorney gets involved, it could be impossible, and definitely expensive, to fix it.  

Additionally, the seller’s attorney will be in charge of preparing the items needed for closing (closing documents, schedules, certifications, lien releases, etc.)  By getting the attorney involved early in the process, it will give him plenty of time to deal with issues that need to be resolved to consummate the transaction.  For example, if a selling entity was administratively dissolved because the seller hasn’t filed annual reports in two years; it is better the attorney reinstate the corporation right away rather than try to expedite the reinstatement a week or two before closing and potentially delay the sale.    

By getting an attorney involved from the beginning, the attorney can look for and help to solve potential problems before they cause an issue which could harm negotiations.

Tina: How would a business owner get the most out of working with an attorney? What tips do you have for working with an attorney when selling a business?

Chris: As previously mentioned, getting the attorney involved early in the transaction is key to getting the smoothest possible closing in the sale of a business.

 

Tina: As an owner looking to sell my business, how can I minimize fees when working with an attorney?

Chris: To minimize fees when working with an attorney, a client first needs to understand what it is that an attorney is ultimately providing to it.   An attorney’s stock in trade is his time and experience

The way to minimize legal fees is to make the most efficient use of the attorney’s time.  This does not mean cutting corners or impairing the attorney’s ability to do his job.  However, if a client has questions for his attorney, then create a list and set up a time to discuss them, rather than send them piecemeal over several calls or emails. If the attorney has several action items for the client to complete, the client should complete them timely to avoid unnecessary follow up correspondence on the status of completion.  Also, the client should organize financial documents and other schedules prior to sending them to his attorney.  Efficiency is the way to minimize legal services without taking away from the substantive tasks an attorney needs to complete in order to fully represent the client. 

 

Tina: I am selling my business for $5M. What are typical legal fees for a transaction of this size?

Chris: This is a common way for business owners to approach the cost of legal services, but they are asking the wrong question (and worse they could ask it to the wrong lawyer).  It is true that generally speaking the higher the transaction price, typically the more complicated the legal work.  However, that is not always necessarily the case.   You might have a $5M transaction that is actually very straightforward despite the transaction price.  On the other hand, you might have a transaction that is only worth $120K, but there might be significant issues and obstacles that an attorney has to deal with to get the transaction to close.

So if a business owner approaches a lawyer and says, “I am selling my business for $5M.”  The lawyer says “Sure, a $5M transaction is going to cost $12,000 in legal fees.”  The client might think, that’s less than half of one percent of the entire transaction, I am getting a deal!  But it might be that this transaction is so straightforward, $6,000 is a fair price for the legal work involved.

Therefore, the more applicable question is “I am selling my restaurant with a liquor license” or “I am selling my gas station that I own with two other partners.”  The type of transaction will give the attorney a much better idea of what the legal costs will be, independent of the purchase price.    

 

Tina: How can an attorney and business broker work together as a team to ensure a successful transaction?

Chris: Ideally, the attorney and business broker should both be involved in the negotiation of the final terms of the contract. Attorneys tend to be risk adverse while business professionals tend to be risk acceptant.  Each party therefore brings a separate perspective to the transaction and by working together the attorney and business broker can ensure that the contract is offering the most attractive terms for their client, and is structured in such a way that it is likely to smoothly and successfully close.

 

Tina: What are the most common legal mistakes buyers and sellers of businesses make and what advice can you offer to help them avoid these pitfalls?

Chris: The most common mistake in general that buyers and sellers make is approaching the negotiation of a business without the proper mindset and preparation.  While there are many negotiation philosophies that one can utilize, I tell each client that they should never enter into a negotiation that they are not willing to say no and walk from a deal that he is uncomfortable with.   A seller desperate to sell his business and retire, or a buyer who is terrified of losing out on what he perceives to be a great opportunity will almost always regret the deal terms he strikes without having a drop dead limit.

While there is nothing wrong with putting the best spin possible on the business, if a seller goes too far by inflating revenue statistics or offering “projections” which are not factually supported by the business history or market trends, a seller could find himself with a buyer who will feel that he has been cheated.

As far as legal pitfalls, for sellers it is definitely whey they get into situations where the buyer is going to pay all or part of the purchase price over time (seller financing).   While sellers often accept promissory notes and security agreements to secure payment, it exposes a number of potential headaches for the seller.  If a buyer is unsuccessful in operating the business, gets buyer’s remorse, or something else happens to negatively impact the buyer’s ability or desire to pay the seller, a buyer may look for ways to blame the seller and justify their non-payment.  If selling, you prefer a clean break if possible and when the deal is closed, it’s closed.

For a buyer, not paying enough attention to the “fine print” of the transaction can be problematic.  Buyers tend to be very focused on the end game of the transaction, i.e. dreams of how successful they will be at operating their new business post-closing.  But even if something is a good financial opportunity, there may be other risks involved with a particular business or with a particular seller which are not readily apparent and could be overlooked in due diligence.  Buyers should pay attention to the limitations that sellers attempt to impose in the agreement as to what is being guaranteed. Often, it can be a red flag.

Tina: Do you have any other tips of advice for anyone buying, selling or appraising a business?

Chris: My advice is to make sure you search for competent legal professional advice, an attorney who knows what he is doing and has significant experience doing it.  Selling a business is not the same as selling real estate or prosecuting a divorce case.  There are nuances involved. Business owners should take the time to interview potential legal professionals and determine their experience, particularly in dealing with their specific type of business.

Key Points from our Conversation

  • Having audited financial statements is often beneficial as those numbers are seen to be more reliable than compiled financials, reviewed financials and tax returns.

  • It is not that most qualified appraiser cannot figure out what to do, but most companies do not want to pay for an appraiser to learn as they go.

  • Appraisers and lawyers get paid for their time and advice, and appraisals take a great deal of time and advice to do correctly.    

  • Business owners should ask, given the purpose of the report, whether a full report is necessary or even advisable.

Interview

Tina: What are the top mistakes that business owners make when looking to establish a value for their company?

Peter: I work exclusively with closely held and employee owned companies. The most common mistake that these business owners make is in assuming that there is a magic black box that can be used to value their business. The fact is that instead of one process, there are several processes for determining a value. The process chosen by the appraiser depends upon the purpose of the valuation, the date of the valuation, the size of the business, the type of equity being valued and countless other factors. For example, a business owner that needs a valuation for gift tax purposes should not rely upon a valuation conducted when his partner got divorced two years ago. Each individual engagement needs to comply with the processes appropriate for the purpose of the appraisal. 

Another mistake, common to small business owners, is that they rely too often on anecdotal information when deciding how much they believe their business is worth. Instead of seeking advice from a professional, they rely on stories from friends and colleagues who recite how much similar businesses may have sold for in the past. While it is useful to have that information, more often than not it doesn’t tell the whole story. For example, I worked with a company that was convinced that their business was worth $1 Million, simply because a competitor that had similar sales revenue sold their business for $1M. When we dug into the details of the sale, the story was quite different as the purchase price included real estate valued at $700,000. Our company did not have dirt to sell, so the value of the company was much less.

Finally, many small business owners run personal/non-operational expenses through their business that reduces profits. For tax purposes, this may help the business owner in the short term, but in the long term, it reduces the value of the business. Business appraisers will add back a number of those expenses when arriving at a value. The better practice, when preparing a business for sale is to run your business as efficiently as possible to present the most accurate picture of your businesses operations.

 

Tina: Why does it cost so much and take so long to have my business appraised, and what are the benefits?

Peter: As a transactional attorney and business appraiser, I tend to take exception to the premise that appraisals cost “so much,” but I also understand where that idea comes from. It may well be that the cost of an appraisal exceeds a business owner’s expectations, but (at the risk of sounding glib) that is mostly because our industry has done too little to explain the value of our services. Often our clients are focused on extracting a number, and indeed, if all they want is a number, that should not take very long. But the number represented by a conclusion of value is the least significant part of the service that we provide. The greatest value that we provide is in illustrating, clearly, how we arrived at a conclusion of value. When an appraisal is done correctly, the report will show the business owner how efficiently the business is operating, how it compares with its competitors, what other businesses have sold for, how to identify competitive and operational strengths and weaknesses, and how to answer any concerns that a potential buyer might have. Every publicly held company provides this information to its owners, therefore small business owners should have it too.

Appraisers and lawyers get paid for their time and advice, and appraisals take a great deal of time and advice to do correctly. There is no one-stop-shop for business data, no short cut for interviewing key personnel, and no single method for gathering the information necessary to accurately present the financial status of the company. An appraiser must know where to look to obtain usable industry information to compare our company with, they must be knowledgeable enough to identify comparable sale information, public company information and have enough experience to assess the proper discounts for the interest being valued. All of that, if it is being done well, takes time. To prepare a report that communicates that information in a way that is usable to the owner, and will be acceptable by a court, the IRS, or department of labor takes even more time. In my estimation, it is worth paying for an appraisal that does all of those things.

 

Tina: What are some questions to ask potential business appraisers before hiring one?

Peter: As with hiring any professional, experience is important, and clients should ask about the number and types of appraisals that an appraiser has done. For me, the type of appraisal has more to do with the purpose of the appraisal, and the size of the company, rather than appraisals related to particular industries. It’s not that most qualified appraisers can’t figure out what to do, it is simply that most companies don’t want to pay for an appraiser to learn as they go. Appraisals for ESOP owned companies, for example, or pass-through entities like S Corporations and LLC’s have some special characteristics that, if an appraiser has worked in those areas, you won’t have to pay them for the learning curve.

Business owners should also ask how long it will take to issue a completed report. While each engagement is different, a time frame of three to four weeks after all of the information has been provided to the appraiser is fairly typical. Obviously, cost is an important issue. Business owners should ask, given the purpose of the report, whether a full report is necessary or even advisable. Under some circumstances, an abbreviated report may be called for, and that will necessarily reduce the cost. In fact, sometimes it is best not to have a written report at all. Also, many appraisers will work off a flat fee. This has the added benefit of presenting a known cost, although it may also create an incentive to cut corners if the engagement becomes more complicated than the appraiser originally thought. Again, the experience of the appraiser is obviously important when considering a flat fee.    

There is no one-stop-shop for business data, no short cut for interviewing key personnel, and no single method for gathering the information necessary to accurately present the financial status of the company.

Tina: Are valuation guidelines consistent for all business appraisals performed for tax purposes?

Peter: All good answers being with ‘it depends.’ In the case of taxes, it will depend on the taxing authority (federal or state), and the court that might be considering the issue. The IRS has produced guidance for valuation of small businesses through a number of sources (regulations, revenue rulings, etc.), and if all we had to care about was the IRS, things would be fairly consistent. But the IRS is not always the final arbiter of tax issues and courts will often come to different conclusions from the IRS.  Sometimes the IRS will acquiesce to those decisions, and sometimes the IRS will disagree with a court’s ruling.

One of the longest running, and most active, areas of divergence between the IRS and courts (and a lot of practitioners) is whether companies that don’t pay tax (S Corporations and partnerships) should be valued as if they do pay tax. Another area of controversy is whether (and how much) of discount equity owners should take when they gift privately held and minority owned equity in companies.

It’s also important to understand that courts in different areas of the country apply different standards as well, so an identical business located in Delaware, for example, might have a different value than a business located in Florida, simply because the courts may view discounts differently. So, while the IRS, courts, and practitioners agree on a number of guidelines, there are too many areas of conflict for me to say that the guidelines are consistent.    

 

Tina: Will you need to perform any forensic accounting when appraising my business?

Peter: I have never had an occasion where forensic accounting was required, though I can imagine in a litigation context a court might order a forensic accounting prior to a valuation. Having audited financial statements is often beneficial, as those numbers are seen to be more reliable than compiled financials, reviewed financials and tax returns. And, while it is not necessary to have audited statements, I believe that third parties view companies with audited statements differently than compiled statements, and I do take that into account when conducting an appraisal. 

 

Tina: When is the best time to sell, merge or recapitalize my company?

Peter: Every business is different, and every business owner is different, which means that the best time to sell is owner dependent. Having said that, the best time to sell is always when you have planned for the transaction and when you are ready. Business owners that recognize the need to plan for the sale of their business are always in the best position to determine when they are ready to sell.  More importantly, businesses that have planned for a sale are more likely to sell because they have all of the necessary documents to complete a sales package including accurate financial statements, corporate documents, employment agreements, vendor agreements and an appraisal report to support the sales price.

I worked with a client that wanted me to assess a business for a potential purchase. The financial statements were incomplete, they had an incomplete list of inventory, assets and equipment, no corporate documents, and they still wanted $500,000. From everything presented it appeared to me that this was a fire sale, and in fact, after some digging, I uncovered a recent bankruptcy by the owner. I also found that they had an outdated inventory, and were in a complete mess when it came to operations. When I pressed their CPA, he admitted that creditors were at the door, and they were reacting to that with a desperation sale. 

Every business is different, and every business owner is different, which means that the best time to sell is owner dependent.

Tina: Who are PEGs? Does it make sense to sell my business to a PEG?

Peter: PEGs are Private Equity Groups, or in other words, companies that acquire businesses often for the purpose of growing them and selling them for a profit. I don’t do a lot off work with PEGs because they tend to focus on larger companies, but they can be part of a well-crafted succession plan. They often make good buyers, as they usually pay investment value (which is generally higher than fair market value), and they have experience buying and selling businesses; so transactions have a better chance of closing in a reasonable time. In addition, they generally have access to sufficient cash so that bank financing or seller financing is not an issue. And for the groups that may not have cash set aside, they usually have excellent banking relationships so that bank financing is generally not an issue.

For business owners that have a personal attachment to their business, and their employees, PEGs may not be the best buyers, as they usually engage in aggressive restructuring, especially if they already have a footprint in a given industry. 

 

Tina: What are the most common reasons you perform a business valuation?

Peter: I generally perform valuation for one of three purposes. We do appraisals for companies owned by ESOPs.  We do valuations for estate planning and gifting for small business owners.  Mostly, we do transactional valuations for shareholder buy-outs, buy-sell agreements and buying and selling closely held businesses. There are a whole host of other reasons to have appraisals done, but those are the three we see most. 

 

Tina: In your opinion, what are the minimum credentials that a business appraiser should possess? What additional credentials are valuable? What is the best way to locate a reputable business appraiser?

Peter: I am certified with NACVA. There are other reputable certifying bodies that require a base level of experience, knowledge and continuing education as well. There are a number of appraisers that have credentials from multiple certifying bodies and I am not sure that is necessary. In some limited circumstances that can create issues in deciding which ethical standards to use.  Ask the appraiser that you talk to what the requirements were for obtaining the designation(s), and what their continuing education requirements are. By asking the right questions you can get a feel for which designations are a better fit for your business.

Finding qualified appraisers seems less difficult now. I am biased, but for what we do (shareholder issues, ESOPs and estate tax valuations), I think referrals from attorneys are the best way to find reputable appraisers.  Accountants are also helpful in identifying qualified appraisers as well.  In either case, I think it’s important that you find someone who has worked with the appraiser previously in order to get a real sense of the work that they do.

Lastly, NACVA (and probably all the other bodies as well) provide a list of appraisers with some basic background information. After you have identified two or three, it is usually a good idea to meet with all of them to see who might be the best fit.      

The IRS is not always the final arbiter of tax issues and courts will often come to different conclusions from the IRS. 

Tina: What was the most challenging appraisal you have ever done? Was there something that the business owner could have done to prevent the problems that arose?

Peter: The single most challenging appraisal was also the most enjoyable, and best illustrates the point I was trying to make earlier about the purpose of the engagement. The engagement started off as an estate planning engagement for a small manufacturing company. During the course of the engagement, after a draft report had been sent, but before issuing the final report, the owners were approached by a third party with a generous offer, which was communicated to our office. Our engagement morphed into assessing the offer made by the third party (which was well in excess of the value arrived at for gift tax purposes). Eventually, when they declined the offer, we went back to completing the gift tax report. The third party offer, however, raised a number of issues for our conclusion of value for gift tax purposes.

Ultimately, because our report addressed (with clear support) why the third party offer did not significantly impact our earlier conclusion of value, we were confident in that value, and our client and their advisors were comfortable as well. I do not believe that the owner could, or should, have done anything differently. While it may have been tempting not to disclose the offer to me as the appraiser, I think it was the correct thing to do. By including the information in our report, in the event of an audit, we have minimized what would otherwise be a large issue if the IRS discovered it on its own, and found it omitted from our report. 

 

Tina: Do you have any other tips of advice for anyone buying, selling or appraising a business?

Peter: Where to start? If you own a business, start planning for the day when you will no longer own the business. One business cycle is not too long to start planning, but three years before you would like to sell should be sufficient. If you are buying a business, figure out what it is that you are buying. If you are buying the future income of the business, figure out where that income is coming from, and decide whether it will transfer to you. If that is assets, or inventory, make sure that the assets are usable, and that the inventory is still good. If it is intellectual property, make sure that you have the right to acquire it. If you are appraising your business, talk with an appraiser about what the purpose of the appraisal is. In addition, learn what the process is. Identify what processes are necessary, useful, and/or unnecessary. Identify the costs for the necessary portions, and decide whether you will get sufficient value to pay for the parts that will be useful.