Buying an existing business makes good commercial sense and is less risky than starting from scratch. When you buy a business, you take over an operation that’s presumably generating cash flow and profits, has an established customer base and reputation, and employees who are familiar with all aspects of the business.
But in the purchase of a business, a very important consideration is whether a buyer should purchase shares in a company or purchase assets of the business directly from the company itself.
In law, a company and a business are separate concepts, and the purchase of a company has different legal consequences from the purchase of a business.
PJ Veldhuizen, MD of Gillan & Veldhuizen Inc., says that a clear understanding of the two is useful to investors looking to buy a business versus buying a company.
“Simply put, a business will be owned and operated either by a natural person (in other words, a sole proprietorship) or by a legal person such as a company. A useful way to avoid confusing a company with its business is to remember that a company could own and operate a number of different businesses.”
Buying a business
Purchasing a business is preferable for a buyer who wishes to acquire only some of the company business assets and does not wish to take over all of the company’s liabilities, or if there is a danger of undisclosed liabilities in the company.
Advantages of buying a business or company assets include:
- The liabilities usually remain with the seller company and do not transfer to the buyer.
- The buyer can ‘cherry pick’ certain assets and leave any unwanted assets with the seller. The buyer may agree to take on certain liabilities of the business.
- Subject to certain criteria, the sale may be classified as the sale of a ‘going concern’ which may result in no VAT being payable on the transaction.
- A purchaser must remember that there is a deeming provision in the labour legislation that deems the staff to be transferred to the new entity with all accumulated employee privileges.
Buying shares
The purchase of shares in a company would be more appropriate where the seller would rather sell shares in the company vs selling the business out of the company, or where one of the business assets is an immoveable property which the buyer wishes to acquire without going through the actual transfer process. The sale of shares is also more tax-efficient than the sale of a business.
“Certain agreements will also determine the success of the business like licence, lease and supply agreements, for example,” adds Veldhuizen.
All business assets remain with the company – it is the composition of the ownership of the company that changes.
Tax considerations and factors relating to the employees in the business will also impact your buying decision.
It is for these reasons that it is advisable to obtain legal advice on the best approach to ensure that the legal agreements that regulate each transaction are correct and cover all aspects of the purchase, which will ultimately save you time and money, advises Veldhuizen.
Agreements
Aspects that cover the sale of a business agreement to consider are:
- which assets are to be sold, and which liabilities (if any) are to be transferred or excluded;
- whether any consents or approvals are required before important contracts can be transferred;
- the allocation of the purchase price to the assets;
- the date upon which the purchaser will become the owner of the business;
- the manner in which delivery of the assets will take place;
- whether the transaction will be zero-rated for VAT, provided both the seller and the purchaser are registered VAT vendors;
- whether the transaction is to be advertised in terms of section 34 of the Insolvency Act, No. 24 of 1936; and
- whether the seller makes any warranties regarding the business, and whether the seller has put a limit on its potential liability to the purchaser, should any warranty be breached.
A sale of shares transaction will typically cover aspects such as:
- how many shares in the issued share capital of the company are to be sold;
- whether the sellers have any shareholders’ loans against the company, and whether those will also transfer to the purchaser;
- the share price;
- whether any approvals or consents are required before the shares may be sold (such as obtaining the consent of any other shareholders);
- the manner in which delivery of the shares will take place;
- whether the seller makes any warranties regarding the shares and the company, and whether the seller has put a limit on its potential liability to the purchaser, should any warranty be breached.
It’s important to understand the commercial, taxation and legal risks associated with both types of transactions in order to select the most suitable type of contract for the particular sale.