So you’ve found a buyer, you’ve pre qualified them to establish they have the financial resources and skills to buy the business and aren’t just kicking tyres or attempting to find out confidential information.
Before you open the books of your business for due diligence you want a signed contract to sell the business. This is known as a “sales and purchase agreement” or “sales contract” or “purchase contract” and various derivations of this.
Note: this article does not provide an agreement for you to use for a sale and purchase of a business. You’ll need to either buy one from ADLS or your lawyer to assist. Regardless, you should always ask a lawyer to review the agreement even if a standard ADLS agreement is used.
In NZ we can either get lawyers to write up a bespoke agreement or, for small & lower mid-market businesses, use a standard contract called the Agreement for Sale and Purchase of a Business. It is produced by the Auckland District Law Society (ADLS), and is based on the experience of commercial lawyers selling businesses. Every once and a while it is updated with the “Fourth Edition 2008 (3)” being the most current at the time of writing (2017).
I recommend you always use a lawyer when selling or buying a business. Note that a bespoke agreement will increasingly be used the larger the business.
Legal Disclaimer
The information contained in this site is for general guidance on matters of interest only. The application and impact of laws can vary widely based on the specific facts involved. Given the changing nature of laws, rules and regulations, and the inherent hazards of electronic communication, there may be delays, omissions or inaccuracies in information contained in this site. Accordingly, the information on this site is provided with the understanding that the author is not herein engaged in rendering legal services. As such, it should not be used as a substitute for consultation with professional legal advisers. Before making any decision or taking any action, you should consult a lawyer.
Here is a list of the different sections that need to be completed, considered, and understood. The “Front Page” is the first page of the agreement and covers many of the most important parts of the agreement. The “General Terms” are the standard clauses that go with every agreement. The “Further Terms of Sale” are the additional clauses that cover particular industries or circumstances. They may be bespoke clauses or taken from the Useful Clauses booklet. Schedule 1 lists the assets, Schedule 2 excludes people from restraints of trade, Schedule 3 covers the GST, and the cover page lists the parties contact details including their lawyers.
This article assumes you are using the standard ADLS contract and helps walk you through many of the key decisions you’ll have to make.
Front Page
General Terms
1.0 Definitions, notices and interpretation
2.0 Deposit
3.0 Possession and settlement
4.0 Risk and insurance
5.0 Stock in trade
6.0 Vendor’s warranties and undertakings
7.0 Restraint of trade
8.0 Conditions and terms of securities
9.0 Approval of lease
10.0 Notice to complete and remedies on default
11.0 Non-merger
12.0 Goods and Services Tax (GST) – Zero-rating
13.0 Supply of going concern
14.0 Dispute resolution
15.0 Agent
16.0 Limitation of Liability
17.0 Counterparts
Further Terms of Sale
See below for discussion
Schedule 1
List of Tangible and Intangible Assets
Schedule 2
List those directors and shareholders who are excluded from the restraint of trade
Schedule 3
GST Information
Signatures
Directors signatures (for an “asset sale”)
Cover Page
The parties and their lawyers’ contact details.
Let’s start at the top.
Date is left blank until all parties has signed the agreement.
Vendor is the business company name unless it is a different entity such as a sole trader. Not the trading name which a few lines down.
Purchaser will often incorporate an entity through which to trade after they have purchased the company. So their names are used with the crucial phrase “and / or nominee”, this way the buyers can later nominate their newly formed company to be the purchaser (done through their lawyer or accountant). If they forget or fail to nominate another party they complete the purchase under their own names.
Purchase Price. It is in the purchasers interest to maximise the split of purchase price in favour of tangible assets over intangible assets and vice versa for the vendor. This is because of the tax handling of tangible vs intangible assets and it will be one point in negotiations.
Stock in trade is treated separately to other assets. We estimate this stock at the time of the agreement and confirm it at settlement. More on this below.
It is assumed that all businesses are going conerns and so figures are “plus GST if any”.
Deposit is usually 10% of the purchase price. It is payable to a Trust Account. I recommend this is paid “on signing this agreement”.
Possession date might one of the first sections of the agreement but you don’t decide on it until you have all the conditions sorted out. For example, a finance condition allows 3 weeks, and landlord consent might require 4 weeks so based on these two conditions alone the possession date needs to be at least 4 weeks plus some days for the lawyers to organise settlement. One way around this is to use a phrase like, “5 working days from the date this Agreement becomes unconditional”.
Maximum percentage stock value adjustment see clause 5.0 Stock in trade below.
Turnover warranty states the turnover is true and correct, it can be done on the last financial year or the latest up to date figures.
Vendor’s assistance period: a period of time to assist the new owner understand and run the business. Simpler businesses may only need a couple of weeks of assistance, more complex businesses may need a few months or even longer.
Vendor’s restraint of trade: limits competition for the new owner from the old owner.
Lease Details. Copy from the lease agreement. Remember you want the landlord’s entity name not personal name. The buyer will want to know the rent review date to understand rent increase risk. The rent does not include outgoings and GST.
Finance Condition. Your broker will have pre-qualified the buyer to establish if they have sufficient funding. So you can use this information or something like “Purchaser’s Choice” and “Sufficient to Complete Purchase” if you don’t have much information about their financing.
1.0 Definitions
Note holidays and the Christmas period excludes a number of days as working days as per clause 1.1(17):
(17) “Working day” means any day of the week other than:
(a) Saturday, Sunday, Waitangi Day, Good Friday, Easter Monday, Anzac Day, the Sovereign’s Birthday, and Labour Day; and
(b) a day in the period commencing on the 24th day of December in any year and ending on the 5th day of January in the following year, both days
inclusive; and
(c) the day observed as the anniversary of any province in which the premises are situated.
2.0 Deposit
2.0 Deposit
2.1 The purchaser shall pay the deposit to the vendor or the vendor’s agent immediately upon execution of this agreement by both parties or at such other time as is specified in this agreement, time being of the essence as to each such time.
Some agreements state that the deposit is payable on the agreement becoming unconditional. I recommend the deposit be taken on the date of this agreement. Sometimes the purchaser is only willing to pay when all their conditions have been satisfied. However, this means the purchaser has no commitment or accountability to the agreement, and often leads to a purchase falling through as they were never serious buyers.
If you have a deposit and the purchaser breaches the contract, for example by unilaterally “cancelling” the contract without reason, then you may be able to keep the deposit through taking legal action. The purchaser, knowing this, will be much more careful in how they treat their contractual obligations.
3.0 Possession and Settlement
On the front page, the possession date is specified. The possession time is 5pm unless otherwise stated. The possession date is also the settlement date (clause 1.1(14)).
Just like purchasing a house, the two parties respective lawyers follow a standard settlement process. However, that’s where the similarity ends, selling a business is a much more complex transaction. The vendor needs to assign the lease with landlord written consent, transfer asset titles, execute the release of any security interests over assets, assign intangible assets, and sign any restraint of trade covenants. The vendor needs to give the purchaser the assets, stock, business records, and keys etc of the business.
4.0 Risk and Insurance
In short, before possession, if anything breaks or the the business burns down, then it is for the vendor to rectify at the vendor’s cost.
5.0 Stock in trade
(and Maximum Percentage stock value adjustment from the Front Page)
Often a source of confusion with both parties. This shouldn’t be something for negotiation, it should be just a simple fact. On settlement date a joint stock take is conducted and agreed. If the stock is less than estimated then its unfair to expect the purchaser to pay for something that does not exist. On the other hand, if stock is much higher than estimated it is also regarded as being unfair for the purchaser to suddenly need to find additional financing to pay for unexpected stock. It may lead to the purchaser being unable to settle.
So on the front page is Maximum Percentage stock value adjustment which applies to higher than expected stock, with the amount over the percentage called the “excess”. Under this clause, the purchaser can choose to accept all or part of the excess, and which stock items to keep. The purchaser has five working days to tell the vendor of their decision. For example, if you have $50,000 of stock, the maximum percentage is 10%, and final stock turns out to be $60,000, then the purchaser decides what to do with the $5000 excess.
This might not be important for a cafe, the parties may agree “near enough is good enough”, but it can be critically important for large businesses where stock is a large part of the purchase price.
6.0 Vendors Warranties
Once you sign the agreement and before the purchaser takes possession you’re in a transition phase where you have obligations to the new owner.
Even though you’ve sold the business you have to keep the business running smoothly up to the possession date (6.2(1)). That holiday is going to have be on hold till then and probably for a few weeks after that while you assist the new owner.
In this transition phase you can’t enter into any new arrangements without the new owner’s permission, and must let the new owner know of any important issues that arise.
In this transition phase you’re also obliged to keep the assets in operational order including fixing them if they fail e.g. if that truck’s transmission suddenly needs to be overhauled, then that’s at your cost.
7.0 Restraint of Trade
This stops vendors from becoming competitors for a period of time in a certain geographical area, perhaps 2 years and sufficient km to keep them out of the precinct, suburb, town, region or country. In effect, why agree to purchase a business when the owner can just set up down the street and keep much of the business that relied on personal relationships and reputation.
8.2 and 9.0 Approval of lease
One of the major reasons for a sale falling apart or being delayed is sorting out the lease with the landlord. In theory the landlord cannot “unreasonably” withhold approval of assigning the lease to a new tenant. In practice the landlord is nervous about being building a new relationship with a new tenant that they don’t know anything about. In theory they can’t change the terms and conditions, the lease amount, or the term.
Then there is reality. It’s important that when the prospective purchaser shows real interest in the business, that they meet with the landlord to facilitate an easy assignment of lease.
Also remember the lease rental excludes outgoings and GST, not the transaction amount in your bank account.
12.0, 13.0 and Schedule 3 GST
This is one of the more complex parts of selling a business and should be discussed with your lawyer and accountant. I’d like to point to my disclaimer statement at the top of this article, I’m not a lawyer…enough said.
Most business sales do not require the payment or claiming of GST because they are “zero rated“. To be zero rated requires, amongst other factors that the business is sold as a “going concern“, that no part of the property of the business is a “principal place of residence”. The vendor needs to be careful assuming that the business is zero-rated because if IRD decides it should not be and GST needs to be applied, then they will seek the GST from the vendor. The vendor needs to be really careful if a residence is included in the sale of the business.
Schedule 1 Assets
Ensure that all assets are listed as per what they saw when they inspected. The list should not just be out of accounting records but an actual list of assets as some assets might have been expensed or scrapped and so taken out of the accounting records, but remain physically part of the business operation. If an asset is incorrectly included in this list, it still needs to be provided. Asset lists require some care.
Schedule 2 Restraint of trade exclusion
List of directors or shareholder who are excluded from the restraint of trade. For example this might include silent directors, or shareholders with shares in competing companies.
Signature
Most buyers (95%) of small business purchase a company’s assets rather than company shares. This avoids any unknown liability associated with the vendor’s limited liability company. If it is an asset sale then best have all directors sign the sale and purchase agreement. If it’s a larger company with a board then perhaps you just need a majority of the directors to sign. Sometimes one director who has the board’s authority can sign on the company’s behalf. In the unusual circumstance of selling and buying shares, then its the shareholders who will need to sign the agreement.
The front page, 17 clauses and three schedules tend to apply to most Agreements for Sale and Purchase of a Business so are put in the body of the standard agreement. However, no business sale is exactly alike so from time to time you need particular additional clauses to cover particular circumstances. The good news is that the Auckland Law Society has come up with a list of 73 clauses that cover most of these situations. For situations outside of this your lawyer would draw up a clause.
In order to make a good agreement consider whether a particular circumstance will be covered by the general clauses. If not, a broker will consider whether any of the 73 clauses below will cover the situation. If not, a broker will consider whether a simple bespoke clause can be written, or whether they need to refer the client or purchaser to their lawyer. Regardless, it is highly recommended the respective lawyers always review the agreement before the client and purchaser sign it.
Business Sales Agreement “Useful Clauses”
1. Conditional on – Solicitor’s Approval for Purchaser (“Condition Precedent”)
2. Conditional on – Expiry of Prior Agreement (Back Up)
3. Conditional on – Expiry of Prior Agreement (Back Up) – Alternative
4. Conditional on – the sale of purchaser’s property/business
5. Conditional on the purchaser’s existing sale becoming unconditional
6. Conditional on – the settlement of the sale of the purchaser’s property/business
7. Sale on Behalf of the Receiver of the Vendor Company
8. Cash Out Clause
9. Contemporaneous Settlement Clause (Conditional) – between same parties
10. Contemporaneous Settlement Clause (Conditional) – Alternative Version – between different parties
11. Co-reliant Agreements Creating
12. Ratification of Shareholders
13. Confidentiality (version one)
14. Confidentiality (version two)
15. Lim Report
16. Training
17. Conditional on – Purchaser Obtaining Extension of Lease for the Premises
18. Conditional on – Purchaser Being Granted a New Lease for the Premises
19. Vendor to Grant Lease of Freehold
20. Vendor to Arrange Lease Where Vendor and Landlord are Associated Parties but Different Entities
21. Conditional on – Being Granted Right of First Refusal of the Premises
22. Conditional on – Approval of Books of Account
23. Conditional on – Verification of Turnover
24. Conditional on – Verification of Turnover (Purchaser to Attend the Business)
25. Purchaser’s Right of Access
26. Conditional on – Due Diligence
27. Conditional on – Due Diligence (Alternative Form)
28. Excess Stock
29. Work in Progress (Valuation)
30. Work in Progress (Work Yet to be Invoiced)
31. Work in Progress (Consignment Stock)
32. Goods (Sale on Behalf of)
33. Product Liability Indemnity from Vendor
34. Vendor’s Indemnity of Assigned Contracts
35. Plant to be at Valuation
36. Plant Value
37. Stock on Consignment
38. Closed up Business
39. Vendor’s Warranty as to Motor Vehicles
40. Relocation of the Business
41. Premises to Comply with Local Health (version one)
42. Premises to comply with Local Health (version two)
43. First Right of Refusal for Tenancy if Demolition Clause Invoked by Lessor
44. Conditional on – Service Station Supply – Approval of Supply Agreement
45. Conditional on – Service Station Supply – Assurance of Supply
46. Conditional on – Service Station Supply – Oil Company’s Right of First Refusal to Purchase Business
47. Conditional on – Transfer or Assignment of Franchise
48. Conditional on – Approval of Franchise Agreement by Purchaser
49. Liquor Licence Condition – With existing licence.
50. Gaming Machine Warranty & Undertaking
51. Brewery Loan Agreement
52. Gaming Reports
53. Terminate Site Agreement
54. Breweries Not Exercising Their First Right of Refusal
55. Transfer of Lotto Agency
56. Conditional upon Purchaser’s approval of a new Lotto Agency Agreement
57. Right to Use Name (Company)
58. Right to Use Name (Individual)
59. Right to Use Name (Vendor Retains Rights)
60. Recipe Clause
61. Prepayment Vouchers
62. EFTPOS
63. Yellow Pages
64. Deposits Paid
65. Bankings up to Date
66. Accounting for Debtors
67. Vendor Finance (Alternative Clause 1)
68. Balance of Purchase Price Secured to Vendor
69. Earthquake clauses
70. Employee Clause for “other employees” with EPP in place
71. Employee Clause for “other employees” (where No EPP in place)
72. Employee Clause for “Vulnerable Employees”
73. Real Estate Agent Authority Compliance Clause
Here’s an explanation of some of the key ones.
Due Diligience
Almost all agreements have a due diligence clause because we don’t provide prospective buyers with all the information they need during the early sales process. Clauses 26 and 27 are two ways of writing this, 26 is copied below. Perhaps you’d have 20 working days.
26. Conditional on – Due Diligence
26.1 This agreement is conditional upon the purchaser and their various professional advisers acting by and through the purchaser carrying out due diligence on the financial viability of the business and determining the satisfaction of that enquiry in all respects within [ ] working days from the date of this agreement.
26.2 The vendor will grant the purchaser such access to the business premises and all business records to the extent necessary to enable the purchaser to complete the due diligence. The purchaser shall ensure that all the information divulged and business records are kept strictly confidential other than as necessary for disclosure to its professional advisers. The purchaser shall not be entitled to and agrees not to approach the landlord, or access the premises without first obtaining the consent of the vendor.
26.3 This condition is inserted for the sole benefit of the purchaser.
Freehold premises owned by the vendor
When you sell land and buildings along with the business, common in Wellington and the rest of the country, less so in Auckland, then you need a sister agreement to this one, called an Agreement for Sale and Purchase of Real Estate. These clauses tie the business agreement with the real estate agreement and make them co-reliant, one can’t settle without the other, and they settle at the same time.
Different lease arrangements
The standard clauses allow for a simple assignment of the lease from one party to the other. However, often there is a need to change the lease terms in which case additional further “conditional” clauses may be needed. Sometimes the lease does not have long to run and, understandably, the purchaser wants to be sure they will not be kicked out by the landlord a few months down the track. Clause 17 below covers a situation where an extension of the current lease is sought and clause 18 on getting an entirely new lease. Sometimes you are selling the business but not the property, then you can use clause 19. Or the purchaser wants a first right of refusal to buy the premises.
Industry specific
There are a number of specific industry situations which commonly use special clauses including petrol stations, gaming, lotto, franchises, and industries listed for protection under the Employment Relations Act.
Hospo industry
If the incoming purchaser is unable to obtain a liquor licence then they will struggle to run the business. Clause 49 covers varies issues including the vendor maintaining the existing liquor licence, brewery loans, brewery right of first refusal, function deposits, prepaid vouchers,
Brand and Trading Names
This ensures the vendor gives up the trading name to allow the purchaser to use it. If a company name is the same as the trading or brand name then the purchaser would ask for that name to be changed and for them to be able to use it, as per clause 57.
Vendor finance
Often a better price can be had, a faster sale can be made, or a sale can be closed, through the vendor offering finance, as per clauses 67 or 68.
You can purchase the Agreement for Sale and Purchase of a Business from the Auckland District Law Society. A small business may have a business broker that will provide these forms and fill them out as part of the business broker service. I recommend asking your lawyer.