For the sale of a company, the parties involved can choose to structure the deal as an asset sale or a stock sale. An asset sale is when a company sells all of its assets or a portion of them. In this type of deal, the seller remains the legal owner of the business but no longer owns the assets sold. Under a stock sale, the buyer purchases equity from the selling company’s shareholders. There are several different reasons for sellers and buyers to pursue one type of transaction over the other.
This is the acquisition of individual assets and liabilities, and the seller must transfer their individual net assets at their fair market values. If the purchase price exceeds the aggregate tax basis of the assets being purchased, the buyer gets a step-up on a tax basis to fair market value from the company’s original investment. This benefits the buyer as it allows them to depreciate or amortize the acquired assets each year. It also benefits the buyer, as they are able to specify the liabilities they are willing to assume while leaving other liabilities to the seller. And because there is limited exposure to unknown liabilities, the buyer doesn’t need to spend as much time, money, and resources on extensive due diligence procedures. The buyer also gets to choose which employees they want to keep without affecting their unemployment rate.
An asset sale does have its drawbacks for sellers. For example, they face a double tax in the sense that they pay a capital gains tax at the entity level if the assets were appreciated, and on top of that, the individual shareholders are taxed on their assets sold. For this reason, the seller can often ask for a higher sale price.
In an asset sale, both buyers and sellers should consider that transferring assets can be complicated, and any contracts regarding those transfers may need to be renegotiated. Also, contracts with customers and suppliers may need to be renegotiated.
In this type of transaction, the seller must still liquidate any assets that were not purchased, pay any liabilities that have not been assumed, and deal with any leases that need to be terminated.
Additionally, minority shareholders who do not wish to sell their shares can be forced into accepting the terms of an asset sale, which is unlike the case with a stock sale.
An asset acquisition can be less complicated when it comes to securities laws because the buyer and seller usually do not have to comply with various securities laws and regulations.
In this type of acquisition, there is a transfer of ownership of the actual company as an entity, but it continues to own the same assets and liabilities. The buyer purchases the equity from the seller’s shareholders.
Stock sales do not involve extra levels of negotiation regarding long-term contracts with customers or suppliers. Both buyers and sellers can benefit from this relative simplicity. Cash goes directly to the shareholders, and transferring stock is less complicated than transferring assets. The buyer does not have to deal with retitling and revaluing individual assets and can usually assume licenses and permits with less red tape. They may also be able to evade paying transfer taxes. Because of the simplicity of stock sales, hedge funds commonly use them for M&A transactions.
Remember that a drawback of stock sales for acquirers is the inability to step up the tax basis of the purchased net assets to their fair market value, and instead, they are subject to more capital gains taxes upon any sale of stock. This is because the legal ownership of the acquired assets goes unchanged, as they remain legally held by the seller. The buyer also does not get to pick and choose which assets and liabilities it will assume under ownership. The only way to eliminate unwanted liabilities is to create separate agreements that give them back to the sellers.
Additionally, some shareholders can opt to hold out on selling their stock shares, which can drag out the transaction and drive up associated costs. If there are a lot of shareholders, it can also complicate the process because securities laws must be complied with. An acquirer can also face more risk in a stock sale because of all the contingent risks that may be unknown or undisclosed.
A stock sale cannot be conducted for the purchase of a sole proprietorship, partnership, or limited liability company (LLC). This is because these types of business entities simply do not have stock. An alternative would be that an owner could sell their partnership or membership interests instead of the company selling its assets. If the company is incorporated as a C-corporation or S-corporation, the buyer and seller must agree on whether to structure the transaction as an asset sale or a stock sale.
What’s Right for Me?
Choosing which type of deal to pursue can have significant consequences for both the buyer and seller. Both parties need to understand and carefully consider the pros and cons of each type of sale with the guidance of professionals. M&A experts can help clarify your options and have experience in dealing with these types of transactions every day. This will give you peace of mind and make the process go much more smoothly than trying to navigate complex negotiations on your own. It can also be far more beneficial to your bottom line.
You can read more about stock sales versus asset sales here in our previous post by our managing director, Clinton Johnston.
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