This article covers some of the key issues which need to be considered when selling a company or a business. People often say they are selling but do not know how the transaction is to be structured, e.g. by selling the shares in the company (a share sale) or by the company selling the business and assets of the business (an asset sale). From a due diligence viewpoint the issues are similar, save where indicated below. For ease we just refer to selling a business here.

ASSET SALE V SHARE SALE

The form of sale transaction is generally decided by commercial issues.  However, taxation can be a very important commercial issue.  Accordingly, tax issues should be given due consideration at an early stage to avoid expenditure being incurred in pursuing what ultimately turns out to be the wrong course of action. Whichever structure is chosen will depend upon the specific circumstances of the seller and the buyer in each transaction. 

TRANSACTION MANAGEMENT

The sale of a business is very much a team process. The team will comprise of the seller(s), its lawyers, and accountants. Good transaction management will enable the team to work in a constructive and positive manner. This, in turn, should enable the sale to proceed smoothly.

REVIEW OF THE SELLER’S BUSINESS

The seller has two objectives in a disposal: 1) to maximise the post-tax sale proceeds – by maximising the sale price and minimising the tax burden; and 2) to minimise the on-going exposure of the seller to the buyer by way of the warranties and covenants given to the buyer.  The buyer wants to get a fair deal and minimise the amount of liabilities it takes on or at least be aware of them, so this is crucial as it may have a big impact on negotiations.

To achieve this the buyer will conduct a detailed and vigorous examination of the business.  To assist the seller in achieving its objectives, the seller’s advisers must know the business as thoroughly as the buyer’s advisers will know it following their due diligence exercise.  The seller’s advisers should review all documents before they are handed over to the buyer. The seller should therefore prepare for the buyer’s due diligence by first carrying out its own investigation. This should flush out any potential problem areas and give the seller time to try and resolve them. 

The areas that a review should cover depend on the relevant business, but should include some or all of the following:-

1. Financial: Statutory and management accounts; financial history; budget forecasts;

asset values and basis of valuation; tax position and liabilities; borrowing arrangements; off-balance sheet items; shareholdings (on a share sale).

• Legal: contract review; property review; corporate review (on a share sale); validation of a number of areas covered by paragraphs a, c, d and e. 
• Trading: plant and equipment details; business volumes; major customer details; major supplier details; contracts and trading terms; market information; agency arrangements; intellectual property details, protection status and licensing.
• Personnel: payroll details; general and individual employment/service contracts; trade union organisation and bargaining rights; redundancy arrangements; pension arrangements; other benefit details.
• General: premises details; environmental liabilities; contingent liabilities; research and development programmes and status; operational/commercial issues; areas of risk; strategic issues if the seller’s business is being merged with the buyer’s business.

HEADS OF TERMS

Heads of Terms (aka Memorandum of Understanding) are a non-legally binding document.  They are used to establish the business understanding of the deal; providing the parties with realistic expectations of the contents of the full contract.

CONFIDENTIALITY

The buyer’s due diligence will be carried out before entering into a formal binding contract.  The due diligence process will almost certainly involve the consideration of information in relation to business which is not generally available in the public domain.  Enforceable confidentiality undertakings should be obtained from any prospective buyer before any information is supplied by the seller.

Commonly, the confidentiality letter will not only impose confidentiality obligations on the prospective buyer but also restrict the use by that buyer of that information for the purpose of the evaluation of the business with a view to agreeing a contract for its purchase (i.e. allowing disclosure to key people, for example its bankers, lawyers, accountants and other advisers). However, this should only be permitted on the basis that the recipient is also under the same obligation to maintain the information as confidential.

If there is a breach of a confidentiality undertaking given by a prospective buyer, the seller of a business would invariably wish to obtain an injunction rather than sue for damages.  A well drafted confidentiality letter will ensure that such an injunction can be obtained quickly through the Courts. The use of a confidentiality letter will also help avoid “fishing expeditions” by competitors.

DUE DILIGENCE

Due diligence basically means an investigation of a business by a prospective buyer before entering into a contract.  There are a number of advantages to a buyer of a due diligence investigation.  These are:-

1. It picks up undisclosed liabilities: The general principle of English sales law is “caveat emptor” or “buyer beware”.  If you buy shares in a company, you buy the company with the liabilities that are in it. This is the main reason behind the due diligence exercise and the subsequent warranties and indemnities that will be based on that due diligence and will appear in the Share Purchase Agreement. This is also relevant on the sale of a business, although to a lesser extent, as the buyer will only inherit the liabilities that are specified in the Sale and Purchase Agreement. 
2. It helps with price negotiation: Initial prices are often negotiated with the buyer making a number of assumptions.  Due diligence can assess whether these assumptions are valid.  If not, the quality of the due diligence exercise will reflect the strength of argument in the re-negotiation of the price.
3. Assists drafting of Sale and Purchase Agreement: Due diligence by the buyer should be done prior to the drafting of the main Sale and Purchase Agreement, so that the lawyer knows what conditions, warranties and indemnities to draft in the contract. Due diligence helps identify the particular liabilities in respect of which warranties and indemnities are being sought by the buyer and, in essence, allows the lawyer drafting the contract to understand the issues surrounding the relevant business and to draft the contract accordingly.

SUMMARY

From a seller’s view point there are 3 keys rules to follow:-

(i)         Be professional at an early stage – look at the best structure to maximise proceeds and reduce liabilities.

(ii)        Prepare for due diligence: review all documentation and collate it in an orderly fashion.

(iii)       Use Heads of Terms and Confidentiality Letters to protect your business and assist the sale process.

If you have any questions regarding the above or require any assistance, please do not hesitate to contact Dixcart Legal on +44 (0)333 122 0010 or by email: hello@dixcartuk.com

Setting up a new business in the UK can be time-consuming and complicated, with a variety of different rules and regulations to consider. Dixcart Legal Limited (Dixcart Legal) can assist with understanding the legal requirements in a seamless way (as well as providing access to tax, IT, and payroll teams if required) so that founders and directors can focus their attention on the business. 

Set out in this note are some key considerations when setting up a company in the UK.

ISSUES TO CONSIDER BEFORE YOU SET UP A BUSINESS

• Where do I want to sell my products/services?
• Do I want to form an establishment in the UK or do I want to appoint a third party, such as an agent, initially?
• What is the cost of establishing a company in the UK?
• If I do want to set up a business in the UK, what sort of legal structure do I require?
• What rules and regulations do I need to comply with?
• Do I need to register for VAT?
• What do I need to do before I start trading?
• What do I need to do once I start trading?
• Do I need a property?
• Do I need a registered office in the UK?
• What name do I intend to use for my business?
• Do I need personnel?
• Will staff from overseas be working in the UK?
• Do I need a website?
• What data protection rules apply?
• Do I need trading contracts (e.g. terms of business or sale, distribution agreements)?

These are only a few of the considerations to take into account. Below, we have outlined the summary information and how Dixcart can help.

1. What legal structure should be used?

This should be one of the first things to consider. This decision affects the tax and national insurance contribution requirements, HMRC reporting obligations, the liability attached to the business and the documents needed.

There are four widely used business structures in the UK.  These are outlined below:

Sole Trader	The business is owned and run by one individual. There is no legal distinction between the owner and the business. The sole trader takes all of the profits but also all the liabilities of the business.
Partnership	Two or more persons conducting business together.Partners generally have unlimited liability and a partnership is not a separate legal entity. The Partnership Act 1890 governs how partnerships are run, but the default statutory position is usually not suitable.  We therefore recommend that written partnership agreement to set out how the partnership works, how each partner deposits money into and withdraws it from the business, the decision-making processes and plans for when a partner chooses to leave the business, becomes ill or is deceased.
Limited Liability Partnership (LLP)	This is a hybrid structure, between a partnership and a limited company.An LLP is a separate legal entity. It is registered at Companies House and is governed by the Companies Act.Members’ personal liability is limited.An LLP does not have shareholders or directors and is taxed like a partnership, meaning that profits are divided among the partners (members) who then pay tax on their own share at a rate appropriate to their circumstances.
Limited Company (this note focuses on private limited companies.  However, there can also be public limited companies, whose shares may be publicly traded.)	A limited company is a separate legal entity, which can be limited by shares or by guarantee. The members’ (usually called shareholders) liability is limited.  In the case of shares it is limited to the amount paid (and unpaid) on the shares they hold or, in the case of guarantee, to the amount they have agreed to contribute to the company’s assets if it is wound up.A company limited by shares is most common. Shares make it easier to pass on ownership of the business, provide different ways of managing tax affairs and possibly giving incentives to employees.Companies are governed by the Companies Act 2006. There are many rules to follow (with potential criminal penalties for breaches).

The most suitable structure will depend on the nature of the business.  Dixcart Legal can assist in navigating the advantages and disadvantages of each to help businesses make the correct choice.

• Regulations when setting up a Business in the UK

The choice of the legal structure will determine which regulations apply to the business.  For example, in the case of a limited company, the articles of association the company’s governing document), the name of the company and the details of the directors and shareholders must be registered at Companies House and are generally publicly visible.  In addition, there are statutory filing and record-keeping requirements.

There may also be industry-specific regulations, depending on the intended activities of the business.

• Personnel

A business is likely to engage one or more individuals from the start, most commonly as employee or consultant. An employee is an individual who works under a contract of employment, meaning that the individual agrees to serve the employer. A consultant is a self-employed individual working under a contract, who agrees to provide certain services to the employer.  The question of whether someone is an employee or a consultant is a mixed question of fact and law. 

The principal costs for an employer when hiring employees (other than the usual costs of recruitment and training) are base salary, pension contributions and employer national insurance contributions.  An employer may also choose to provide other benefits (such as share options) to attract appropriate talent to the business.

When recruiting, employers should consider employment law issues, as prospective employees may become entitled to claims even if they are never offered a job. For example, discrimination rules affect the whole recruitment process.  

Employers must observe UK immigration and visa requirements. In every case an employer must  verify an employee’s eligibility to work in the UK by inspecting originals of relevant documents (even for UK nationals). Visa applications may be necessary for certain individuals. 

When engaging an employee, employers must within the first two months of employment provide a statement of the terms of employment containing specific minimum information.  A full employment contract will contain more detailed terms.

The above issues are just a few key considerations for employers and are not exhaustive.

How we can help

Dixcart Legal Limited provides legal solutions and assistance to the business community globally and in the UK.  We can assist with all of the matters referred to in this note.

Further Information

If you have any questions regarding the above, or require any assistance, please do not hesitate to contact Dixcart Legal: hello@dixcartuk.com