Purchasing Shares in a Privately Held Company - The Legal Issues
Purchasing Due Diligence
Due diligence is the investigation of a business, company or person prior to the signing of a definitive purchase agreement. Due diligence encompasses requests for documents and questions in order to help a prospective purchaser collect information about a potential target. The type of due diligence is tailored and may vary depending on the type of transaction, the nature of the target corporation’s business, the stage of transaction, the client’s role in the transaction, and the client’s instructions. Due diligence aims to identify risks and liabilities, evaluate purchase price, and confirm purchaser’s expectations regarding the target corporation being sought. Generally, the vendor will participate in the due diligence process and respond to the requests once the confidentiality and non-disclosure agreements have been executed.
Due diligence may be conducted by obtaining a client’s instructions, assembling a diligence team, conducting public searches, reviewing material documents and contracts, and reporting back to the client with the findings by way of a due diligence memorandum.
Letter of Intent
Letter of Intent between the Purchaser and the Vendors (the “LOI”): The LOI will set out the basic terms of the proposed transaction. It is the initial document that will express the Purchaser’s interest to the Vendors, as well as help facilitate negotiations with the Vendor’s counsel. Typical items included in the LOI are, but not limited to, the purchase price and payment schedule, transaction structure, and key terms.
The agreement of purchase and sale is executed by both the purchaser and the vendor and outlines and governs the entire transaction. Under an asset purchase agreement, the vendor will be the target corporation, versus under a share purchase agreement, in which case the vendor will be the shareholders of the target corporation.
A purchaser or vendor may agree to complete a transaction based upon the structure being a sale of assets or shares. Determining whether the transaction will take the structure of an asset sale versus a share sale depends on multiple factors, including, but not limited to, tax and litigation liabilities, as well as tax advantages.
1. Asset Purchase Agreement
An asset purchase agreement (APA) is a definitive agreement that finalizes all terms and conditions related to the purchase and sale of specific or substantially all of the target corporation's assets. The APA will generally contain provisions regarding the purchase price, adjustment mechanisms to the purchase price, vendor's representations and warranties in connection with the assets being acquired, indemnities, covenants, closing conditions, and deliveries.
2. Share Purchase Agreement
The share purchase agreement (SPA) is the definitive agreement that finalizes all terms and conditions related to the purchase and sale of the shares of a corporation. The SPA will generally contain provisions regarding the purchase price, adjustment mechanisms to the purchase price, vendor's representations and warranties in connection with the shares being acquired, indemnities, covenants, closing conditions, and deliveries.
Share purchase agreement between the Purchaser and the Vendors
The Share Purchase Agreement is the definitive agreement that will finalize all of the terms and conditions of the transaction. It will be based on the terms and conditions of the LOI. It will detail how the transaction is to be structured, what the purchase price will be or how it will be determined, the representation and warranties of each of the parties, as well as covenants, indemnities, survival periods, closing conditions, and deliveries. Where there is an interim period, the share purchase agreement will also set out the obligations and duties of the parties during the interim period. In a transaction where there is an interim period, the Vendors and Purchaser must also execute a "Bring Down Certificate", which is a document that states that the Vendor or Purchaser confirms that the representations and warranties given as of the date of the Share Purchase Agreement are still true and correct as of the date of closing.
The Share Purchase Agreement will also include disclosure schedules which will be populated by the Vendor and attached to the Share Purchase Agreement. The disclosure schedules are an important part of the due diligence process when one company is purchasing the shares of another company. These schedules will detail the important information regarding the corporation being acquired, such as material contracts, company assets, debts and liabilities, intellectual property, and ongoing litigation. The disclosure schedules are directly connected to the representations and warranties given by the Vendors in the Share Purchase Agreement and such representations and warranties detail what is to be provided in the disclosure schedules.
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