Selling a Business – What Can Go Wrong?

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Selling a Business

When selling a business there are a number of pitfalls that can lead to liability further down the line. The Buyer will be looking to protect their interests. But when we act for you as a seller  we will look to reduce, limit and cap your liability as much as possible.  To help you understand what can go wrong we have explained some of the hidden pitfalls we see sellers stumble into.

If you are facing or think you could be facing a problem please get in touch.  We are always happy to scope out some suggestions and fee quotes.

Do I tell the Buyer?

In the documentation used for the selling of a business there will be warranties (promises) and indemnities (promises to pay), the only exemptions to these are the disclosures and the due diligence. We will negotiate these down for you. However, there will likely be elements of the Company and the business that are not favourable and sellers often want to leave them out of the negotiations – doing so leaves a high risk of a warranty claim against you personally further down the line. Make sure you feel comfortable with the promises you are giving and any disclosures that need to be made to prevent such claims in the future.

Restrictive Covenants

When selling a business, the Buyer is likely to want to prevent you personally from competing with that business after it is sold (whether by setting up a similar business or joining an existing competitor) and soliciting (or poaching) clients, suppliers or employees from the business. These can last anywhere from 3 months to 24 months and will practically have a big effect on what you can do next. We negotiate the shortest periods for non-compete clauses, however, you need to ensure that you can earn a living and are not prohibited from building any future businesses.

Employees

Employees are often important to the success of the enterprise and in selling a business they face upheaval. This can lead to resignations, redundancies and potential claims. You will need to ensure that you consult your staff and reassure them – we can guide you through how to deal with staff when selling a business.

Contracts

The Buyer will usually be purchasing a main asset whether you are selling a business or selling shares, most often this comes down to:

The goodwill and intellectual property of the business, its name and its following

Do you have the appropriate rights in the intellectual property?  If software, designs, commissions, coding, etc have been commissioned you need to make sure that the rights are signed over to you.  The fact that you paid for the commission does not automatically transfer the intellectual property rights to you – they remain in the hands of the creators without taking the extra step. Is an assignment from any third party such as a contractor required? Have your employees signed over their intellectual property rights?

Assignment of rights to the seller before the shares are sold

If the value when selling a business is in the commercial contracts you have, are those contracts subject to change of control provisions, whereby your sale of the business could result in termination of those contracts? Can you assign or novate (transfer) those contracts?

Limit your liability

In selling a business you cannot account for every eventuality, there can be unforeseen circumstances. For example, you may have an outstanding tax bill that you weren’t aware of or an aggrieved ex-employee or customer seeking damages from the Company. The Buyer will almost certainly be claiming their loss (including legal fees) against you for breach of contract and warranties. To protect yourself from the unforeseen, limit your liability where possible. We can negotiate limits on the types of claim, time periods for bringing a claim and the minimum and maximum financial limits on claims brought.

Negotiating Damages – Landmark Decision

The Supreme Court have decided that Negotiating Damages (also known as Wrotham Park Damages) cannot be used as a way of side-stepping proof of loss. This means that a Buyer claiming against Sellers who have sold their business should not, unless under exceptional circumstances, be liable for negotiating damages but should be required to prove financial loss.  We would always recommend that this requirement is set out in the share sale agreement to avoid doubt.

What are Wrotham Park/Negotiating Damages?

Wrotham Park damages mean, where actual loss cannot be determined, the buyer of a business can recover such monies as would have been paid to them by the Defendant if the Defendant had negotiated a release from the covenants they subsequently breached.

Supreme Court Decision

In this case, the parties entered into a joint venture, the relationship broke down and the Defendant set up another Company in competition with the joint venture business without the Claimant knowing. A deadlock notice was served and a buy out agreement was signed  which contained confidentiality obligations, non-compete and non-solicitation (or non-poaching) clauses. Initially the lower courts held that actual financial loss was not easily identifiable and so Negotiating Damages should apply.  This could have meant that financial loss on a contractual breach could be estimated rather than actual.

The Supreme Court overturned the decision of the earlier courts and held that Negotiating Damages would not normally be available for non-compete and non-solicitation clauses.  This was because awards of financial loss were not discretionary and therefore it was not possible to side-step the requirement for a buyer to prove loss.  This is helpful for sellers of a business because a buyer will have to prove actual financial loss rather than estimating such loss and therefore damage. In this case the matter was remitted to High Court to assess the Claimant’s actual financial loss.