Buying a Business Before Budget – What You Need to Know

With the first budget of the new labor government approaching, the rumor mill is churning with predictions that the financial landscape for those looking to sell their businesses is about to change – to their detriment. Reports suggest that the capital gains tax rate could rise, leaving many with a much higher tax bill once their business is divested. As a result, some may want to buy or sell a company before the predicted changes take effect. However, the need for urgency can have undesirable consequences.

More haste, less speed…

Can the sales/purchase process be shortened to what would normally be considered an unreasonably short time frame? Absolute.

Can this be done without additional risk? Probably not.

There is nothing unusual about selling and buying companies under time pressure. However, the unique thing about this situation is that so many companies and private individuals have an urgent sale or purchase on the agenda, thanks to the budget. That is likely to increase pressure on everyone involved – including professional advisers such as lawyers and accountants involved in the deal. Pushing things through quickly can lead to unintentional corner cutting, paving the way for future problems. When the dust settles, days, weeks or months after the budget, these problems can start to arise…

Shortcuts make long journeys…

During a commercial takeover, due diligence is perhaps one of the most important phases in the process. Due diligence is the factual investigation carried out by the buyer of a business, examining and assessing the financial, legal and commercial information about the business provided by the seller. The information made available by the seller is critical in allowing a buyer to consider issues such as whether the price to be paid is appropriate and whether there are underlying issues with the business that could lead to problems later to lead.

Conducting due diligence is essential, but tedious, and requires scrutinizing hundreds (or thousands) of documents and contracts relating to all aspects of the business. These can range from proving the validity of the company’s title to the properties, to whether employees are included in good employment contracts and even to the functionality of the coffee machines and photocopiers.

While it may be tempting to “take a stand” on certain issues that arise during the due diligence process and implement a less stringent level of control, this can lead to serious issues being overlooked due to time constraints.

The aftermath; While not everything is as it should be…

There are numerous claims that can arise as a result of an expedited (and therefore potentially inadequate) level of due diligence being carried out. Just to name a few examples we’ve seen:

• Change of control clauses (which determine what will happen if ownership or control of a company changes) are being missed in important contracts – something that could have huge implications for existing contracts within the company in the event of a company takeover
• there may be structural defects in the company’s buildings, which could ultimately cost hundreds of thousands of euros to repair
• It may happen that the seller’s company does not actually own the property
• Unusual and commercially unsatisfactory leasehold agreements may exist between the landlord and the company
• the company’s profitability may be exaggerated
• incorrect information is provided about the financial health and accounting policies of the company – which reflects a different reality than what is actually going on – and this is information that the buyer has relied on; And
• There may be undisclosed but pending legal claims against the company that may need to be resolved.

With insufficient time to delve into the position, there is plenty of room for something to slip through the net. Each of the above issues should have been discovered early on, but were not for various reasons.

Normally, sellers are required to disclose everything relevant to the business. In case something is missed, contractually guarantees are included in most stock purchase agreements and/or other transaction documents. Their purpose is to protect the buyer from any losses that arise due to the seller’s failure to disclose issues and potential liabilities.

Simply put, a warranty is a contractual assurance given by a seller to a buyer as to the state of affairs and course of business, the breach of which may give rise to a claim for damages. Examples of warranties given by a seller may include that there are no claims against the company from employees or that the company’s machinery and equipment are in good repair and fit for their intended purpose.

If the seller breaches the warranty and a loss results (for example, the purchase price may have been too high considering the undisclosed problem), it may be possible to file a claim.

Submit a warranty claim

Submitting a warranty claim is not always easy. A buyer’s ability to make such a claim may be limited in a number of ways, including the following:-

• time – under English contract law, a party generally has six years to bring a claim in respect of a breach of the terms of a contract (including warranties) – twelve years when the contract is executed as a deed. This is known as the ‘limitation period’, after which a claim will become time-barred and will be dismissed if the claim is responded to as out of time. However, it is very common for contracts to have a much shorter term contractual limitation clause – often only 18 months to 2 years. That significantly reduces the time available to file a claim. Failure to file a claim within the relevant limitation period is likely the end of the road unless there is some form of fraud
• knowledge – warranties may be given not to provide any protection in respect of matters of which the buyer would or should have been aware if he had made reasonable enquiries. If a seller disclosed information about a problem and the buyer did not notice it, the seller is unlikely to be liable for a breach of warranty
• amount – transaction documents may contain so-called “the minimums” provisions, which set a minimum threshold for the value of claims that can be made. This can prevent low value claims from being brought against a seller.

Assuming you are in a position to make a warranty claim, you may need to notify the other party of your intention to do so – and there may also be a time limit on taking that step. Thus, it is essential to carefully check the notice provisions in the contract to comply with its requirements. Notice provisions are often very specific and usually determine who, where, when and how (i.e. by post, email, etc.) notice is to be given. There may also be requirements to inform the seller of specific details of the potential claim (such as the basis on which you believe you have a claim and the amount). Therefore, the requirements must be thoroughly checked in advance. Failure to comply with the notice requirements may invalidate a notice and as time passes to provide notice or make a claim under a contractual statute of limitations, there may not be a second chance to do so properly.

How can we help?

It should be clear by now that if you discover that the business you bought is not what was promised, you must act quickly and correctly to avoid losing the opportunity to do so.

Weightmans is regularly confronted with making (and defending) these types of claims. We have experience in ensuring claims are made correctly, and are equally at home in undermining unfair claims when they are made against our clients. We are happy to help you navigate the issues, whether it is an initial consultation to discuss whether a claim can be made or to make or defend a claim on your behalf.

Amy is an Associate working in the commercial litigation department of our London office. Amy previously worked in the Newcastle office and has a strong working relationship with both staff and clients across the country.

Andrew has over 30 years of experience in commercial litigation and dispute resolution, including High Court proceedings, injunctions, domestic and international arbitrations and mediation.