Key terms of a business purchase agreement in BC

The letter of intent sets the price and the shape of the deal. The purchase agreement is where the risk is divided: what the seller promises, what happens if a promise turns out to be untrue, and what must happen before anyone is obliged to close.

This guide walks through the main clauses of a BC asset or share purchase agreement, for buyers and sellers who are past the letter of intent stage.

Where the purchase agreement fits

By the time the purchase agreement is drafted, you will usually have signed a letter of intent and decided whether the deal is a share purchase or an asset purchase. The agreement turns those decisions into binding terms. Our overview of the legal steps in buying a business covers the sequence from first conversation to closing; this article goes clause by clause.

The Law Society of BC's practice checklist for asset purchase agreements is a useful map of what a complete agreement covers: the assets, price and allocation, holdbacks, closing, each side's representations and warranties, obligations before closing, conditions, risk of loss and which clauses survive closing. A share purchase agreement covers similar ground, with more attention to the company's existing liabilities, because the buyer takes the company as it is.

Price, payment and adjustments

The price clause should say not only how much, but how and when it is paid:

• Deposit. Whether it is refundable, who holds it in trust and what happens to it if a condition is not met.
• Holdback or escrow. Part of the price kept back after closing, often to secure the seller's indemnities or a post-closing adjustment, with clear terms for its release.
• Adjustments. Inventory counted at closing, and rent, utilities and prepaid expenses prorated to the closing date. Share deals often add an adjustment for working capital.
• Deferred payments. Vendor financing or an earn-out tied to future results needs security for the seller and clear rules for calculating what is owed.

Allocation in an asset deal

In an asset purchase, the price is divided among the assets: equipment, inventory, goodwill and sometimes land and buildings. The split affects tax for both sides, and their interests often pull in different directions. Section 68 of the Income Tax Act treats the part of the price that can reasonably be regarded as paid for a property as the proceeds for that property, whatever form the contract takes. The CRA says a buyer can use asset prices set out in the agreement if they are reasonable and, where the agreement does not set them, that the buyer's figures should coincide with what the seller reported. Agreeing on a reasonable allocation in the agreement, with input from your accountant, helps both sides report consistently.

Representations, warranties and indemnities

Representations and warranties are statements of fact the seller makes about the business: that it owns the assets free of undisclosed liens, that the financial statements are accurate, that taxes are paid, that there is no undisclosed litigation, and that key contracts, permits and employee information are as described. Exceptions go in a disclosure schedule. The buyer gives representations too, usually about its authority to sign and its ability to pay.

The indemnity says what happens if a representation proves untrue. Watch for:

• Survival period. How long after closing a claim can be made. The agreement should say so expressly rather than leave it to argument.
• Thresholds and caps. A minimum loss before claims can be made, and a maximum the seller can owe, often tied to the price.
• Security. A holdback, or a right to set off claims against deferred payments, makes an indemnity worth more than a bare promise.
• Who stands behind it. If the selling company will distribute the sale proceeds or wind up, the buyer may ask its owners to sign as covenantors.

Conditions and the period between signing and closing

Many deals sign first and close weeks later. Conditions precedent set out what must happen before a party is obliged to complete: the buyer arranging financing, completing due diligence, obtaining the landlord's consent to assign the lease, transferring permits and licences, and confirming there has been no material adverse change. Each condition should say whose benefit it is for, who can waive it and the deadline.

In the meantime, the seller usually agrees to run the business in the ordinary course: no unusual contracts, asset sales or pay increases without the buyer's consent, insurance kept in place and access to records. The agreement should also say who bears the risk if assets are damaged or destroyed before closing.

Restrictive covenants, employees and leases

Buyers usually ask the seller, and often its owners, not to compete with the business or solicit its customers or staff for a period after closing. Courts generally enforce these covenants only if they are reasonable in length, geographic area and the activities covered, and they tend to allow more room for covenants given on the sale of a business than for those in employment contracts. Tie the covenant to the business actually sold. Because the Income Tax Act deals separately with amounts received for a restrictive covenant, ask your accountant how it should be reflected in the price.

Employees come with the business. Under section 97 of the Employment Standards Act, when all or part of a business is disposed of, employment is deemed, for the purposes of that Act, to be continuous and uninterrupted by the disposition. The Province's interpretation guidelines say the buyer must honour employees' past service and takes on accrued vacation pay for employees who continue. The agreement should say which employees will be offered employment, how accrued entitlements are reflected in the price and who bears any termination costs.

Leases and key contracts often cannot be assigned without consent, and a share purchase can still trigger a change-of-control clause. Make the landlord's consent a condition, and be ready for the landlord to ask the buyer for financial information or a personal guarantee.

Tax elections and closing deliveries

In an asset purchase, the buyer and seller may be able to make a joint election under section 167 of the Excise Tax Act, using CRA Form GST44, so that GST/HST is not payable on most of what is sold. The CRA's conditions include that the buyer acquires all or substantially all of the property needed to carry on the business (the CRA generally looks for 90% or more) and that, if the seller is a GST/HST registrant, the buyer is one too. Some supplies remain taxable, such as services the seller will provide and property supplied by lease or licence. The agreement should say whether the parties will elect, who files the form and who bears the tax if the election is later denied.

Finally, the closing clause lists what each side delivers: the bill of sale or share transfer documents, assignments and consents, releases of registered security interests, any resignations, the funds, and certificates confirming that the representations are still true at closing.

Negotiating a purchase agreement? Have it reviewed before you sign

Our business purchase and sale lawyers can draft or review the purchase agreement, explain how each clause divides risk between buyer and seller, and work with your accountant on allocation and tax elections.

Call 604-259-2844 or send us a message to arrange a consultation at our Vancouver office.