Ask the attorney – 5 tips on selling your business

(Editor’s note: “Ask the Attorney” is a weekly VentureBeat feature allowing start-up owners to get answers to their legal questions. Submit yours in the comments below and look for answers in the coming weeks. Author Scott Edward Walker is the founder and CEO of Walker Corporate Law Group, PLLC, a boutique corporate law firm specializing in the representation of entrepreneurs.)
Question:  I liked your article on VentureBeat a couple of weeks ago about what to watch-out for as a buyer of a business.  What about if I’m a seller?  I’m the founder of a web-based music business, and I’m ready to sell and move onto my next venture.  Any advice would be appreciated.
Answer: Thanks! Here are five quick tips in connection with selling a venture:
Be Careful with Private Equity Buyers.  Private equity firms are in the business of buying and selling companies.  Accordingly, they are extremely sophisticated and savvy and are often represented by large, aggressive law firms.  Deals with private equity buyers are generally more complex than those done with strategic buyers due to, among other things, the level(s) of debt added to the target and/or financial engineering.
Moreover, unlike most strategic buyers, private equity buyers usually require the selling entrepreneur to rollover part of his/her equity into the acquirer (or, in other words, to maintain skin in the game) and may include a financing condition in the acquisition agreement – which in today’s choppy debt markets adds a level of uncertainty to closure.
Negotiate the Material Terms in the Letter of Intent.  As I have previously discussed, your strongest leverage as a seller is prior to the execution of the letter of intent (the “LOI”).  This is the time when a solid investment banker will create a competitive environment (or the perception of same), and prospective buyers will be required to compete on price and terms.
One buyer, for example, may offer a higher purchase price, but require a “cap” (as discussed below) equal to such price. Another buyer may offer less, but only require a 10 percent cap.  Accordingly, prior to choosing a buyer, you should negotiate and weigh all of the material terms of the offer, and the LOI should reflect such terms.
Sell Stock (Equity) Not Assets.  As a general rule, you should sell stock, not assets, for three significant reasons: First, the potential tax savings if your company is a “C” corporation (allowing you to avoid “double-taxation”). You’ll also pass the company’s undisclosed liabilities onto the buyer. And it generally requires less documentation and less time to close (which means less legal fees).
Obviously, every deal has to be structured with the assistance of competent counsel, including tax counsel. However, as a seller, you should be thinking about selling stock, not assets.
Cap Your Potential Liability.  Obviously, you want to sleep well after you sell your venture (and enjoy the fruits of your labor).  Accordingly, it is critical that certain key provisions be inserted into the acquisition agreement to protect you post-closing.  One such provision is a cap on liability, which, as noted above, should ideally be negotiated in the LOI.
You should strive for a cap of 10 percent of the purchase price and should also try to minimize any buyer carve-outs.  Your message to the buyer is simple: Inherent in any business are certain ongoing risks. Once the business is sold, the buyer should only be able to recover a limited amount of the sale proceeds (absent fraud).
Get the Buyer to Pay a Termination Fee.  Try to require the buyer to pay a termination fee if the acquisition falls apart through no fault of your own.  This is sometimes referred to as a “reverse break-up fee,” which can be as high as 10 percent of the purchase price or as low as the total amount of the seller’s transaction expenses.  This is an issue that is often not addressed by middle-market sellers, but should be.
Disclaimer: This “Ask the Attorney” post discusses general legal issues, but it does not constitute legal advice in any respect.  No reader should act or refrain from acting on the basis of any information presented herein without seeking the advice of counsel in the relevant jurisdiction.  VentureBeat, the author and the author’s firm expressly disclaim all liability in respect of any actions taken or not taken based on any contents of this post.
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