Legal Issues When Buying a Business: Don't Overlook These Provisions in the Purchase Agreement.

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As discussed in prior installments of this series on buying a business, there are a number important legal issues you need to consider before signing the purchase agreement.  The first installment discussed the role of the Exclusivity Agreement, the second installment examined the differences between structuring the transaction as stock purchase as opposed to a purchase of assets, the third examined the importance of escrowing a portion of the purchase price to cover any issues that may arise post closing, and the fourth discussed important aspects of due diligence and how to address legal or financial issues in the purchase agreement.  This fifth installment examines several key provisions that should be incorporated in the purchase agreement but are otherwise often overlooked.

The Purchase Agreement is a very flexible instrument giving the parties substantial flexibility not only as to the structure the transaction but with respect to the representations, warranties, disclosures and covenants that the parties can negotiate to include (or for that matter exclude) from the Agreement.  There are a number of standard provisions relating to such matters as legal ownership of/title to the assets, representations as to the corporate status and authority, disclosures as to litigation, financial and tax related representations, environmental issues and post closing obligations.  First, while these provisions may be part of a standard purchase agreement they by no means should be viewed as boilerplate. Even a slight variation in language can alter the meaning and scope of these sections, and thus all representations, warranties and covenants, no matter how standard, need to be reviewed carefully.  Second, below are a number of provisions which are often overlooked but you should consider incorporating in the Purchase Agreement.

1.  Intellectual Property.
   
Of course it is standard to include representations regarding the seller's title and ownership of the intellectual property, but make sure the Agreement:

              (a)  Covers licensed rights as well as often the seller does not own but licenses key IP.  In  the same vein, confirm the licenses are assignable and if consent of the licensor is required that the Seller obtain the consent as a condition of closing.

              (b) Addresses rights to the domain names and company websites and requires transfer of these rights to the buyer as a condition of closing.  It is not unusual for the buyer to forgot about the transfer of the domain and then have to coax the seller into compliance after the sale.

             (c)  IP rights should include not only registered marks or issued patents, but pending applications, unregistered rights, royalties, licenses and, significantly, awards, damages or pending claims and litigation.

             (d)  Incorporates provisions relating to software, requires the turn over of source code, manuals, passwords, license keys and all other documentation.

2.  Litigation

Representations relating to pending or threatened litigation are typical in a Purchase Agreement, but be sure:

            (a)  There are sufficient disclosures about pending and threatened litigation, including the status of such matters.

            (b)  Decide how litigation is to be handled post-closing.  Will your lawyer take over the matter or will the Seller's lawyer continue to handle it; who will be responsible for the legal fees and costs; include a right to periodic updates as to the status of any legal matters; and set forth any rights as to damages, awards, insurance proceeds and to settle the matter and any indemnification in the event of an unfavorable outcome.
            
3.  Financial/Tax Matters

In addition to the typical representations and warranties concerning financial and tax issues, include:

          (a)  Financial

                  (i) Require that the seller update the financial statements on or prior to Closing;
                 
                  (ii) Include a formula for adjusting the purchase price if there are material changes to the financial statement;
                 
                  (iii) Although often used, try to avoid using an earn-out (post-closing payment contingent on certain financial milestones) as they are difficult to negotiate, document and manage once the buyer assumes the reins of the business, and as a result they are a major source of post-closing disputes.  If an earn-out cannot be avoided, make sure you have counsel who has experience negotiating and drafting earn-outs.

         (b)  Taxes

                (i) The representations and warranties should not only cover federal and state taxes, but sales and any other applicable taxes for all relevant jurisdictions.
               
                (ii) The seller should provide all filings and disclose any past, pending or threatened audits/assessments.
               
                (iii) Require the seller provide post-closing assistance for any filings relating to periods of time the seller controlled the business.
             
                (iv)  Include appropriate indemnifications for tax liabilities.


4.  Transition

Is there a switch in your house that you have no idea what it does, and since the seller is long gone you have no way of finding out?  Well, think how that issue is magnified exponentially if you purchase a business and don't have the seller to assist with the transition.  The assistance is important not only as to obvious issues, like computer systems, financial records, and where the keys to the third floor supply closet are located, but making a smooth transition as far as clients/customers, introduction to vendors/suppliers, establishing a good relationship with employees/consultants, ensuring an understanding of business processes and procedures that are essential for operation of the business.  Therefore, the Purchase Agreement can require the meaningful assistance of the seller or even include compensation to the seller for post-closing assistance and continued employment with the company for a reasonable period of time.

5.  Material Adverse Change   

Undoubtedly the Purchase Agreement will include a Material Adverse Change clause essentially providing the buyer with certain rights and remedies (including possibly termination of the transaction) in the event of a material adverse change with respect to the business.  The clause is one of those tricky provisions which, if not properly drafted, can result in substantial disputes.  The key is to avoid ambiguity by incorporating specific criteria as to when the Material Adverse Change clause is implicated, such as decline in sales, the loss of certain amount of or even specifically named customers, a decrease in EBITDA or termination of a manufacturing or supplier relationship.

6.  Employment/Labor Matters  
                       
Provisions relating to Employment and Labor matters are standard, but also make sure the representations and warranties include:

         (a) Existence of confidentiality, invention assignment and non-competes, and get copies for each employee and consultant.

         (b) Confirmation that consultants are truly consultants and not employees (which can give rise to substantial tax liabilities).

         (c)  Details and disclosures regarding any employee plans (stock, pension, etc.) and vesting status f each employee.

         (d)  Disclosures with respect to any collective bargaining any other labor matters.

7.  Operations in Foreign Countries

Establishing the right of the company to operate in any foreign jurisdictions where it does business should be obvious, but compliance with the Foreign Corrupt Practices Act is far less familiar to most people.  The FCPA prohibits various behavior relating to operating in foreign jurisdictions, including paying bribes to obtain contracts, business, etc.  Violation of the FCPA carries substantial civil and criminal liability.  As a buyer, you might not think much about the FCPA, but if you manufacture in China, for example, you better pay attention and therefore incorporate a representation that no unlawful payments have been made by seller or its agents.

8.   Covenants

The Purchase Agreement should contain covenants relating to:

        (a) Non-solicitation of employees, customers and clients and non-interference with existing vendor/supplier relationships.

        (b) In certain circumstances, a Non-Compete that complies with the narrow limitations imposed by applicable state law.

        (c) As discussed in prior posts, clear indemnification and escrow terms to address post-closing liabilities.

        (d) Confidentiality.

        (e) Obligation of the Seller to notify the buyer upon the occurrence of material events arising at any time prior to closing.

        (f)  Resignations of officers, directors, responsibility of the seller as to termination of some or all employees/consultants.

9.  Termination

There will be grounds for either party to terminate the Agreement prior to closing.  The termination provisions should not only provide specifics as to when the right can be invoked by a party, but also the liabilities, if any, resulting from termination and the effect of termination.

10. Survival

Give careful consideration to how long any of the representations, warranties and covenants will survive avter closing.  The seller will push for no or a very short period while the buyer will want them to survive until the chance of any liability no longer exists.  A compromise will almost always be necessary, and remember not all of the provisions need to survive for the same period of time

The above are by no means an exhaustive list of key provisions in a purchase agreement, and they will certainly vary depending on the nature of the business involved -- for example, if you are buying a gas station the environmental disclosures, reps and warranties will be substantial.  What is obvious that you cannot accept a boilerplate purchase agreement and instead the provisions need to be tailored to the particular transaction.

Disclaimer: The discussions in this blog do not constitute legal advice nor create any attorney-client relationship.  You are urged to seek the advice of an experienced lawyer who can provide counsel with respect to your corporate/business law matters




    

   

SBA Loan Dollars in FY 2012 Reach Second Largest Total Ever

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WASHINGTON – With loan volume steadily increasing for the past six quarters, the U.S. Small Business Administration’s loan programs posted the second largest dollar volume ever in FY 2012, supporting $30.25 billion in loans to small businesses. That amount was surpassed only by FY 2011, which was heavily boosted by the loan incentives under the Small Business Jobs Act of 2010.

Overall, the pace of SBA loan-making is a healthy sign for the economy and the credit markets and is one of the foundations for ensuring the availability of financing to small businesses trying to establish themselves, grow and create new jobs for Americans.

The near-record pace was driven in part by a record year for the Certified Development Company (504) loan program, which supported $15.09 billion in small business credits. The strong performance of 504 loans was boosted by the temporary 504 refinancing program, which was responsible for 26 percent of the 504 program loans made in FY 2012 and 34 percent of the dollar volume. The recently expired 504 refinancing program was part of the incentive package under the Jobs Act.

“Reaching such strong numbers is a clear sign that both the business and lending communities are regaining their confidence in the economic climate of the country,” said SBA Administrator Karen Mills. “It means that the credit markets are increasingly willing to help small businesses establish themselves, grow and create new jobs for Americans.”

Over the past year, SBA began streamlining and simplifying many of the loan programs in order to provide more access and opportunity for both lenders and small businesses. As part of this effort, SBA encouraged lenders to use more of their own paperwork and the agency’s updated processing systems, so that more than 80 percent of its loan applications can now be processed online.

The reengineered CAPLines loan program recorded an increase of almost 400 percent in loan volume and 249 percent in dollar volume. The revamped program, which provides working lines of capital to small businesses such as manufacturers and government contractors, jumped from 108 loans and $118 million in FY 2011, to 532 loans and $410 million in FY 2012.

SBA’s streamlining of the Small Loan Advantage (SLA) and Community Advantage programs also produced encouraging results. The Advantage loan programs entice lenders to make low-dollar loans, which are an important tool for small businesses. Community Advantage jumped from 15 loans and $2.1 million in FY 2011, to 188 loans and $25.2 million in FY 2012, an 11-fold increase in both the number of loans and dollar amount. As of the end of May 2012, SLA had a volume of 188 loans for a little over $20 million. The program ended the fiscal year with 820 loans for $105.6 million. Nearly 80 percent of the year’s SLA loans came after SBA implemented simplified processes on June 1.

These efforts, among other loan enhancements, have resulted in nearly 1,300 lenders returning to SBA lending, and have opened up more points of capital access for small businesses wherever they do business.

During the fiscal year, which ended Sept. 30, SBA loan approvals supported $30.25 billion (53,848 loans) to small businesses in its two main loan programs, 7(a) and 504, compared to $30.5 billion (61,689 loans) in FY 2011 and $22.6 billion (60,771 loans) in FY 2010.

The totals for FY 2012 include 44,377 loans, $15.15 billion approved under the agency’s largest loan program, the 7(a) General Business Loan program, and 9,471 loans supporting $15.09 billion in small business lending under the 504 Certified Development Company program. The “supported” amount for 504 loans includes the SBA-backed portion and the third-party loans made by commercial lenders as part of the funding package.

For more information about these and other SBA programs, visit the SBA website at www.sba.gov, or contact your local SBA field office.

More On Limited Liability Companies' Fiduciary Duty

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Now that we have an Indiana Court of Appeals decision describing the fiduciary duty of an LLC to its members, I almost thought to scratch this post. However, Chicago Business Litigation Lawyer Blog's Respected Law Professor's Insights on Corporate Freeze-Out Litigation may still have some benefit to you.

"In Fairness and Good Faith as a Precept in the Law of Corporations and Other Business Organizations, 36 Loy.U.Chi. L.J. 551 (2005), Murdock addresses the fiduciary duty of good faith and fairness that controlling interests of a business owe to minority interests. Noting that this internal duty is a fairly recent legal phenomenon, he surveys caselaw on the subject from around the country that applies to closely held corporations, public corporations and LLCs. Noting that the Uniform Limited Liability Company Act (ULLCA), a model law adopted by several states, doesn't include language that gives members of an LLC fiduciary duties to one another, he praises Illinois for modifying that language to protect members in the updated Limited Liability Company Act."

Tech Tools with Ramon's Taste of Tech: Mozy Data "Bridge"

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Ramon is a journalist, technology evangelist, speaker, editor of Smallbiztechnology.com and author of “Technology Solutions for Growing Businesses” (Amacom) and most recently “Technology Resources for Growing Businesses“. Ramon has written thousands of technology articles and news items for Smallbiztechnology.com and other media including: Open Forum, Inc. Magazine, New York Enterprise Report, Black Enterprise Magazine, CNet, Var Business, TechTarget, Entrepreneur.com, Small Business Resources and others. He has also written for technology vendors including Microsoft, FileMaker, and Everest. He is often quoted in the media, including the New York Times, San Francisco Chronicle, Entrepreneur Magazine, Inc. Magazine, WCBS Radio, Crains New York, National Federal of Independent Business, Small Business Advocate Radio Show, Wells Fargo Small Business Roundup, Tech Talk with Craig Peterson and Smart Money.

Are You Too Focused Working 'On the Business' Instead of 'In the Business?'

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On The Entrepreneurial Mind, Dr. Jeff Cornwall writes that first-time entrepreneurs often make the mistake of obsessing over such things as mission statements, company logos, and business cards (time spent "working on the business") instead of actually launching and running the business ("working in the business").
Cornwall has 4 pieces of advice for entrepreneurs who are inclined to spend too much time prepping to launch a business instead of getting out there and selling their product or service.

While a well-designed business card is nice to have, it is you and your product or service that will convince the customer to spend their hard-earned money on what you have to offer them.
Your actual product will rarely look anything like what you may envision in a business plan. In fact, unless you are looking to raise a large amount of capital from outside investors or bankers, writing a formal business plan is not even necessary. Customers will provide feedback that should inform and shape the new business in its early growth. Real information from actual customers is much more important than guesses you might make in a formal business plan.

Read the rest of Cornwall's tips here.

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Corporate Culture and Ethical Leadership Under the Federal Sentencing Guidelines

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What Should Boards, Management, and Policymakers Do Now?

In 1991, in recognition that the acts of individuals can create criminal liability for their organizations, the U.S. Sentencing Commission expanded the Federal Sentencing Guidelines to include a new chapter on organizational crime. The intent was twofold: to provide a consistent set of guidelines to deter and punish organizational crime and to encourage positive behavior — specifically, the establishment of effective corporate compliance programs. In the two decades since, one of the chief aims of the guidelines has been to encourage basic cultural change within organizations in ways that might reduce both criminal and ethical risk. On May 16, 2012, RAND brought together a group of public company directors and executives, chief ethics and compliance officers, and stakeholders from the government, academic, and nonprofit sectors for a series of conversations about organizational culture, as well as to explore the business and policy ramifications of efforts to build better ethical cultures in corporations. The symposium discussions featured a range of viewpoints on the history and progress of compliance initiatives, the barriers to achieving a strong ethical culture, and what corporate boards, executives, and compliance and ethics officers, and policymakers can do to cultivate such cultures. Participants put forward a range of solutions, many of which sought to overcome the common tendency to view compliance as a legal issue more so than a cultural one.

Steady Increase in Home-Based Workers Since 1999

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In 2010, 4.2 million more people worked at home than a decade before, according to a report released by the U.S. Census Bureau. Home-Based Workers in the United States: 2010 contains findings from the Survey of Income and Program Participation and the American Community Survey. The combined analysis provides timely and comprehensive statistics on home-based workers in the United States.

According to the Survey of Income and Program Participation, the number of people who worked at home at least one day per week increased from 9.5 million in 1999 to 13.4 million in 2010, increasing from 7.0 percent to 9.5 percent of all workers. The largest increase occurred between 2005 and 2010, when the share grew from 7.8 percent to 9.5 percent of all workers, an increase of more than 2 million.

The Survey of Income and Program Participation has provided timely information on home-based workers since the mid-1990s and differentiates by those who work exclusively from home (home workers), those who worked only outside of the home (onsite), and those who worked both from home and at a location outside of the home (mixed workers). The survey revealed that median household income was significantly higher for mixed workers at $96,300, compared with $74,000 for home workers and $65,600 for onsite workers.

According to the American Community Survey, 5.8 million or 4.3 percent of the U.S. workforce worked the majority of the week at home in 2010. This is an increase of about 1.6 million since 2000. Because of its sample size and timeliness, with data collected from about 3 million households annually, the American Community Survey provides both reliable subnational estimates and detailed information about the class of worker, industry and occupation of home-based workers.

Estimates from the 2010 American Community Survey indicate that the Boulder, Colo., metropolitan area had among the highest percent of workers who worked from home most of the week with 10.9 percent, followed by Medford, Ore., with 8.4, Santa Fe, N.M., with 8.3, Kingston, N.Y. with 8.1; and Santa Rosa-Petaluma, Calif., with 7.9.
Detailed class of worker information from the American Community Survey suggested that although nearly half of home-based workers were self-employed, government workers saw the largest increase in home-based work over the last decade. Home-based workers increased by 133 percent among state government workers and 88 percent among federal government workers. There was a 67 percent increase in home-based work for employees of private companies.

“As communication and information technologies advance, we are seeing that workers are increasingly able to perform work at home,” said Peter Mateyka, an analyst in the Census Bureau's Journey-to-Work and Migration Statistics Branch and one of the authors of the report. “These changes in work patterns have both economic and social implications. Researchers and policymakers, including those in the fields of technology, transportation, employment, planning and housing, will find this report helpful in future transportation and community planning as well as technological trends.”

Other highlights:
• About one in 10 who worked exclusively from home were 65 and older in 2010.
• About one-fourth of home-based workers were in management, business and financial occupations.
• Home-based workers in computer, engineering and science occupations increased by 69 percent between 2000 and 2010.
• Mondays and Fridays were the most popular days to work at home for those who work both at home and at another location.
• Metro areas in the Southeast, Southwest and West had the largest percentage of workers who worked from home.