Welcome to the first half of another 2-part series with our resident mergers and acquisitions expert Elizabeth Lee. In this episode, we run you through the top 8 legal traps that are slowing down your business sale transaction.
- 1 Sellers unprepared for due diligence
- 2 Unexpected problems appear during due diligence
- 3 Unhelpful or non-specialist advisors
- 4 Incorrect background documents
- 5 Removing encumbrances
- 6 Issues with third party consents
- 7 Dealing with leases and landlords
- 8 Finance component
Joanna: Great. Well look I guess we’re talking about this topic today because I think it’s so pertinent. we quite often get hit by a new matter whether it’s from a client or from a broker or an exit advisor or an accountant where the parties have decided that they’ve decided on the commercial terms and they’ve now decided that it’s really important that the deal completes as quickly as possible and so often, even when the parties are really driven by timeframe, the timeframes miss not at all because we are slow but because issues quite often appear in these transactions that really could have been avoided from the beginning.
Today we are here talking about what those issues are so that if you deal in this area and you’re keen to ever get deals across the line quickly, you’ll be aware of some of these issues so that you can head them off at the pass. This will be a two-part series. In part one here, we will be talking about what the issues are and some of the examples that we have seen to give you a bit of colour. And then in part two, we’ll be back to talk about what our tips are on how to set up a transaction to ensure that you can get it across the line as fast as possible.
So Liz let’s start off. What do you think is probably the the top reason why transactions falter from completing on the intended date or as quickly as perhaps the parties initially intended.
1 Sellers unprepared for due diligence
Liz: Often I find that the parties on a commercial level, they speak about the transaction they’re very excited about getting the deal done and then talk about how quickly they want to get done. But their minds are not focused on what it takes to get the transaction done. So obviously the purchaser still needs to do checks and balances and verifications and that’s where due diligence comes in. And often I find that the seller is actually not quite ready to provide all the due diligence material required.
Joanna: Yeah absolutely. I think that is absolutely the number one key area because I think sometimes sellers just completely fail to understand just how time consuming due diligence can be in terms of how long it takes to go put all the information together. Because quite often, I mean due diligence checklists and requirements differ from matter to matter depending on how big the matter is and the buyer and their approach, but generally speaking a buyer of a business will want a lot of good quality information in order for them to make a decision about the purchase and feel comfortable about the purchase. Quite often our experience is that the seller just isn’t ready and if they’re not ready at the time that the buyer is found then it’s likely to take them a while and timeframe slip.
Liz: Yeah absolutely. It’s common place that that happens.
Joanna: It’s absolutely common. And I’ve actually got lots of thoughts in my mind of examples we’ve seen. This is not something that categorizes small or large matters. It seems to happen across the board.
I can think of lots of examples that we’ve dealt with at aspect legal in relation to this and it seems to me that it’s not just small organizations that suffer from this. It’s also large organizations. Of course large organizations have got more in terms of data to get ready but one often has higher expectations of larger organizations for getting their ship ready before sale.
But I guess the reality is that organizations when they’re preparing for sale, they really just need to be well aware of what information they need to have together and to make sure they have that in place well in advance of actually finding a buyer.
So Liz what are some other problems that you see occur that then create a barrier to getting these deals across the line quickly.
2 Unexpected problems appear during due diligence
Liz: When the seller is not prepared in terms of having their house ready before they put the business on the market, unexpected things might become uncovered during the due diligence process.
Joanna: Yeah. And we’ve seen a number of examples of this where the sellers had either number one, lost the buyers or number two, had a massive impact on the sale price. Because what happens in these situations, is that a buyer either A) pulls out because they’re too scared about the rest of the business once they uncover a few issues or B) they use it as a way to negotiate down the sale price or maybe in addition to number two negotiating down the sale price, they require far more stringent warranties and indemnities.
I think this is a real problem for sellers if issues are appearing during DD that they haven’t been aware about prior and they haven’t been able to either A) advise the buyer of upfront so that it’s not a surprise or B) cover off as a risk so that it’s not a risk that comes up during DD.
Liz: Yeah. And so one of the most common areas is for example they’ve got longstanding trading terms with a supplier or a customer and they haven’t actually paid very close attention to contracts with them and it turns out that the customer or the supplier can terminate on short notice. It’s those sorts of issues that can often complicate matters.
Joanna: Yeah absolutely. Because when you’ve got a key client or a key supplier that can terminate at any point, it really whittles down what a buyer perceives the value in that business is moving forward or the locked in value of that business moving forward when it transfers to them.
I think some of the issues that we see regularly are also indemnities. Buyers who are going through the due diligence process and then find that contracts that have been signed by the selling organization are full of high risk indemnities. I think that’s another issue that we’ve seen play out quite a few times. So that’s definitely something for organizations to be aware of before moving into a sale.
I think another issue that pops up quite a bit that is probably worth us talking about here today as well in DD issues is workplace issues, employment law related issues because certainly this is something that we have seen popup again and again and again because buyers are rightly very concerned about the risks that might sit in an employment law perspective. So I think some of the important things for sellers here to consider are if they have contractors on board, this can often be a warning flag for potential buyers and that can be something that can slow down a transaction and trigger further indemnities and warranties.
That’s just one of many employment law type issues that can arise during DD. I guess the next thing that I wanted to move on to here is the advisers of the other party that’s part of the transaction and how fast or slow they move. That can really be a real problem.
3 Unhelpful or non-specialist advisors
Joanna: We’ve often dealt with solicitors for example on the other side whether that’s acting for the buyer or the seller on the other side who aren’t specialist in the area, don’t really know what they’re doing, and end up being really slow in the transaction. I think the reality is that that actually may be one of the most common issues that we see in slowing down a transaction right?
Liz: And sometimes certain solicitors, not all, they work to their own beat when they get to it and that sometimes is not helpful.
Joanna: Yeah. Certainly not in getting the deal across the line quickly. And look I guess this is a reason why it’s important to appoint advisers on both sides of the deal that know what they’re doing in a business sale matter because it helps to speed along the process if all of the advisors actually know what they’re doing and can get through their workflow as quickly as possible because they’ve done it many times before.
I guess this is the issue where people use their general practice lawyers who usually just deal with their litigation or their debt recovery or personal injury or family law matters or their wills. So I think that’s one point.
And certainly having the right other advisers involved in the process. Certainly we see where our clients have been assisted by accountants and brokers or exit advisers who are well versed in what they’re doing, that certainly contributes to the likelihood of a transaction being able to speed through quickly rather than being caught up by elements that perhaps the parties hadn’t thought of in advance.
4 Incorrect background documents
Joanna: So let’s talk next perhaps about background documents Liz. What are some of the issues that you sometimes see with background documents not being correct? I guess one of the things we see are share registers.
Liz: Yep, that’s right. Share registers for a company that’s been trading for a long time and where shares are being sold, you can often find that where they’ve been a few share register activity that don’t quite reflect what the parties believe to be the shareholding and that can often happen.
Joanna: It’s amazing how often that happens actually. I’m astounded at how often this happens but I guess organizations perhaps just don’t routinely look at their share registers or indeed ASIC records and ensure that everything lines up the way it’s meant to.
Liz: Yeah and this is common where a company’s been around for a long time and there have been certain shareholding changes over time.
Liz: [00:16:16] If we’re talking about a mom and dad holding the business for 40 years and nothing has changed, that’s okay. But in situations where they have introduced other shareholders over time, that’s where sometimes shareholding doesn’t quite reflect what the parties intend.
Joanna: Absolutely. And look this sort of thing is quite easy to deal with if you have time. The only problem is if you’re forced into this situation where everyone wants to get the deal done quickly. Sometimes this stuff just takes a little bit of time to sort out and therefore, even though it seems fairly innocuous it can absolutely slow down a deal.
5 Removing encumbrances
I guess that’s the same thing with encumbrances on an organisation. Once again encumbrances, like for example PPSR registrations, might on the face of it seem not particularly important but they are.
Liz: That’s right. Exactly. And often we find that encumbrances, that are no longer meant to be on the register are on the register because they paid it out five years ago and they haven’t bothered to ask for it to be released on the register.
Joanna: Yeah and then a buyer quite rightly will generally require that for completion to occur before they hand over their check. They want to see that there are no encumbrances in the business and so if it takes time, which sometimes it does, to get the third party to remove those encumbrances or registrations from things like the PPSR that can completely hold up the completion of the deal.
Liz: Yes and we see that often.
6 Issues with third party consents
Joanna: Yeah, that’s right. All right. So then I guess that moves us through then to our next area which is third party consents. So what issues do you see, Liz in this area of third party consents?
Liz: [00:18:12] Again it’s a timing thing. You’ve got to be on top of your contract as a seller as to who you need to seek consent from and plan out when you’re going to do it and make sure that you have time to do it. Because often, when you find that you haven’t looked at it, by the time you look at it at the last minute, you find it takes a lot longer than you think to get that third party consent.
Joanna: Yeah. And so third party consents here, they can be caught up in a lot of different things. Say for example in contracts with key customers, key suppliers, there may be clauses that either require that there’s permission before assignment if you’re assigning a business or permission before you’re allowed to change the control of the organization. We call these change in control clauses where it particularly stipulates that the organisation must get consent before control is changed otherwise this triggers a right of termination by that key customer or stakeholder.
Liz: That’s right, because it becomes a breach.
Joanna: Absolutely. What that will cause is either A) it’s picked up in due diligence and creates concerns B) it just slows down the transaction as everyone works to get those consents into the future or C) they are missed and you now have the issue of contracts being breached and the loss of these key suppliers or clients.
7 Dealing with leases and landlords
Joanna: A type of third party consent but something that’s I think worth talking about all on its own is leasing issues. So of course leases are a type of third party consent that’s generally required but leasing does deserves a little point all on its own because the whole lease assignment process or lease assignment if it’s a business sale or at least the authorisation process if it’s a share sale, can take time.
Liz: It does. And I’m sad to say that it takes just as long today than it did say 15 years ago.
Joanna: Isn’t that crazy?
Liz: I don’t know what it is. We’re a lot more advanced in terms of how we’ve progressed with registration processes, technology, emails and so forth, but yet this whole process of landlord consent still takes an inordinate amount of time.
Joanna: Yeah. It’s amazing isn’t it? You’d think that there would be a better way by now. I guess in terms of a better way organisations like us here at Aspect Legal, we have a really clear process that we follow to ensure that we try and well it’s really pull all of the other parties through the process as quickly as possible.
But even when you have a defined process for one party, like for example as we do here at Aspect Legal, you’re still dealing with both of the other sides of this transaction – the landlord and the other side whether it’s the buyer or seller – and quite often they aren’t as organized in terms of their processes to ensure that things are happening efficiently. This is where it’s important that all parties have got the right advisors on board and that these issues are thought about early on in the piece.
8 Finance component
Joanna: Let’s move then on to finance because many transactions have a finance component connected to them whether or not that’s finance from an organisation that relates to discharging finance or finance from a buying organization to allow them to complete the purchase. So where financing isn’t fully in place, this can also be something that we see slows transactions down.
Liz: Yes. So as a purchaser, unless they’re buying with cash, they’re dependent on a third party to provide the financing and therefore it’s important for the purchaser to ensure that it knows what process it has to go through in order to obtain finance and associated with that, often when entering into a lease, they have to obtain a bank guarantee. Sometimes the time it takes to get a bank guarantee is underestimated by a purchaser and that can often slow down the process.
Joanna: Yeah, absolutely. With that Liz, I think we’ve probably come to the end of our list. This certainly is not an exhaustive list but I think we’ve seen lots of issues creep up time and time again. We don’t want to overwhelm people here but really this is the top list. Just for the benefit of you our listener who might be doing something else while you’re listening to this podcast, Liz and I talked about the top areas that can cause a transaction to be slowed down.
Disclaimer: The material contained on this website is provided for general information purposes only and does not constitute legal advice. You should not depend upon any information appearing on this website without seeking legal advice. We do not guarantee that the contents of this website will be accurate, complete or up-to-date. Liability limited by a scheme approved under Professional Standards Legislation