Are you a construction business owner or a business enthusiast who is looking to buy a construction related business this year? Are you eager to understand how the process of acquiring a business goes like? Understanding about each and every aspect of the acquisition and deciding about which type of sale you should proceed with: ASSET SALE OR SHARE SALE, these are all very important points to consider about. Look no further! We are the leading Mergers and Acquisitions firm specializing and assisting construction companies in growing, buying, valuing, and selling their organizations.
Now, let’s move ahead with today’s topic: ASSET SALE v/s SHARE SALE: WHICH IS THE BEST OPTION. Is there a best method? Let’s explore this topic in greater depth.
It’s really important to emphasize on this point if you are looking to acquire Construction Business, be it any kind of construction companies like plumbing company or a landscaping business or an electrical contracting company, in any places in Canada. This is a crucial subject that demands thorough comprehension. Proper understanding about each and every detail of the type of acquisition is mandatory which further helps a business owner in buying the business right.
Considering our experience of more than a decade in handling only the construction domain we have understood certain aspects and this is our interactive guide where we delve into the nuances of asset sale versus share sale in the construction industry. As construction business owners, understanding the implications of these two types of sales is crucial for making informed decisions about the future of your company. Join us as we navigate through the intricacies of each sale type and explore which option might be best suited for your business goals.
First let’s try to define Asset Sale and Share Sale:
An asset sale involves selling individual assets of the business, such as an equipment, inventory, and intellectual property, rather than selling the shares of the company itself. In this scenario, the buyer purchases specific assets and liabilities of the business, allowing for more flexibility in what is included in the sale.
Now, what about a share sale?
In contrast, a share sale involves selling the shares or ownership interest in the company itself. This means that the buyer acquires the entire business entity, including all its assets, liabilities, contracts, and obligations. Share sales often result in a change of ownership but maintain the business entity stays intact.
As one of the only Mergers and Acquisitions firm handling construction companies in Canada, our experience of many years helping the construction business owners in buying, valuing, growing and selling their construction companies I spend the majority time actually advising buyers and sellers, in regards to how do I think about these certain liabilities that the seller has on their balance sheet? And then I come to figure out that it’s really sort of a question around asset sale versus share sale. Okay, and once you understand the structure, I think a lot of it starts to make sense. So, let’s understand what the difference is between an asset sale and a share sale and why you would want to proceed with certain things in them or make certain decisions around them. So, the selling entity, the selling business, is a legal entity, right? And this legal entity is liable for any sort of legal things and its a sort of like the legal entity that pays taxes and reflects ownership of the company. It’s the stock in this legal entity that is owned, right? But this legal entity owns a bunch of assets along with the shares. Now, these assets can be tangible or they can be intangible. And what I mean by that tangible asset can be simple tools or some big physical industrial piece of equipment. On the other hand, intangible is going to be the brand, the logo, frankly speaking, the culture of the people, the sort of standard operating procedures, the intellectual property, the website, and all of these kinds of aspects of the business.
The truth is that the legal entity in and of itself doesn’t actually generate any cash, does it? It’s the assets which is doing the magic. Yes, it’s the assets that generate the cash. So, it’s ultimately the cashflow and the assets that you’re after. And whether or not you want this blue legal entity usually dependent on just a couple of things. But let me say it like this, almost all, almost all lower middle market and main street transactions are going to be an asset sale. and not a share sale. So, an asset sale is where you form your own legal entity. And then we’re going to move all of these assets and all of this cash over into your legal entity, leaving this one hollow. So, in other words, we would have this cash flow that of course is coming from these assets. For example, if we are we moving them from here to the next business then, this of course is now a hollow legal entity. And that’s it. Sometimes it could be that this legal entity over here, maybe there was a building or something like that which the business owned. More common than not, it’s actually left empty. And then this is a shell of an entity that the seller, they might accept a seller note or something like that. They might leave it open to start a new business. oftentimes they’ll kind of shut it down. Then that legal entity is removed and you’ve moved all of the assets and all of the cash flow, things that generate cash flow over here. It includes employees and all the rest of it. Usually, you have to terminate them from this legal entity and hire them on that new legal entity, usually done in the days following the transaction. Listen, this is actually beneficial for the owner.
Now let’s understand why this is beneficial. The reason is, it’s a cash-free, debt-free transaction. CASH FREE. What does that mean? It means that any cash that was in that original entity is retained by the owner. So, any cash that was in here, any cash balance is retained by the owner.
We had a landscaping business owner who reached out to us a few years ago for selling his company and he preferred this type of business sale and by the end he was having a million dollars in cash. Well, the owner took that cash and then he was ready to sell the assets. So, cash does not move over.
The other major aspect would be liabilities. It’s debt-free. DEBT FREE- Lets explain with the same example, business owner had a million dollars in cash and he also had 250,000 in debt. In this case, the owner kept the debt and you as the buyer don’t accept any of the cash or any of the debt. That’s it.
Now, why does this happen? Well, it’s really is to the benefit of the buyer. Because it limits the sort of like historical risk of the original legal asset. So, you know, let’s say you are the buyer who is looking to buy the stock of this company, and now you as the owner are liable for the entire history of this entity.
For example, you are looking to buy a building supplies manufacturing company and you are proceeding with the share sale, okay? Then four years after you buy it, there was a batch of low-quality supplies that failed. Since it’s a share sale, you’re now liable because you are the owner of this legal entity. Now, when you are proceeding with the asset sale and not the legal entity, you are not liable for anything that did not happen on your watch. Huge benefit to a buyer and the core reason why most of them happen that way, and that is the default setting.
The other reason, let me say it differently. The reason why you would do a share sale is typically because of, you know, the business owner is having some kind of contractor, or a supplier contract or a customer contract or some kind of license that is very important and non-transferable but it is essential to the business.
Number two would be obviously, if you are buying a minority ownership in a company, like say a startup or something like that, its better to buy the equity, which I can definitely say that would be the best option. We had a small flooring company owner who looked to sell his company back in the year 2020. The buyer was confused about the asset sale and share sale but since the scale of operations were less, we advised him to proceed with the share sale. The third reason would be, once you get into sort of larger deals, it becomes easier and more common, slightly more common to do a share sale. But you know, it might be like if the seller is going to stay on and continue to retain, let’s make it up 20% of the business and you’re going to buy 80% of the company in sort of a private equity situation. There might be a reason in this structure to do a share sale. If you as the buyer decide to buy it as a share sale, it has tremendous tax benefits. And so, as a result, what almost always happens is that the purchase price, it’s usually higher than if you buy it with stock. The reason why is because the cost of the purchase price tends to be worth more.
Each avenue carries its own set of advantages and disadvantages, shaping the transaction’s outcome and future implications. Let’s embark on a journey to understand the positives and negatives of asset sales and share sales, to empower the business entrepreneurs and seasoned investors alike.
Here are some key points to be addressed about the Asset Sale:
Buyers benefits from the asset sales which includes reduced liability, providing them with a fresh start free from past obligations, and the flexibility to choose assets that align with strategic goals while leaving behind the liabilities. Asset sales often offer tax benefits, enabling buyers to depreciate assets for tax purposes and streamline transitions by seamlessly integrating acquired assets into existing operations. However, asset sales also present challenges such as adverse tax implications for sellers, contractual hurdles in transferring contracts and licenses, employee uncertainty regarding job security, and potential changes in employment terms, as well as the need for proactive communication to manage customer and supplier perceptions.
To make it easier for you to memorize, let me just help you with the summarized points:
Advantages:
Reduced Liability: Buyers are shielded from the seller’s past liabilities, offering a fresh start avoiding the historical baggage.
Flexibility in Selecting Assets: Buyers can pick desired assets while leaving behind liabilities, optimizing the deal to align with strategic objectives.
Tax Benefits: Asset sales often offer tax advantages, enabling buyers to depreciate assets for tax purposes, potentially reducing their tax burden.
Streamlined Transition: Asset sales facilitate smoother transitions, allowing buyers to integrate acquired assets seamlessly into their existing operations.
Disadvantages:
Seller’s Tax Implications: Sellers may face adverse tax consequences, particularly if the sale results in significant gains, necessitating careful tax planning.
Contractual Hurdles: Transferring contracts and licenses can pose challenges, requiring meticulous negotiations and legal expertise to navigate.
Employee Concerns: Employees may face uncertainty during asset sales, raising concerns about job security and potential changes in employment terms.
Customer Perception: Asset sales might trigger tension among customers or suppliers, necessitating proactive communication to maintain relationships.
Now let’s explore Share Sale in depth:
Share sales provide a streamlined method for transferring ownership, maintaining the entity’s structure and contracts, and ensuring minimal disruption for employees, customers, and suppliers during transitions. Sellers can benefit from tax efficiencies, including exemptions or reduced rates on eligible transactions, potentially leading to higher valuations reflecting the company’s intrinsic value and growth prospects. However, share sales also comes with drawbacks such as inheriting all existing liabilities, limited flexibility in asset selection, regulatory compliance requirements, and the potential for shareholder disputes, necessitating thorough due diligence and resolution mechanisms to address conflicts effectively.
Summarised version for more clarity:
Positives:
Simplified Transfer of Ownership: Share sales offer a straightforward mechanism for transferring ownership, preserving the entity’s structure and contracts.
Minimal Disruption: Continuity is maintained for employees, customers, and suppliers, minimizing disruptions commonly associated with business transitions.
Potential for Higher Valuation: Share sales can often command higher valuations, reflecting the company’s intrinsic value and growth potential.
Negatives:
Inherited Liabilities: Buyers assume all existing liabilities and obligations, necessitating thorough due diligence to assess potential risks.
Limited Asset Selection: It can be difficult for buyers to pick the assets as buyers inherit the entire list of the company’s assets and liabilities.
Regulatory Compliance: Share sales may entail regulatory scrutiny and approval processes, adding complexity and potential delays to the transaction.
Shareholder Disputes: Share sales involving multiple shareholders which can lead to conflicts over valuation, governance, or decision-making authority, requiring resolution mechanisms.
Conclusion:
In conclusion, the decision between asset sale and share sale depends on various factors such as tax implications, flexibility, and the long-term goals of the business. By understanding the pros and cons of each option and seeking professional advice, construction business owners can make informed decisions that align with their objectives. Whether you’re a seasoned business owner or a first-time investor, leveraging the expertise of professionals and staying informed throughout the process will help you navigate the complexities of buying a paving or flooring or millwork or any kind of construction related businesses with confidence and achieve your desired outcome. By understanding the points outlined in this guide and seeking expert advice when needed, you can maximize the value of your investment, achieve sustainable growth, and successfully navigate the complexities of the construction industry. Be it the seller or the buyer, its always better to get the expert advise of a Mergers and Acquisitions advisor to make the things much smoother.
In essence, engaging in the construction business not only includes mere number crunching; it involves a careful examination of numerous factors. With N3 Business Advisors headquartered in Toronto, Ontario, serving as your trusted advisors, this exploration transforms into a rewarding journey, ensuring that your construction business across Canada is not only assessed but strategically positioned for success in the dynamic industry.
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- How to buy, grow, value and sell your Consulting Engineering Business
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Disclaimer:
Any information provided here is for information purpose only. It should not be considered as legal, accounting or tax advice. Prior to making any decisions, it’s the responsibility of the reader to consult their accountant and lawyer. N3 Business Advisors and its representatives declaims any responsibilities for actions taken by the reader without appropriate professional consultation.
