Legal Documents for Selling a Business
Managing the preparation and execution of legal documents for selling a business can be dizzying. But it can also mean the difference between a business sale that goes off without a hitch and one that flounders or even derails.
Remember that buyers are on high alert during the sale process. They’re watchful for anything indicating a business hasn’t been well-managed. If the smallest detail goes amiss, it can raise a red flag and make buyers wary of moving forward.
Unfortunately, you can’t shortcut or disregard the many documents accompanying a business sale. But knowing which legal documents you’ll need for the sale of your business and when you’ll need them will help expedite the process and minimize the chances of missing or incomplete documents.
Why Legal Documents Are Essential in a Business Sale
The legal documents required for a business sale protect the rights and interests of current business owners as well as those of the buyer. They outline the terms of the sale, identify the responsibilities of each party, and ensure that necessary disclosures and guarantees are provided.
Besides offering assurances to buyers and sellers, legal documents also help prevent disputes and even lawsuits once the sale has closed.
A seller must provide truthful and complete information about the condition of the business entity to the buyer. Buyers in turn, depend on the facts presented during the selling process to make a buying decision. The legal documentation required at each step of the business transaction paves the way for the sale process to work as both parties expect.
Start Gathering Documents Before the Sales Process Begins
You can begin gathering the legal documents you need for selling your business well before you’ve identified potential buyers. Doing so will help you convey the value of your business to potential buyers when these documents are organized and ready for review.
Early preparation also gives you time to renegotiate contract items a buyer might view as unfavorable. And it will prepare you to explain and account for any contract terms that might raise questions in the buyer’s mind.
Financial records, including profit and loss statements, cash flow statements, and seller’s discretionary income (SDE) statements should be ready when you begin the sale process. Even if the time between deciding to sell your business and identifying a buyer turns out to be longer than you anticipated, it will be easier to revise and update your financial documents rather than create new ones.
Preparing these documents in advance gives you the time to make any revisions or do any recasting. It will also give your attorney, accountant, or CPA time to review your documents and suggest any changes.
Make sure your attorney reviews your contracts and other legal documents early. A business broker can also help identify contract points that don’t align with industry standards.
Documents You Can Prepare Early in the Sale Process
Many of the documents you’ll need for selling a business are already in place when you decide to sell.
As discussed below, you don’t want to share sensitive or confidential information until you know the buyer is serious about acquiring your business. But that doesn’t mean you can’t begin gathering documents such as tax returns, insurance policies, licenses, and professional certificates early and have them ready when the time comes.
Among the legal documents you can gather in advance of your business sale are:
Real estate lease agreements. Reviewing your real estate lease early can help identify issues that might interfere with your sale. For example, if your lease has a clause that prevents transfers, you’ll want to talk to your landlord and make revisions before discussing with a buyer. Likewise, if your lease expires soon, you’ll want to renegotiate it before you begin selling your business.
Business formation documents. While business formation documents are pretty standard, it’s important to review them. If aspects of your business, such as your address or your registered agent, have changed since you formed your business, you’ll have the opportunity to make revisions so the documents are up to date when the buyer reviews them.
Licenses and professional certificates. If your business requires licensing, you must present those documents to a potential buyer. Ensure your licenses are available and current when you begin the sale process.
Supplier and customer contracts. Your supplier and customer contracts play a crucial role in your business valuation. Supplier contracts determine a large part of your expense structure, and customer contracts are key indicators of your future revenue. You’ll want to make sure your contracts are current and they show the strengths and health of your business.
Equipment leasing agreements. Preparing to sell your business is a good time to review your equipment leasing agreements to ensure the terms are favorable and the agreements can be transferred to a new owner.
Employment agreements. Your employment agreements should describe the duties, compensation, and benefits provided. A buyer will want to know that key employees will remain with the business when you sell it. Having an employment agreement with all essential employees will increase your business valuation.
It’s ill-advised to share the legal documents described above with potential buyers until you’ve reached the due diligence stage of the sale process. Someone who is not serious about buying your company or, worse, is pretending to be interested for the sole purpose of gathering competitive information can use the sensitive information contained in these documents to cause harm to your business.
Still, gathering this documentation early will facilitate the sale process and help bolster the value of your business when the sale does get underway in earnest.
Documentation You’ll Need for Due Diligence
The sale process usually begins with casual conversations, then progresses to more detailed discussions about the business. At this point, you’ll want to protect your interests with legal documents that record and confirm the discussions you’ve had to date and establish your and the buyer’s intentions to move forward.
The legal documents you’ll need include:
Letter of Intent (LOI)
A letter of intent is the first formal step in the sale process. Usually prepared by the buyer, it outlines the basic terms of the business sale. A LOI allows the buyer to enter the due diligence process where they can look more closely at the financial condition, business plan, and operations of the business.
Examining the business more closely typically requires the buyer to get financial and legal advice from accountants and attorneys. A signed LOI assures buyers that they can move forward with the expense of due diligence because both buyer and seller are on the same page regarding their expectations and the terms of the sale.
In most cases, however, LOIs are not legally binding documents. Because the sale can still fall through at this stage, sellers must be cautious about the sensitive information they share.
The LOI often includes a timetable for providing confidential and proprietary information, such as financial statements, and sellers often don’t release all the information required during due diligence at once.
Non-Disclosure Agreement (NDA)
Before sellers release sensitive or confidential information, they require buyers to sign a non-disclosure agreement. An NDA, also called a confidentiality agreement, is a legally binding document that prevents the buyer from disclosing any sensitive information gathered during the due diligence process to an unauthorized party.
When sellers don’t want to release all their company information at once, they might prepare several NDAs. Each one specifies the type of information being shared. Using a separate NDA for each stage of the due diligence process gives sellers added security that the information they disclose won’t fall into the wrong hands.
Some of the information that’s typically released to buyers once they sign an NDA includes:
- Tax returns
- Profit and loss statements
- Balance sheets
- Cash flow statements
- Accounts payable and accounts receivable statements and aging reports
- Supplier contracts
- Asset lists
- Employment contracts
- Loan agreements and other company liabilities
Items like customer lists and intellectual property are often withheld until the very end of the sale process.
It’s important to engage a law firm to draft an NDA in case the sale goes sideways and the information is released in a way that’s not intended. NDAs are legally enforceable documents, but they are subject to scrutiny by a court in the event of a lawsuit.
Documentation You’ll Need for Closing the Sale
Once a purchase agreement is reached, sellers prepare a sale agreement and a bill of sale. These documents are often quite extensive and are drafted by an attorney.
Purchase and Sale Agreement
The sale isn’t complete until both parties sign a purchase and sale agreement. The agreement is a legally binding document that details the parties to the sale transaction, the purchase price for the business, what’s included in the sale, the closing date, and other terms.
A purchase and sale agreement often also includes:
- Representations and warranties that include statements and assurances about the sale and the business
- The method to be used for resolving disputes
- A non-compete clause that restricts the seller from engaging in a competitive business for a specified period of time
- A non-solicit clause that prohibits the seller from poaching the business’s employees post-closing
- A consulting or employment agreement if the seller stays with the business during the transition period
When a business sale includes seller financing, the purchase and sale agreement also includes a promissory note outlining the loan terms.
Bill of Sale
The bill of sale is an abridged version of the purchase agreement that serves as evidence of the transfer of ownership from the seller to the buyer.
Documents You’ll Need Post-Closing
Once you and the buyer have signed a purchase agreement, you’ll usually hold a closing meeting where documents are turned over to the buyer along with keys, instructions for operating the building security system, and the like.
Documents turned over at the closing meeting include:
- A closing or settlement statement prepared by the seller’s attorney or an escrow agent. The statement details the costs and adjustments paid or credited to the buyer and seller.
- An asset acquisition statement that details the assets being transferred
- A succession agreement that transfers employee benefits and profit-sharing plans to the buyer, when applicable
State laws might require additional closing documents, highlighting the importance of assembling a knowledgeable team of advisors to navigate the legal intricacies of selling a business. In addition to an attorney, consider enlisting the expertise of an accountant and a business broker. Start building your team of experts by exploring BizBuySell’s Broker Directory to facilitate a seamless process for selling your business.