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Any Advice Or Best Practices When Selling A Business, Avoiding Lawsuits, etc.?

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Comments & Replies: 13     Views: 2999     Posted By: Peter Siegel MBA  Peter Siegel MBA: BizBen Founder, ProBuy/ProSell Program Director

Topics: Legal Issues, Selling A Business     Tags: for sale by owner, legal issues, selling a business

Yes. Be as open and as honest as you can. Make sure your broker knows your business and that you fully disclose anything you would want to know if you were purchasing the business. Then, get proof of delivery. Remember that late discovery can kill a good transaction. A professional business broker will be more effective if all the facts are known. Remember to get and to save all documentation and all disclosures.

Contributor: Business Broker - Preschool Specialist

I think the best way to avoid legal problems is to disclose everything you know, the good, the bad, and the ugly, about the business you are selling. Whether you are an agent or a principal. Of course, that doesn't mean you dwell on the negative with a prospective buyer, or buyer's agent, but pertinent facts that could effect the operation of a business in the future, or have in the past, should be put on the table.

And make sure the parties involved acknowledge your disclosure with their signatures. Another issue I have seen in the private preschool industry {which could apply to almost any type of business}; agents or even owners of a school who are willing to sell a business to someone who is really unqualified and unprepared to operate a school successfully. I think it is just as important to qualify a buyer's experience record as it is to look at the financial qualifications. The last thing I will mention is sourced from personal anecdotes I have gathered. Pricing a business properly is not always an easy task.

There are some good standard practices in evaluating businesses that are discussed in various forums and discussions here on BizBenNetwork that can be of enormous assistance. Selling a business to an in-experienced person at a price beyond the normal multiples used could be an invitation for trouble down the road.

You may think you are doing yourself or your client a great service by getting an outrageous price for the business you are selling, and sometimes, that is completely honest, ethical, fair, and good business practice, if everyone knows what they are getting into, and the potential is there for expansion and increased revenue. But take some time to find out from potential buyers where their strengths are, what their experience is, how capable they might be in running a business in which they have no past history.

And resist the temptation to take advantage of a buyer's ignorance. I think keeping these things in mind and practicing them will go a long way in avoiding legal problems when you sell a business.

Contributor: Transactional Attorney

When a buyer files suit against the seller of a business the buyer typically believes that the seller has done one or more of the following either in person or in the purchase agreement:

1. Made a material promise (covenant) that they have not kept.
2. Made one or more statements of fact (representations) that were not true.
3. Agreed (warranted) to protect the buyer from loss if a particular fact was not true, and not lived up to that agreement.

Seller's can avoid most lawsuits by keeping their promises, not making any untrue statements of fact about the business that may induce the buyer to purchase, or warranting to protect the buyer if they can't (or won't) actually honor that agreement.

While that advice may seem obvious, sellers often rely on the language as drafted in a standard CAR purchase agreement and by escrow. They may not spend adequate time reviewing the contract to ensure they understand everything, and that the provisions are reasonable and accurate given everything they know about the business.

Instead, they skim through the agreement and sign without really knowing what they are stating and agreeing to.

If you're selling a business and want to avoid litigation down the line it is crucial that you know exactly what you're promising, representing, and warranting, and that you are completely comfortable with everything in your purchase agreement.

In addition to making statements that are not true, sellers can also get into legal trouble by failing to disclose "material" facts they knew about the business. A good rule of thumb is that if there's something about the business that you would want to know yourself if you were purchasing it, you should disclose it. A set of clearly drafted, specific disclaimers incorporated into the purchase agreement can go a long way towards protecting you down the line.

Sellers should also avoid making statements that "may" be true. These include any financial projections or statements about future potential of the business, particularly when based on prior year numbers.

Sometimes it's not the buyer of a business, but a third party who files suit against a previous owner. This typically happens when a new buyer purchases a business entity rather than just the assets, and/or the seller does not take the proper steps to ensure that their name is no longer associated with the company.

Sellers must ensure that they are no longer on any business accounts or contracts, that they file any final tax returns from state sales tax (if applicable) to employee payroll returns, and that they properly dissolve their business entity if it's an asset sale and they're no longer operating the entity. It's also important to ensure that any permits, business licenses, DBAs, trademarks, etc. are properly terminated and/or transferred as needed.

While as the saying goes, "anyone can sue anyone for anything" taking the above steps are a good start towards protecting yourself from a lawsuit when selling a business.

Contributor: Business Broker, SF Bay Area

The best answer is "full and complete disclosure". In my practice, I have sold businesses that had issues regarding the property, potential lawsuits, distribution agreement transfer issues, premises lease issues, employment issues, etc. In each and every case I asked the Seller to make a complete and full disclosure of this information long before the advertisement material was prepared and any information was sent to a potential buyer. Many times I would do that even before I took the listing. This way Buyer was fully aware of the situation and could conduct their own due diligence to assess the risk involved with the issue and then make an appropriate offer. Many potential buyers immediately walked away since they didn’t want to deal with that situation. But those who persisted were willing to take the risk and Seller could then avoid any potential litigation due to these issues.

Second aspect is that if the Buyer fails in the business, buyer will try to look to the Seller and say that it is somehow Seller's fault. So during due diligence I strongly recommend to the Sellers that they also conduct due diligence on the buyer. If they feel that buyer really won’t succeed then it would be better to terminate the deal, or express your concerns to the Buyer. If a business fails then all your customers and employees will be affected and whether or not you will win in the litigation, it is better to avoid selling to someone that you feel is not suitable.

When practicing business law in New Jersey, I would regularly tell my clients that if they end up in litigation, in most cases, even if they win, it still will be a loss. Law suits are disastrous to a business—they cost money, time, personnel resources, and attention, and they create uncertainty, bad relationships, and negative publicity. So, how do you avoid lawsuits when selling a business?

1. Be represented by an attorney from the very beginning—before you sign a contract, or, if you do sign a contract, be sure you have at least a three-day attorney review clause allowing your attorney to cancel the contract “for any reason or for no reason.” And, make sure this attorney is a business transaction specialist—a “deal-maker,” not a “deal-breaker.”

2. Require that your buyer is represented by an attorney as well. That way any claims by the buyer that they were “unaware,” or “unsophisticated,” or “at a disadvantage,” or “didn’t know what they were signing” will be groundless.

3. Disclose everything to your lawyer—he cannot repeat it. But, if you keep your lawyer in the dark, he cannot properly represent you.

4. Be honest. Don’t make any statements or representations that diverge from the truth.

5. Be sure that you have an arbitration clause in your contract requiring any and all disputes related to or arising out of the transaction or involving the parties to the transaction be resolved through binding arbitration through the auspices of the American Arbitration Association.

6. During due diligence disclose everything you are asked to reveal (with the advice and counsel of your attorney); and, disclose everything that would reasonably be a material fact in the buyer making a purchase and/or valuation decision.

7. Use an escrow agent for a variety of good reasons; but, particularly so that you have on record that a professional, licensed, bonded, neutral third-party checked your representations against the public record.

There are other things you can do to avoid a lawsuit that your attorney and escrow agent can advise you about directly.

You give the buyer your tax returns for 3 years.

You give the buyer your quick books or other accounting system financials for most 3 years and the current year to date financials.

You should answer all of the buyers questions in writing and signed. Not orally given the broker to pass on the information.

The broker might not duplicate your response exactly and the buyer is acting on wrong information that you can be blamed for.
Have your accountant review your financials to see if any journal or adjusting entries need to be made to properly represent the financial condition of the company.

Have the accountant approve what add-backs are being used to increase the profit of the business.

Do not give pro-forma financial statements created from memory or averages. The buyer does not know if this is real or imagined and can create huge problems.

Do not alter or let the broker alter any financial statements with the intention of wanting the buyer to understand what the expenses should be. That is done on a add-back worksheet that lists exactly what you paid out of the business that you want added back to the profit because they really were for personal use. Life, health, and auto insurance are just a few of these type of expenses.

Get everything in writing! ALWAYS!! #1 Rule.

Make sure that the representations and warranties for both Buyer and Seller are reasonable AND accurate.

Make sure a business broker is involved to allow for an arm's length negotiation and ensure that the transaction is orchestrated professionally.

Make mediation a mandatory first step to solve any future dispute after closing. AND place a clause in there that any party that bypasses mediation will never be entitled to their attorney's fees or court costs if they decide to sue before starting a friendly mediator-driven dialogue first.

I would advise you to use an Escrow Company that handles Business Sales. They will take the sale from start to finish and make sure all UCC and lien searches are done, contact the BOE, EDD, Franchise Tax Board and County Tax Collectors office for releases and clearance. All documents will be prepared, payoffs to creditors, recording, publishing all handled through escrow.

No magic pill here. First and foremost as a seller be honest to your buyer. Don't embellish your numbers. They are what they are and tell the truth and be transparent.

Each purchase agreement usually has its list of contingencies that must be met in order for the buyer to complete the transaction.

Have your buyer sign off his approval on each contingency that has been met. Especially the one on the buyers approval of sellers books and records or "due diligence".

They need to sign a written statement that they have been afforded the opportunity to review all of the books and records of the subject business, have completed their due diligence process and hereby approve buyers due diligence in its entirety and remove this contingency from the purchase agreement.

Contributor: Business Appraisals, Valuations Advisor

Honesty and lots of it. If you use a broker make sure you tell him about any significant problems with the business and make sure these are conveyed to a buyer early in the process. Tell your broker that you want an open and honest transaction. When you find a serious buyer and he starts his due diligence open all your records to him. Answer all his questions and provide all the backup data to support your answer.

Ask all potential buyers to sign a simple confidentiality agreement. and have the buyer sign a statement that he is satisfied with his due diligence.

  Helpful Resources To Assist In Selling And Buying California Businesses
Janet Carrera - Escrow & Bulk Sale Services - SF Bay Area

Redwood Escrow Services, Inc. is a full service, licensed independent escrow company. We are EAFC Fidelity bonded, fully insured & licensed with the Department of Corporations. Committed to offering our clients the most comprehensive variety of escrow services available. Phone Janet at 510-247-0741.

Joe Sandbank, Esq. - Legal Services

I have provided legal counsel to business buyers, sellers and brokers for over 17 years. With prior experience as a business broker and SBA loan officer, Joe brings both a practical and legal approach to all aspects of the business acquisition process.

Diane Boudreau-Tschetter: Escrow And Bulk Sale Services

California Business Escrow, Inc. is a full service independent escrow company serving all of California and has expertise in a wide range of escrows. Our team prides itself on providing an exceptional escrow experience. For more info phone Diane Boudreau-Tschetter at 888-383-3331 or 209-838-1100.

Elizabeth McGovern: Escrow Services - SF Bay Area

McGovern Escrow Services, Inc., is a leading independent escrow company. We are a trusted partner with our clients, assisting them through the tangled bulk sale & liquor license transfer process. We provide attentive, quality & innovative customer service. Phone Elizabeth McGovern at 415-735-3645.

Helen Yoo: Escrow & Bulk Sale Services - Southern California

New Century Escrow, Inc. is a fully licensed & bonded independent escrow company. Over 20 years combined experience in handling bulk escrow transactions. Multi-lingual staff that speaks your language, including Korean, Chinese, Vietnamese. Call Helen Yoo direct at 626-890-1151.

Willard Michlin, CPA, Certified Fraud Examiner, Due Diligence Services

Willard Michlin, CPA #106752, offers buyers step by step training & assistance in doing Due Diligence Services when they are thinking of making an offer, or are in process of investigating a business purchase. He helps to determine the actual net profit even when there is cash. Call 805-428-2063.

Brad Steinberg, Broker - Laundromat Specialists

PWS is the leading laundromat broker in California. Since 1968 PWS has brokered over 2,500 laundromat sales. With over 90 employees dedicated to the coin laundry industry, PWS has 18 licensed agents, a 3 person in-house finance department, 10 service technicians and a 20 person parts department.

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