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Selling your business takes careful preparation. You can avoid big mistakes by getting ready well.
Use key legal papers like Non-Disclosure Agreements (NDAs, which keep information secret), Letters of Intent (LOIs, initial offers), and Purchase Agreements (final deals). This guide lists must-have financial records, company rules, and compliance files to make the sale smooth and get the best results, as experts from the American Bar Association suggest.
Key Takeaways:
- Get your company rules ready, like formation papers, operating guidelines, and owner lists. They show clear ownership and how things run during buyer checks.
- Collect money reports, tax forms, and key deals with customers, suppliers, and landlords. These prove your business is strong and list what you owe.
- Pull together patent info, worker contracts, and rule-following records. They guard your assets and keep you legal in the sale.
Overview of Legal Preparation for Business Sale
Getting your business ready for sale means putting together a full list of legal papers. These help with due diligence, the buyer's deep check on your company.
A 2022 Deloitte study on mergers and acquisitions (when companies combine or one buys another) shows 80% fail from missing info. Start early to avoid this.
Plan for 3 to 6 months to organize everything well.
Focus on these main areas:
Buyers often trip up on NDA needs, which can stop deals cold. A 2023 report from Hanlon Niemann & Wright on leaving a business warns about this.
Stick to UCC rules, the standard laws for sales in the US. They make sure deals and asset moves are secure.
Corporate Governance Documents
Company governance papers form the basic legal setup for your business (rules on how the company is run and owned).
They prove to buyers that everything is solid during their checks, using straightforward steps.
Exitwise studies show 70% of price fights come from weak governance. Fix this to keep things moving!
Articles of Incorporation and Bylaws
Articles of Incorporation set up your business legally.
Bylaws lay out how it runs inside.
Take a C-Corp in California: File with the state office for $100. Approval takes 1-2 weeks.
A C-Corporation is a common business type taxed separately from owners.
To conduct a thorough review and update of these documents as part of due diligence, adhere to the following step-by-step checklist:
- Find original papers in state online tools like California's bizfile.sos.ca.gov. Search by your business number, it's free.
- Check changes for errors, like missing board okay. These can make updates invalid under IRS rules (see Pub 542 for company setups).
- Black out private info like home addresses before adding to the info summary (CIM) or offer letter (IOI). This keeps privacy safe.
Follow these steps for clean papers ready for LOI talks.
They cut risks in company rules and tax issues.
In a $5 million software buy helped by Raincatcher, updating old voting rules in bylaws made the deal smooth.
Shareholder and Board Records
Keep owner and board files, like meeting notes and stock lists, up to date and full.
This stops bad surprises in buyer checks.
A 2023 PwC survey says 45% of deals slow down from missing ownership papers.
Equity is ownership shares.
To achieve compliance with code of ethics, follow these steps to meet ethics rules:
- Gather meeting minutes from the last five years. Use tools like Diligent Boards (about $10,000 per year for large setups) to scan and sort them quickly.
- Update capitalization tables to address prevalent inaccuracies, including unrecorded stock options, by employing Excel templates or advanced platforms like Carta to ensure precision and reliability.
- Prepare for prospective buyer audits through a thorough internal review. In instances of missing records, reconstruct them using sworn affidavits from company officers, as authorized under SEC regulations for private entities (in accordance with Regulation D requirements).
Picture the 2022 Fred Niemann case. This approach cleared up board fights and powered through a $10 million sale with zero delays!
Financial and Accounting Documents
Financial documents form the quantitative foundation for business valuation using industry averages. According to BizBuySell's 2023 report, earnings before interest and taxes (EBIT) multiples for mid-sized firms typically average between 4x and 6x earnings, allowing buyers to evaluate projected earnings and associated investment risks including annual return-this has key implications for sellers preparing their business for market, as our guide to selling your small business fast outlines practical steps for applying these metrics effectively.
Audited Financial Statements
Audited financial statements include balance sheets and income statements. They give solid proof of assets like real estate and inventory.
For example, a factory might list $2 million in inventory at its purchase cost, following standard rules called GAAP.
Hire an appraiser with credentials like CBA, ASA, or CVA. This step guarantees a fair value check.
- engage a Certified Public Accountant (CPA) or business appraiser to perform the audits. This engagement typically incurs costs ranging from $10,000 to $50,000 annually and requires 4 to 8 weeks to complete, while ensuring compliance with Financial Accounting Standards Board (FASB) guidelines, such as ASC 330 for inventory valuation, maintaining independence.
- Put together financial statements for 3 to 5 years. Steer clear of mistakes like switching accounting methods, which can skew profit numbers. Retail businesses, for example, usually see net profits of 10% to 15% based on industry standards.
- normalize earnings by adjusting for non-operational expenses, such as owner-related perks like personal vehicle costs, to present an accurate depiction of the business's underlying performance.
According to an analysis by Brian Dukes of Hanlon Niemann & Wright, the inclusion of audited financial statements can enhance sale prices by up to 15% by instilling greater confidence in prospective buyers, similar to a written offer.
Ready for a Successful Exit?
Tax Returns and Filings
Tax returns from the preceding five years provide critical insights into compliance and financial stability, as discrepancies in these documents account for approximately 30% of transaction terminations in private business sales, according to a 2022 KPMG study.
To prepare these records effectively, adhere to the following structured approach:
- Submit Form 4506-T to obtain IRS transcripts for Form 1120 (applicable to C corporations) or Form 1065 (applicable to partnerships). This service is provided at no cost and is generally delivered within 10 business days, potentially involving escrow for secure handling.
- Match tax returns to profit-and-loss reports. Be alert for unreported income that might bump up values by 15-20%, following AICPA standards. Use software like QuickBooks to automate the matching process.
- Disclose any ongoing or prior audits with full transparency.
In cases involving outstanding tax liabilities, consider pursuing installment agreements with the IRS pursuant to Internal Revenue Code (IRC) Section 6159, which successfully resolves 70% of such matters without incurring additional penalties, based on IRS statistical data, often secured by a promissory note.
Well-maintained tax returns can reduce perceived investment risk by up to 25%, as highlighted in a 2023 Deloitte report.
Material Contracts and Agreements
Material contracts keep operations running smoothly. Buyers check them closely in purchase agreements, including post-closing agreements.
For instance, data from CB Insights indicates that long-term leases can account for 20-30% of a retail business's overall value. Explore why hiring a business broker is the smartest way to sell your company to ensure these key contracts are thoroughly evaluated during the process.
Customer and Supplier Contracts
Customer and supplier contracts, which typically span 1 to 5 years, require comprehensive review for transferability, often detailed in a non-binding document like a letter of intent. For instance, a Software as a Service (SaaS) company may maintain 50 key client agreements that account for 70% of its recurring revenue, in accordance with Raincatcher benchmarks.
Follow this checklist for smooth M&A transitions. Keep all disclosures confidential:
- Inventory of Contracts: Utilize tools such as DocuSign ($10 per user per month) to systematically catalog all agreements, while identifying essential terms and renewal dates.
- Review of Assignability Clauses: Examine provisions for potential restrictions. Deloitte studies show that 40% of contracts are non-transferable without consent from all parties. Use novation agreements as a fix. These let you reassign rights with everyone's approval.
- Redaction for Confidentiality: Uphold Non-Disclosure Agreements (NDAs) by anonymizing sensitive information prior to the due diligence phase.
Refer to the Sherman Antitrust Act to address any anti-competitive implications arising from contract transfers. In a case study conducted by Exitwise, the renegotiation of supplier terms through novation agreements permitted the successful closure of a $3 million transaction, thereby safeguarding critical revenue streams.
Lease and Vendor Agreements
Lease and vendor agreements outline the respective obligations related to property and services. According to a 2023 CBRE report, commercial real estate leases in urban areas average $25 per square foot annually.
To manage these agreements effectively, conduct thorough due diligence reviews.
- Verify key lease terms, such as a remaining term of five years and renewal options as governed by applicable state statutes, including California's Civil Code 1945.
- Check vendor service level agreements (SLAs). Look for hidden fees. These pop up often in IT contracts. Make sure performance metrics are clear.
- Confirm adequate insurance coverage, requiring a minimum of $1 million in liability protection to minimize potential risks.
Follow best practices by sharing clear details during due diligence with everyone involved. If disputes arise, add alternative dispute resolution (ADR) clauses for mediation.
These skip the hassle and cost of lawsuits.
Hanlon Niemann & Wright handled lease assignments well in a New Jersey hotel sale. This kept things smooth and protected tenant rights under the Uniform Commercial Code.
Intellectual Property Documentation
Document your intellectual property (IP) rights carefully. It protects key assets. A 2022 Ocean Tomo study shows these can make up 50-80% of a tech company's value in deals.
Patents, Trademarks, and Licenses
Patents, trademarks, and licenses must remain current. For instance, a utility patent is valid for 20 years from the filing date, with maintenance fees commencing at $1,600 in accordance with United States Patent and Trademark Office (USPTO) guidelines.
Use this checklist to protect your IP value:
- Conduct searches in USPTO databases (available free of charge at uspto.gov) to verify assignability and ownership prior to any transfers.
- Keep full records of all licenses. Include software agreements that outline royalty rates of 5-10%. This helps avoid disputes.
- Renew trademarks every 10 years at a cost of $300 per class through USPTO filings.
Tackle risks like infringement with IP audits from certified business valuation (CBV) experts. They often spot hidden issues.
Strong IP can boost your business value by 2-3 times.
Fred Niemann's $4 million deal proves it, thanks to smooth trademark transfers (Niemann, IP Valuation Journal, 2022).
Employee and HR Records
Keeping accurate employee and HR records helps you follow labor laws.
This matters a lot. Key personnel retention clauses appear in 60% of Letters of Intent (LOIs), based on the 2023 SHRM survey on business transitions.
Employment Agreements and Benefits
Cover all employees with employment agreements and benefits plans.
These include Collective Bargaining Agreements (CBAs, which are contracts between employers and unions) and 401(k) contribution details (retirement savings plans). Benefits often cost about 30% of salary, per 2023 BLS data.
To manage these components effectively, particularly during business transitions such as mergers and acquisitions, it is essential to implement a structured human resources (HR) due diligence process.
- Begin by compiling all relevant agreements, utilizing BambooHR software (priced at $6 per employee per month) to enable centralized tracking of contracts and vesting schedules.
- Provide a clear overview of benefits. For example, share details on health plans with $500 deductibles and 401(k) matching up to 4% of salary. Boost transparency with yearly summaries.
- Disclose potential liabilities, such as accrued but unpaid paid time off (PTO), by calculating the total amounts to mitigate the risk of disputes.
- Send COBRA notices within 30 days of events like job loss. COBRA lets employees keep health insurance temporarily after leaving a job.
Imagine selling a 50-employee company. HR expert Brian Dukes found that this approach cut legal risks by 25%, according to a 2022 SHRM analysis.
Regulatory and Compliance Documents
Regulatory documents check if your business follows laws.
Compliance problems derail 25% of deals, per the 2022 EY Global M&A Report.
Hire certified appraisers for unbiased checks. Look for ASA, CVA, or CPA ABV experts.
To mitigate associated risks, build a strong business exit strategy by adhering to the following best practices:
- Audit permits often. For food businesses, renew FDA approvals every two years to stay compliant.
- Prepare environmental reports for real estate deals under CERCLA. This law handles cleanup of hazardous waste sites. Use site assessments to spot risks.
- Create earnings forecasts using industry benchmarks, like 8-12% annual returns for retail. Follow SEC rules for independent projections. The SEC oversees financial disclosures.
- Get third-party checks for accuracy. Fix non-compliance fast, as fines average $50,000 each.
Raincatcher's case shows how prep work speeds up closings by 15%. It makes due diligence smoother and less stressful.
Ready for a Successful Exit?
Frequently Asked Questions
What are the key legal documents required before selling a business?
Key legal documents for selling a business include financial statements, articles of incorporation, bylaws, shareholder agreements, and employment contracts. They ensure smooth ownership transfer and legal compliance.
Why is a purchase agreement essential among the legal documents for selling a business?
Include an LOI, IOI, CIM, and Purchase Agreement. The Purchase Agreement details sale terms, payments, and backups.
It shields both sides from arguments.
What role do intellectual property assignments play in the legal documents for business sales?
Intellectual property assignments transfer trademarks, patents, and copyrights to the buyer. This avoids ownership fights later.
How important are lease agreements in the legal documents needed before selling a business?
Add lease agreements for rented property or equipment. Transfer or renegotiate them to keep operations running after the sale.
What financial disclosures are part of the legal documents for selling a business?
Detailed financial disclosures like Balance Sheets, Tax Returns, Profit and Loss Statements including Earnings Before Interest and Taxes (EBIT) and profit loss analyses allow the buyer to assess the company's true value and liabilities.
Why include non-compete clauses in the legal documents before selling a business?
Non-compete clauses restrict the seller from starting a competing venture nearby, safeguarding the buyer's investment and goodwill.