The Asset Purchase Agreement, Acquired Assets; Assumed Liabilities
In my last post, we continued a section by section analysis of an asset purchase agreement (APA) with a discussion of the importance of the ‘Definitions’ section. Today, I will briefly cover the ‘Purchase and Sale of Acquired Assets; Assumption of Assumed Liabilities’ in an APA.
While the first few posts of our APA series (‘Recitals’ and ‘Definitions’) probably seemed somewhat mundane on the surface, this next section covers tremendously important ground, particularly when considering what makes an Asset Purchase Agreement different from a Stock Purchase Agreement. In an APA, a buyer/seller schedules out the specific assets that are being acquired as well as any liabilities that are being assumed as part of the deal. While catch all language is often used as well, the section is very important as a means for a buyer/seller to shift risk (the assumption of liabilities post deal) and capture value (the acquisition of assets in the deal). See below for an example of a common catch-all that is often used as an attempt to cover the spectrum of operating assets:
Except as set forth below or in Section 1.2(b), the term “Acquired Assets” shall mean all legal and beneficial right, title and interest of each Seller and, if applicable, its affiliates on the Closing Date in, to and under all of Sellers’ or such affiliates’ assets, privileges, claims, rights, properties and Contracts of whatever kind or nature, real and personal, tangible and intangible, absolute or contingent, owned, held or leased by Sellers or such affiliates primarily related to or primarily used in the operation of the Business.
While the foregoing language might seem to capture the universe of assets, it is still important to list specific assets acquired (liabilities assumed) in ‘Purchase and Sale of Acquired Assets; Assumption of Assumed Liabilities.’ This is the case for a variety of reasons, with some of the most important being captured below:
- Ambiguity can lead to lawsuits and asset stripping at or after deal closing. This is because it is difficult to measure, using legal language, a buyer’s view of the assets “primarily related to or primarily used in the operation of the Business” against a seller’s view of those assets. For example, a seller might own intellectual property, Internet domain names, or other assets that are not currently used in or even related to business operations at the time an APA is signed. This might be particularly true in the case of products that have yet to realize any revenue or domain names that are “parked” and have no original content or current business purpose. A seller might make an argument that these assets are not part of the catch-all definition while a buyer would likely view these assets as being important to future business strategy, operations, and revenue. For this reason, it is best for buyers and sellers to reduce the ambiguity associated with the transfer of business assets by being specific.
- The practice of listing acquired assets and assumed liabilities in the APA – beyond a “business operations” catch all – commonly illuminates important diligence issues for a buyer and aids sellers in weighing the liabilities retained post transaction against the financial benefits of the sale.
- It is important that a seller and buyer understand that business assets also usually include “information assets” like financial statements and corporate records. In cases where aggressive tax accounting has taken place pre-transaction, such transfer of financial records would likely be very troubling to a seller. This is just one example of why each side should make it a practice to capture exactly what is being acquired (assumed) with catch-all language used merely to cover items that might have been missed or neglected in documentation vs. the catch-all serving as the primary asset/liability transfer mechanism.
- A listing of specific assets acquired and liabilities assumed is helpful in filing documentation with taxing jurisdictions and in determining the tax basis of the deal, including whether assets are subject to capital gains or ordinary income tax.
Given the aforementioned list and a host of other issues, each prospective seller/buyer should carefully consider all assets (liabilities) transferred as specified in the ‘Purchase and Sale of Acquired Assets; Assumption of Assumed Liabilities’ section of the APA. If appropriately considered, such analysis will make for more effective due diligence and successful integration, while at the same time lowering litigation risk and building consensus around what is truly contemplated as being part of the proposed transaction.