A year after you’ve sold your business the buyer might want their money back

By February 12, 2009 6 Comments

Imagine selling a Porsche 911 (might as well make it a nice dream…) and the buyer asking you to stick 15-20% of the purchase price into a special account for a couple of years so she can take it back if she finds any rust you haven’t told her about.

That is what happens when you sell a business.

As you can imagine when we sold buy.at to AOL last year these terms – usually known as the reps, warranties and recourse package – were the subject of more than a little discussion.  Almost always in deals like this there is extensive negotiation over the amount that goes into the special (escrow) account, how long it has to sit there for and exactly what it is that the buyer can say they have or haven’t been told.

A typical outcome of negotiations is that 15-20% of the proceeds of a deal are kept in an escrow for 1-2 years and recourse is limited to that amount except in the case of a very limited number of warranty breaches (e.g. breach of right to title, where it transpires the seller didn’t have the right to sell the shares).  It is common that half the escrow is released to the sellers half way through the escrow period.

When the economy is going south like it is at the moment then buyers are much more likely to look back at deals and see if they can get their hands on the money held in escrow.  That can be either because they have become cross that the price they paid 12-24 months ago was too high, or because they are simply looking to save cash any way possible.

And so it is with a little sadness, but not a great deal of surprise that I read in an interview with some folk from Shareholder Representative Services (SRS) that disputes are on the increase.  SRS enters the scene as a company is acquired to represent shareholders in the event of a future claim and now has 40% of it’s clients (12 of 30) in disputes with their buyers.

We thought about hiring SRS when we did the buy.at/AOL deal but ultimately elected not to due to a mix of confidence that our books were very clean, confidence that the wording of the reps and warranties kept the potential for ambiguity and claims to an absolute minimum (kudos to buy.at founder Steve Brown here for his persistence in negotiating these terms) and because of the price that SRS charges.  But the case wasn’t black and white and at another time, or in another deal the decision could well have been different.

I am writing all this to make the point that a deal doesn’t finish until well after the sale and purchase agreement is signed, and that it is therefore important that the house is in good order and the deal documentation has been well thought through.  To go back to cars, even if you could hide a rust spot from a buyer, at the margin it is much better to fix it than paint over it.

The interview with SRS goes over a lot of these issues in much more detail.

Reblog this post [with Zemanta]