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Selling Your Company: Asset Transaction or Stock Transaction?

At Meridian, we are faced with this question on a daily basis: “I want to sell my company; should I sell the assets, or should I sell the stock?” The correct answer is not easily determined until the selling business is thoroughly analyzed, both buyers’ and sellers’ intentions are fully understood, and any resulting tax and legal implications are reviewed.

The following is an attempt to discuss the basic fundamentals of Asset Sales vs. Stock Sales and is not intended to take the place of advice from an attorney and / or Certified Public Accountant.

Generally speaking, about 99% of all marketer sales that we have seen have been negotiated as asset sales. By definition, the fundamental difference is:

  • Asset transaction:  the seller is the company, and the buyer is another entity.
  • Stock transaction: the seller is the company’s shareholders, and the buyer is buying the stock.

Advantages of an Asset Purchase

  • In an Asset acquisition, the buyer is able to specify the liabilities it is willing to assume, while leaving other liabilities behind.  As opposed to a Stock transaction, this allows the buyer to avoid acquiring unwanted and/or undisclosed liabilities of the selling company.  When the transaction is structured as a Stock purchase, all obligations automatically follow the new owner.   With an Asset purchase, the buyer substantially reduces, if not eliminates, this risk.
  • In an Asset sale, the seller may not want to sell every asset and the buyer may not want to buy every asset.  For instance, the seller may want to retain part of the corporation’s real estate in order to lease back to the buyer as a future source of income.  Often a buyer is interested in only a specific line of business, such as a lubes division, with no interest in buying the fuel division.  An Asset transaction is necessary in this situation.
  • Structuring the sale as an Asset acquisition generally has favorable tax benefits for buyers, which are not available in a stock transaction.  If the purchase price exceeds the tax basis or book value of the assets being acquired, the buyer may assign a new and higher value (“stepped up” basis) in the assets equal to the purchase price.    This allows the buyer a higher depreciation expense to offset operating income.
  • In an Asset sale, the parties are not normally required to comply with state and federal securities laws and regulations.
  • An Asset acquisition allows Goodwill to be amortized over a period of fifteen years.

Disadvantages of an Asset Transaction as Compared to a Stock Transaction

  • An Asset transaction usually requires the selling company’s vehicles and land to be re-titled and re-deeded in the name of the buyer in order to constitute a legal transfer.  In addition, the parties must decide whether contracts (dealer / supplier) can be transferred legally and who will be responsible for future liabilities.  Depending on the assets, the buyer may find that the transfer of physical assets costly and time consuming.
  • Some states impose a sales or transfer tax on the sale of assets, which can be avoided by a Stock transaction.
  • Sellers generally prefer Stock transactions because gains from the sale of the business will be taxed at the more favorable capital gains rate.  Purely from a tax perspective, an Asset sale can create a double tax situation for a seller if that selling company is a C-Corporation.  The entity being sold is taxed because of the appreciation of assets and the seller must pay capital gains on the individual level when the corporation distributes the proceeds to the shareholders. If the transaction is negotiated as a Stock sale, however, the seller pays tax only once, –on the capital gain appreciation of his stock.

Other Issues to Consider
In an Asset purchase, the purchase price allocation to individual assets to the different asset classes is critical to the seller because the seller’s gain on the assets is taxed at either ordinary income rates or capital gains rates, depending upon how they are classified.  While buyers will desire minimal value be allocated to land (not depreciable), buildings, equipment, and goodwill (long depreciable life & slow offset to income), and the majority of the purchase price be allocated to inventory (expensed when sold).

Sellers will prefer that the majority of the value be allocated to building and equipment (normally receive capital gains treatment), with minimal allocations made to inventory and non-compete agreements, which generally are taxed at ordinary income rates for the seller.

The seller can also be subject to ordinary income tax on any depreciation recapture that must be claimed as a result of the sale.

Depreciation recapture is the amount of depreciation expense taken by the seller during ownership of the assets in excess of straight-line depreciation.

Every situation is different.  Both buyers and sellers must evaluate a number of factors to determine which way their specific transaction should be handled, and each party must be willing to negotiate in order to close the transaction.

If you are contemplating sale or purchase, please contact us for an accurate valuation of the respective business and guidance throughout the transaction.

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