Most buyers prefer to purchase assets rather than stock, because through an asset purchase they can avoid taking liabilities that they would generally have taken over under a stock purchase. Also, the buyer can step up the basis of the assets they are purchasing to the purchase price, and avoid future asset impairment charges against earnings. These are the advantages to the buyer. As with most advantages on one side of a transaction, they are matched by disadvantages on the other side. Therefore in negotiating an asset sale, you should pay close attention to the liabilities that you retain, and to the tax consequences of accepting an asset purchase structure.
Documenting an asset purchase is a painstaking process, because unless an asset is listed or referenced in the agreement, it is not transferred in the sale. For example, a poorly written asset purchase agreement might transfer source code, but not the server on which it is hosted. Tangible assets such as office furniture are sometimes overlooked. Likewise, liabilities are not transferred unless explicitly referenced. You will need to work closely with your counsel to make sure that you move as much of the liability with the assets as possible.
Negotiations usually center on the liabilities that are associated with the benefits of the assets. For example, you may end up getting stuck with a lease obligation for a facility that will not be used by the acquirer, but you should push hard to transfer it and customer liability along with their associated products.
From a tax standpoint, the owners of a C-Corp who sell assets will find themselves in a bleak situation. Transaction consideration will be taxed at the corporate level, then taxed again when proceeds are dividended out to the shareholders. There are ways around this, such as declaring a liquidating dividend, but the result will be increased transaction costs. If the buyer insists on an asset sale, you should push for them to share the added cost to the selling shareholders.
An S-Corp will face less onerous tax consequences, but will still see their net proceeds diminished. For example, depreciation that was previously written off may be recaptured in the transaction, and some of the value of the deal may be allocated to software, resulting in tax at the ordinary income tax level. In a deal negotiation, a buyer will often see enough value in staying with an asset purchase structure that they will agree to share, or even undertake, the added tax cost to the seller.
In my experience, the best defense against an asset sale for a company that will suffer a substantial tax disadvantage is to reject the structure outright when it first comes up. Insist on a stock sale and let the buyer explore that option. In several deals we have seen buyers agree to a stock sale and even issue an LOI describing a stock purchase structure, only to come back later, hat in hand, saying they absolutely have to do an asset purchase. At that point you are in a good position to negotiate a fair allocation of liabilities, and the added tax burden of an asset sale.
A version of this article originally appeared in Softletter and Software Success.