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What Deal Structure is Right for Your Business?

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There are many different structures for a deal, and as any BCMS Deal Leader will tell you, no two deals done are ever exactly the same. How the acquiring organization structures an offer is usually related to how a particular Executive Team has dealt with other transactions and what they have seen work versus not work. The one fundamental element which will play a factor in any deal is whether it is structured as a stock purchase or as an asset purchase. And this will be influenced by both the seller and the buyer, whereby the seller will always seek to maximize the value of capital gains and whereby the buyer will always seek to maximize the present value of tax deductions. 

Stock Purchase

The stock purchase describes the purchase of an entire entity, and in the case of an SME (small to medium sized business), such as a Partnership or a LLC, stock refers to total ownership of the business which can be transferred from the seller to a buyer. Effectively, in a stock purchase transaction the buyer takes over the position of the seller, and the operation of the business continues in a smooth manner. Unless there are other deal terms related to seller’s holding equity in the going concern, in a 100% stock purchase, the seller has no continuing interest in, or obligation to, the operations, assets, and incumbent liabilities of the business. From a tax perspective, the seller is usually entitled to pay capital gains at a lower tax rate in a Stock Purchase.  There are additional accounting and tax implications for both parties to consider.  For a potential acquirer, this type of deal structure is less attractive from a risk perspective.  In taking over the shares of a company, the purchaser now also assumes all liabilities of the former owners’ operations.  This is the reason buyers will always push for an asset sale structure.

Asset Purchase

In an asset purchase, the seller retains the shares of the existing organization, and the buyer outlines specifically all of the assets and liabilities they agree to purchase which must be transferred to another existing entity or newly formed entity. All other assets and liabilities will remain with the existing operation under the seller’s ownership. An asset purchase denotes that specific contracts must be transferred which may also mean that they are renegotiated and/or are not guaranteed. From a tax perspective, depending on the corporate structure, the seller may face double taxation.  The corporation will pay tax on the gain from the sale of the asset, and then, the seller will pay tax on any proceeds when they are distributed. There are additional accounting and tax implications for both parties to consider.

Section 338(h) (10) Election

In cases where there is a discrepancy between the parties related to stock purchase versus asset purchase, there is a solution called a 338(h) (10) election which applies to S Corps whereby the transaction is treated as an asset purchase for tax purposes only and it limits the transaction to only a single level of tax for the seller.

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Posted Aug 2010
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