This article is written by Shivani Varade pursuing a Diploma in Advanced Contract Drafting, Negotiation, and Dispute Resolution from Lawsikho. 

Introduction

Every good firm needs to be aware of its contracts, particularly those involving assets. When you acquire or sell assets, such as property, vehicles, or equipment, you want to get the best price possible. Such a transaction concerning the assets is done by the way of a written asset purchase or asset sale agreement. As a result, it’s important to understand all of the terms in the agreement and how to get the most out of the written details.

This article provides an overview of the essential clauses in an asset purchase and sale agreement, its advantages and disadvantages, and common mistakes to avoid while drafting the agreement. 

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What is an asset purchase?

When a buyer agrees to purchase a company’s liabilities and assets, it is known as an asset purchase. As a result, the buyer assumes both the benefits and risks of the asset or business purchase. The term “asset purchase” is commonly used in the context of corporate mergers and acquisitions. It’s frequently used when a buyer wants to buy a single division or business unit within a larger corporation. The buyer is protected by an asset purchase because he will only be responsible for the assets listed in the asset purchase agreement.

An asset purchase is different from a stock purchase agreement, in which the shares of the company are sold. The buyer avoids the complications associated with minority shareholders refusing to sell their shares by purchasing assets rather than stock.

The following items can be purchased as assets:

  1. Intellectual property,
  2. Goodwill,
  3. Premises,
  4. Licences,
  5. Plant and machinery.

What are asset purchase and sale agreements? 

An asset purchase agreement (APA) is a written legal document that formalises the purchase of a business or significant business asset. It is also known as an asset sale agreement. It explains the deal’s structure, price, limits, and warranties. The primary benefit of this agreement is that it allows the parties significant flexibility to choose what assets and liabilities should be included in the transaction. 

Asset purchase agreements would be used in cases where a company is looking to buy specific divisions of a company to add to its production facilities straightaway or in cases where an asset may have been ordered by a court or a tribunal for repayment of debts. 

Essential clauses in an asset purchase and sale agreement

Some of the essential clauses found in a commonly used asset purchase agreement are as follows:

  • Recitals

The buyer and seller’s names and addresses, as well as the date of signing, appear in the first paragraph of an asset purchase agreement. You should also provide a statement from both sides acknowledging the arrangement.

Sample clause

This agreement to purchase assets (“agreement”) is made and effective on this day of 21st July, 2020 (“execution date”) at Gandhinagar, Gujarat (“execution place”). 

BY AND BETWEEN:

ABC Pvt. Ltd, a company incorporated under the Companies Act 2013, having CIN [●] and having its registered office at Gandhinagar, Gujarat, through its authorized signatory [●], authorized to act as company’s representative vide board resolution [●] (hereinafter referred to as “buyer”). 

AND

XYZ Pvt. Ltd, a company incorporated under the Companies Act 2013, having CIN [●] and having its registered office at Gandhinagar, Gujarat, through its authorized signatory [●], authorized to act as company’s representative vide board resolution dated [●] (hereinafter referred to as “seller”).

  • Definitions 

Identify and define keywords that will appear numerous times in your document. For example, rather than repeating the terms of the sale, you might refer to it as the “Sale” throughout the APA. Definitions of specific terminology will help to avoid future misunderstandings.

Sample clause

In this agreement, the following words shall have the meaning assigned to them in this clause, unless the context indicates otherwise.

  1. “Transferred assets” means plant and machinery, computers, servers, terminals, data storage devices, network infrastructure, other computer fixtures, computer equipment and any other hardware and software (including third party software) and intellectual property rights arising from or used in relation to the business, carried out at the seller’s manufacturing unit located at No.33, Special Economic Zone-1, Gurgaon, Haryana.
  2. “Transferred business” means the business of the company being transferred to the buyer.

  • Sale of assets

Even though it is obvious that the asset being purchased be identified, the key is to be as particular and descriptive as possible. In the case of land, this means giving the exact description of the property as it appears in the land records. This can include buildings, and usable parking or construction space respectively. 

Sample clause

Subject to the closing and other terms and conditions of this agreement, at closing, the company shall sell, assign, transfer, convey and deliver to the buyer and buyer shall purchase, acquire and accept from the company, the transferred assets and all the rights, title and interest therein, free and clear of all encumbrances and liabilities and accept, right, title and interest in and to the business comprising the following:

  • Transferred assets;
  • All goodwill associated with any of the transferred assets;
  • The records of the fixed assets transferred customer contracts, and transferred vendor contracts;
  • Any guarantees, warranties, indemnities and similar rights in favour of the company in relation to any of the transferred assets. 

  • Purchase price

This clause details out the structure of payment to be made by the buyer. For example, the purchase price for the assets shall be paid in one single payment and shall be paid via bank draft or telegraphic transfer. It should also mention whether the buyer shall be responsible for any tax payable after the transfer of assets. 

Sample clause

The purchase price shall be paid as per the following schedule:

  • 20% of the purchase price shall be paid on the date of execution of the agreement.
  • 30% of the purchase price shall be paid within 3 business days from the date of receipt of notice of the fulfilment of the condition precedent.
  • 50% of the purchase price shall be paid within 3 business days from the date of closing.

Any part of the purchase price paid by the acquirer to the company shall be through internet banking in the bank account specified by the company in Schedule-A of the agreement.

  • Representation and warranties

Warranties are the assurances that come with a purchase. In this clause, the seller guarantees that the statements in the agreement are accurate and will stay accurate until the closing date. This clause is crucial for the buyer to pursue legal recourse if the seller provides unjustified guarantees.

Sample clause

  • Seller represents and warrants to the buyer as follows:
  • Seller is validly existing and in good standing under the laws of India, and is qualified as an entity and in good standing in every state where required by the business.
  • Seller shall promptly notify the buyer of any change in its officers, shareholders, or directors on or before the closing.
  • Buyer represents and warrants to the seller as follows:
  • Buyer is a company, duly organized, validly existing, and in good standing under the laws of India.
  • The buyer has full power and authority to execute and deliver the agreement and to consummate the transactions contemplated herein.

  • Covenants 

Under the asset purchase agreement, covenants are sub-agreements. For example, the seller may guarantee not to compete with the buyer in a specified geographic location for a set length of time. Covenants will vary greatly depending on the purchase.

Sample clause

The seller covenants that, during the restrictive period, the company will not, without the prior consent of the buyer:

  • Participate, engage in, or in any manner be associated with, any business that competes with is the same as, similar to, performs, serves or provides a similar function as, or can be used as a substitute or replacement for, any service or product offered, sold, provided or rendered pursuant to the business carried out by the buyer (“restricted business”) in India. 

  • Condition precedent

The purchaser’s obligation will be governed by the terms of the asset acquisition agreement schedule. The schedule’s content can be negotiated according to the parties’ needs.

Sample clause

  1. The parties agree that the closing is conditional upon the fulfilment of the following conditions precedents by the seller:
  1. Satisfactory conclusion of due diligence of the transferred assets and seller’s business, as deemed appropriate by the buyer;
  2. Seller shall ensure that all approvals, provisions, consents required under law to render its obligations under this agreement enforceable, legal, valid and binding, whether from, board of directors, shareholders or any other person shall have been obtained and shall continue to be in force.

  • Closing terms

When a deal is completed, it is referred to as closing. The closing terms should specify what is required to complete the purchase or sale of a business or business asset, as well as any terms and contingencies.

Sample clause

Upon fulfilment of the conditions precedent, the closing of transferred assets (the “closing”) shall take place on or before 21st October, 2020, or such other date as the parties may mutually agree in writing (the “closing date”), by undertaking the following actions:

  1. Seller shall give to buyer, a certificate, dated as of the closing date and executed by the seller, to the effect that each of the conditions precedent have been satisfied;
  2. Seller shall deliver to buyer possession of all the transferred assets and buyer shall accept the delivery of all transferred assets. 

  • Post-closing obligations and conditions subsequent 

The seller is required to quickly deliver, any notice, payment, or information to the purchaser regarding the business he receives during and after the agreement’s completion. The seller promises that on and after the agreement’s completion, it will not engage in any of the following acts, either directly or indirectly:

  1. The buyer’s business.
  2. The use or disclosure of a client’s or intellectual property’s database, as well as any other information confidentiality.
  3. Any attempt to persuade a customer or supplier to end or adjust their relationship with the company.

Sample clause

The parties agree as follows with respect to the period following the closing:

  1. Misallocation of assets: If the seller or buyer discover at any time after the closing date that there exists any asset, contract, right or interest owned by the seller that is related to the transferred assets as on the closing date, the seller shall transfer to buyer all rights, title and interest in such asset, contract, right or interest at no additional cost to Buyer within 15 days of discovering such asset, contract, right or interest.
  2. Further assurance: In the case at any time after the closing any further action is necessary to carry out the purposes of this agreement, each of the parties will take such further action as the other party reasonably may request, all at the sole cost and expense of the requesting party. 

  • Indemnification

In the event of a legal issue, indemnification protects both purchasers and sellers. It specifies the financial damages that one party must pay to the prevailing party, as well as the circumstances in which they must be paid, such as lawyers’ fees, court costs, and other expenses.

Sample clause

The seller hereby, jointly and severally, agree to indemnify the buyer for 3 years from the closing date, harmless from and against, and pay to the applicable buyer the amount of, any losses based upon, arising out of, or in connection with:

  • The breach or failure of any of the representations or warranties made by the seller in this agreement;
  • Breach of any covenant or other agreement on the part of the seller under this agreement;
  • Conduct of business and operations related to transferred assets relating to any period before the closing date.

Common mistakes to avoid while drafting an asset purchase and sale agreement

The parties entering into an asset purchase agreement must avoid these common mistakes while drafting, to protect their basic interests and rights while executing a deal:

  • Dealing with a wrong person 

When dealing with an unskilled or fraudulent person, even the best-drafted asset acquisition agreement will be useless. As a result, critical due diligence is essential. Critical due diligence covers the following:

  1. Scrutiny of the books of accounts of the last five years.
  2. Interview of customers and partners.
  3. Checking to see if the vendor is facing any legal action.
  4. Making the distinction between secured and unsecured debt apparent.

  • Not including essential parties in the agreement

In an asset purchase agreement, it is common for the company’s shareholders to buy the assets themselves but sign the deal in the name of another business and treat themselves as the firm’s owner. Therefore, one must consider this and include all the essential parties to the agreement to avoid further disputes. 

  • Not identifying the essential condition of the deal 

Important terms and conditions between buyer and seller are condition precedents (conditions relevant to the agreement). Before the transaction can be completed, all events that occur during the transaction must be addressed. Both the buyer and the seller must ensure that all the terms of the asset purchase agreement are met, including:

  1. Approval from the bank.
  2. The authorities’ approval is required.
  3. Approval by a third party.

  • Not specifying a ‘long stop date’ in the agreement

If the delay becomes unacceptable for either party, the longstop date allows them to exit. An agreement between a buyer and a seller is frequently delayed, ranging from a week to a month. In that case, both the buyer and the seller should include a long stop date in their contract. 

  • Not agreeing on necessary financial adjustment

To protect themselves, buyers should add post-acquisition changes in their agreements. Following the completion of the transaction, the buyer’s accountant closes the account and calculates the company’s net asset worth to determine whether the amount paid for the assets was reasonable. If the price is more than the market value, the buyer will be allowed to negotiate. 

  • Not specifying closing requirements

After the deal is closed, the asset acquisition agreement should describe the specific actions to be taken and the specific documents to be provided. Changes in the bank and regulatory signatories, for example, a charge of customer and financial data, original documents, and regulatory approval are just a few examples. 

  • No protection against competition from the seller

Any buyer should remember to put a non-competition clause in their contract to prevent the seller from competing with them in the future. The non-competition terms and conditions should state that the seller will not hire the purchaser’s key professional and will not attract the seller’s client.

  • Not including an effective dispute resolution system

It is common to have disputes over money in asset purchase agreements. Therefore, it is crucial to include a dispute resolution system, for example, referring the dispute to an arbitrator or mediator, or approaching courts or tribunals. 

  • Not consulting lawyers for reviewing, negotiating, and drafting of the asset purchase agreement

The asset acquisition agreement is a complicated contract. It necessitates the services of a skilled and qualified lawyer who can not only draft agreements but also negotiate them. Many people do not want to use lawyers to form agreements, but they come to regret it when the deal is completed. The first step toward concluding the agreement is to hire a professional to negotiate and review it.

Advantages of an asset purchase and sale agreement 

While an asset purchase agreement has several drawbacks, it also has some advantages, including:

  1. You can specify how the transaction should be organised.
  2. Only the ownership of specific assets is transferred, which can help to avoid legal complications.
  3. You stay clear of conflicts with minority shareholders.
  4. Assets can be sold at fair market value
  5. Both sides avoid squandering possibilities by focusing on serious buyers and vendors.

Finally, and most importantly, it gives reassurance and understanding among the people involved while also safeguarding their legal rights.

Disadvantages of an asset purchase and sale agreement 

Although asset purchase agreements have many benefits, they also have a few drawbacks, such as:

  1. You’ll have to go through the restructuring of the assets and liabilities process, which can be expensive.
  2. Contracts with employers may need to be reviewed and renewed.
  3. Permits and licences may not be transferable to the buyer unless they are reapplied for.
  4. Assets sold for far less than their fair market value may leave the buyer with insufficient funds.

Conclusion 

Asset purchase or sale agreement is an agreement between the seller and purchaser for the sale and purchase of assets. Whether you are a buyer or a seller, your agreement must include the above-mentioned clauses to protect your interests at every stage of the transaction. To avoid disputes in the future, regarding the payment, closing conditions, etc, one must take care of the common mistakes that generally arise while drafting an APA. Therefore, due to the legal and financial implications associated with an asset purchase/sale agreement, it is advisable for the parties to hire corporate lawyers to help them draft this critical document, or negotiate their transaction. 

References

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