This article is written by Shambhavi Singh, from Bharti Vidyapeeth. She is pursuing a Diploma in M&A, Institutional Finance and Investment Laws (PE and VC transactions) from LawSikho.com. Here she discusses “How to draft a share purchase agreement”.
A share represents a unit of ownership in the company and the number of shares held by the shareholder represents its stake in the company. This agreement includes a buyer and a seller. The buyer wants to sell its shares of the company to the buyer. The number of shares and price of it would be listed in the share purchase agreement. A letter of intent is formed before the share purchase agreement and the buyer should do some due diligence in order to match the terms of the letter of intent and share purchase agreement. The terms of the shareholder should have the exact same terms as the letter of intent has. If there is any case of misrepresentation of warranties and responsibilities then there will be proper legal action and recourse or the seller has to reimburse the buyer for the same. It is considered a less complicated deal than an asset purchase agreement.
Few elements which are put in the share purchase agreement are-
- Company’s name
- Purchaser’s name
- Per the value of shares
- Warranties and representations
- Number of shares sold
- Indemnification agreement
- Place of transaction
Few complexities in the share purchase agreement are-
- Misrepresentation of warranties, that affects the buyer.
- The price and the number of shares are being sold.
- Purchase price adjustments.
Lock in points-
- The share purchase agreement is a legally binding agreement which obligates the buyer and the seller to buy and sell their respective shares.
- The share purchase agreement is generally used when the parties are transacting a large number of items.
The share purchase agreement is used when an organisation or an individual is purchasing or selling the shares in the company with another person or organisation.
Example – if there is a partnership, ‘an assignment of partnership interest’ can be used or in one case, if there are two partners and both the partners have equal shares and one of the partners decides to leave the partnership, a share purchase agreement can be used to buy the stock of the business.
Generally, the information which a share purchase agreement holds such as the company’s information, seller and purchaser of shares, dispute resolution clause, termination, kind of shares being sold, number of shares being sold, price of the shares being sold and payment details.
There are two types of shares: voting shares and non-voting shares. Voting shares give the privilege to have an opinion on the board of director’s decision and a voice on policy making whereas non-voting shareholders do not have the privilege to vote on board of directors and policy formulation.
- It’s a binding document.
- More possibility of an increase in revenue via business.
- Seller and purchaser can take the final call before the signature is done.
- Tax benefit.
This is the rarest occasion when share purchase agreement can not be used because it protects all the parties involved in it-
There is only one shareholder in the organisation.
Offers a limited capacity for regulation.
It is important because it is a written agreement which is binding and will reduce misunderstanding between the parties. Ownership of sellers can be proved through this agreement and this gives the faith to the purchaser.
It provides all the information regarding the transfer of shares. Dispute resolution form is prefixed, including the warranties by the seller.
Some classic clauses are-
- Parties – parties to the agreement are the prominent factor for any contract. In share purchase agreement the seller and the purchaser are the parties to the agreement. Sometimes the company is just incorporated for a share purchase agreement or any shell company with no financial backtrack record. In these cases generally, a guarantor is appointed for the claims post and promises made in the agreement.
- Recitals – the factual background and objectives of the transaction and the role of each party should be clearly stated in the recitals.
- Definitions and interpretations – definitions of the words stated in the agreement should be defined as to what it means regarding its use in the agreement and the clauses should be interpreted in the same way as the definition of the words and phrases are stated. Ideally, a definition should be limited to the meaning of the term.
- Considerations and sale of shares – payment structure should be stated in an elaborative way. About the sum that is payable on closing, deposits to be given at the time of execution, the amount to be set off at the time of breach of the indemnity amount or warranties. The payment will be paid in tranches or one-time full-fledge payment or when it will be triggered. All these minor details that should be explicitly stated in consideration terms.
- Condition precedent – this clause should explicitly state about each of the people who is responsible for the authorisation, permissions and permits. This clause should also cover the representations, warranties, obligations and execution of the agreement.
- Closing – this clause should include all the details even the minors ones including the time, place and manner in which closing shall take place.
- Condition subsequent – in rarest case there would be a need for this clause because in share purchase agreement it becomes needless. In case of breach of a condition, a subsequent purchaser should be a safeguard.
- Covenant by the parties – it is accommodated to provide a level of comfort to parties. It is required from the seller regarding the management of the company.
- Seller’s representations and warranties – vendor’s representation as to the number of shares owned by them and the list of the director’s. Other affirmative information provided by the seller such as accounts transparency, pending dispute, loan information. Therefore the clause should be open about the vendor’s right to sell their share to the purchaser.
- Purchaser’s representations and warranties – it is generally a repeating clause to safeguard the interest of the parties.
- Confidentiality – it is one of the premium clauses of the share purchase agreement. At this stage, parties have shared the confidential information of the company so this clause helps in sealing the information and it can not be revealed without the consent of both the parties. Confidential clauses are generally kept time-barred from 18 months to two years.
- Indemnification – this clause deals with the claim amount, procedure, time limit and the subject matter.
- Notice – several points that must be there in this are the location of the parties where the notice will be dispatched, in which form like electronic or other and the format of acceptance must be disclosed.
- Force majeure – this type of clause is put for unforeseen crises and strengthens the parties in the share purchase agreement. It is regarding the fluctuating market and financial crisis.
- Resolution of dispute and arbitration – arbitration is not so popular in India but as the supreme court ruled that if both parties are Indian then they can choose to have a seat in India and if one party is an outsider then they may have a seat outside India. This clause should be explicit on the procedural law, the seat of arbitration language, number of arbitrators.
- Jurisdiction and general clause – Indian laws will be applicable. The city of the buyer’s court will have jurisdiction.
- Termination – the clause should clearly specify how the agreement can be terminated.
Share purchase is a purchase of someone’s ownership in a company whereas asset purchase is a sale of the company’s assets and liabilities. Company’s assets may include goodwill, machinery, intellectual property etc.
One can retain the ownership in asset purchase and will lose in share purchase.
- Shareholder agreement – an agreement that explains the rights and obligations of the shareholders, their ownership, valuation etc.
- Business transfer agreement – it is an agreement where the ownership is transferred from one to another and it includes details such as warranty, sale etc. it is also called slump sale.
- Share repurchase agreement – it is an agreement between a company and a shareholder in which shares are sold and then bought back later by the company.
- Share loan agreement – a document which shows the terms of the loan agreement.
Completely the onus is on the purchaser of the share purchase agreement to do the due diligence before the transaction. Even after hundred per cent due diligence and scrutiny purchasers are not satisfied so they want the seller to give warranty in share purchase agreement but for sellers perspective, it’s inconvenient and burdensome. The fewer warranties are the better. When the agreement comes at the negotiating table it becomes a problem for parties.
Seller’s escape from warranties
- To place a cap on claims
- Time limit claims
- Avoid giving warranties
Some warranties are:
- Accurate information
- Tax issues
- Ownership of assets
Some of the advantages are-
- Share purchase agreement facilitates transfer with economical ease.
- It eliminates the requirement of consent from the creditors.
Some of the disadvantages are-
- The buyer acquires all the assets and assumes and liabilities including rights and obligations. It is vitally important for the buyer to exercise due diligence to identify previously hidden liabilities, disputes, ownership of assets etc.
Some common mistakes
- Considering any share purchase template and executing it with no prior knowledge and without any legal expert opinion.
- No agreement is made in the case of a known purchaser, well that’s a mistake.
- Knowing tax implications.
- Review of the share purchase agreement by both the parties.
- Signature by both the parties. A witness can be signatory as well in case of any doubt on the purchaser.
- Copies should be made for a purchaser, seller and the company.
- Giving the certificate after the payment.
- It can register if you meet certain criteria.
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