Buying or Selling a Company: Stock or Asset Deal?

Agreeing on a purchase price isn’t the only negotiated outcome of a business transaction.  In fact, it’s usually not the first or last item of agreement.  When a buyer is purchasing 100% of a target company, they can either purchase (1) the assets of the target or (2) the equity of the target.  The deal structure can influence the eventual agreed-upon purchase price.  Both scenarios have their advantages and disadvantages.

The purchase of a company’s equity is usually the most efficient deal structure for both parties.  In these deals, the buyer is assigned the stock of the target in exchange for cash or future payments of cash.  By purchasing the equity of a company, the buyer is purchasing all of the target company’s recorded and unrecorded assets as well as any liabilities, including contingent liabilities.  In essence, the buyer may be buying assets they’re not aware of, or assuming liabilities they didn’t know were in existence.  This is one of the reasons sellers generally desire the structure of a stock deal; they don’t walk away with unwanted assets or liabilities.  Obviously, the legal language within a stock purchase agreement could influence some of these items, but in general these are the advantages and disadvantages.

Buying a company’s assets can be advantageous because they can target only desired assets and assume only certain liabilities of their choosing. These assets could encompass all of the company’s known assets, including the fixed assets and real estate, or they could include only certain intangible assets such as company name, trademarks, trade names, and/or customer lists or contracts.  In essence, the buyer can choose what they want to purchase from the seller. The buyer would need to be sure that any contracts and/or agreements are assignable since it is likely the target company was the one that originally executed them.

Furthermore, the buyer and seller also have to agree on who will “assume” or pay for the company’s liabilities after the deal is final.  By assuming the seller’s liabilities, the buyer is essentially paying the seller additional consideration since they will be paying the future obligations of the loans assumed.  If no liabilities are assumed, the buyer simply pays an agreed-upon price for the desired assets.

As an example, assume the target company has appraised assets worth $3,000,000 (working capital, inventory, real estate and intangible assets) and $2,000,000 in recorded liabilities.  Under this example, the equity of the company would be worth $1,000,000.  A buyer could pay $3,000,000 if they desire to own all of these identified assets, or less if they want to exclude some assets.  If a stock deal is preferred, then the value would be closer to the $1,000,000 figure.  The final agreed-upon price may be somewhere in between depending on the individual motivations and desires of the buyer and the seller.

Bridging the gap between an asset purchase price ($3,000,000) and a stock purchase price ($1,000,000) may sometimes be necessary.  This is especially true if there has been an appraisal of target’s stockholders’ equity, but an asset deal was eventually consummated.  This may not always be a clean exercise.  The eventual deal price may have been influenced by motivations for each party that were not quantified in the valuation of the equity of the target company.  However, if properly done with knowledge of each party’s relevant motivations, this exercise can be accomplished.