What is a Share Purchase Agreement?
A Share Purchase Agreement (SPA) is a formal contract between a buyer and a seller for the purchase and sale of the shares of a company. In Alberta, the shares of a business corporation comprise all the issued stocks of a corporation, and therefore are usually offered for sale as a bundle. Thus, an SPA will involve the sale of all or the majority of the transferor’s shares to the transferee. If the transferor’s shares constitute 100% of the issuer’s outstanding securities, the transaction can also be known as a stock sale or a sales of assets, and is synonymous with a business purchase and sale agreement. However, an SPA can also be used when, for example, a subsidiary company’s shares are sold to a third party.
An SPA usually stipulates the terms and provisions of the share purchase that need to be fulfilled to complete the transaction, such as the purchase price, conditions precedent (i.e. the seller undertaking certain prescribed actions before closing the transaction), representations, covenants, warranties (i.e . the safeguards for the buyer in case the information provided by the seller is inaccurate), purchase price adjustments (to back out or adjust the purchase price if certain conditions are not met), indemnities (if a party suffers a loss caused or contributed to by a breach of the other party’s covenant, representation or warranty, the other party is required to compensate that party), and assignment (transferring the rights and obligations of the seller to a buyer).
SPAs also serve several other purposes other than the actual sale of shares by one entity (the vendor) to another (the purchaser). In general, SPAs allow for the transfer of ownership, provide the purchaser with recourse against the vendor in case of a breach of warranty, and mitigate post-closing liability for the purchaser. Also, accompanying an SPA will usually be other documents like an amendment to the articles of incorporation, a shareholder or equity holder’s agreement, or any third-party agreements by which the purchaser may be required to assume.
There are also several types of share purchase agreements. For example, a personal agreement is when the vendor sells his or her voting control to the purchaser. An equity sale is when the purchaser purchases all or a part of the vendor’s shares in return for issuing securities in the purchaser to the vendor. An asset share purchase agreement is for the purchase or sale of a company’s business assets only.
Major Terms of the Share Purchase Agreement
When structuring a share purchase agreement, there are some key components that need to be included. These are:
Parties to the Agreement
The agreement will outline who is selling the shares of the company (the Seller), and the Buyer who will be acquiring the shares.
Purchase Price
The Price needs to be agreed upon by both parties prior to structuring the agreement. The purchase price may or may not be a set price, and more often than not in recent years, the purchase price has been structured on a post-closing adjustment concept.
Representations and Warranties
Both the Seller and the Buyer will include representations and warranties in the agreement as well as conditions precedent. These representations and warranties are promises made by both sides that preforms a duty. It is always good practice to get the Buyer and Seller to represent and warrant the facts of the agreement. In Canada, if it is misrepresented, even if the misrepresentation was not intentional, then the party who has been misrepresented can be compensated for their losses.
Clearly identifying the parties to the agreement, the purchase price and the representations and warranties will help create a solid share purchase agreement.
Execution Requirements in Alberta
Within the province of Alberta, share purchase agreements may be governed by a number of different pieces of legislation. For example, if your company is not publicly listed, then the Business Corporations Act will provide rules and regulations applicable to Alberta and certain provisions are mandatory and cannot be altered by way of a contract. However, these provisions are more general and are often supplemented with more specific bylaws and agreements, such as Shareholders Agreements and Directors Meetings. If the sale of shares of the corporation relates to publically traded companies, additional security regulations apply. The main legislation to consider is the Securities Act (Alberta). The Securities Act helps govern the securities market within Alberta, and gives the Alberta Securities Commission the authority to enact and enforce securities laws within the province. We recommend that whenever the securities of the target company are being purchased, that the assistance and advice of a lawyer is sought to ensure that the prospectus and registration requirements are complied with.
Share Purchase Due Diligence
Due diligence is a voluntary investigation or audit of a potential investment, usually before a formal agreement is entered into. While due diligence can take many forms, the due diligence carried out on a share sale transaction largely involves an assessment of the financial state of the company selling the shares. Any liabilities affecting the business are likely to be taken into account when determining the price for the shares. Typically, a potential buyer will carry out due diligence prior to finalizing a share purchase so they have all the information needed regarding the company to allow for an informed decision to be made as to whether to proceed and to assist with determining a fair price. If a potential buyer decides to proceed with an offer to purchase the shares after receiving the results of due diligence, the elements of due diligence are often inserted into the agreement as representations and warranties from the selling party. These confirm to the purchaser the findings of their due diligence (and possibly more) about the company. The more satisfactory the results of the due diligence, the less effort that will go into drafting these representations and warranties. In Alberta, financial statements of the company are usually requested, drafted and revised (including the year end and interim financial statements) to ensure the financial state of the company (for example, assets and liabilities) to be sold is accurately represented. At the request of the potential buyer, a list of the assets and liabilities is also compiled and the following matters may be investigated in the course of due diligence in Alberta: The results of due diligence are used by the purchaser when negotiating a purchase price. There is often pressure on the selling party to provide whatever information the purchaser requests. While this is understandable, a selling party does not need to disclose anything harmful to the interests of the company or the selling party. For example, if the selling party is in a dispute over a lease, the selling party does not have to provide details of the dispute to the purchaser. If the company is not required to disclose information, the company should not unilaterally waive the privilege.
Preparing and Negotiating the Share Purchase Agreement
Once you have a fundamental agreement between the parties, you will set out the details in a share purchase agreement. This is a comprehensive legal document that should clearly and thoroughly record the existing agreement and the terms of the deal. Among other things, it should include provisions regarding representations, warranties, closing. The following issues shall be dealt with in the share purchase agreement:
1. The parties
The share purchase agreement will identify the vendor and the purchaser
2. Definition of assets being purchased
It will also define what share of the corporation is being purchased
3. Price
The share purchase agreement will also contain the price of the shares.
4. Method of payment
The method of payment for the shares shall be addressed. The parties may choose to pay all cash on closing, or they may wish to make installment payments or pay only after a specified event has occurred.
5. Conditions to closing
There are certain things that must occur before closing can occur. For example, if the sale is conditional on financing, then the purchaser will not be liable should final approval not be granted . Closing is also conditional on the vendor providing the purchaser with certified copies of corporate records, so that the purchaser can determine the vendor has full authority to complete the transaction.
6. Promises
A promise is a guarantee by one of the parties, who warrants to the other party that certain facts are true. Each party promises to perform their part of the agreement even after closing; in the event that they do not, the other party can seek a remedy.
7. Closing
A closing statement will detail how the property will be transferred; it will usually incorporate the agreement as well as any conditions, promises and details regarding closing. Documents will be registered with the government.
8. Do I need a lawyer to help me draft the share purchase agreement?
It is best to engage the services of a lawyer when negotiating and drafting a share purchase agreement. While the parties may think they are protecting their interests by including certain terms, in actuality the language, structure and enforceability of these terms may be entirely amiss. Each party should have their own lawyer review the agreement and advise them of their rights and obligations.
Common Issues and Solutions
A common challenge to finalizing a share purchase agreement in Alberta is the negotiation of the consideration to be paid by the purchaser for the shares, including any deferred or contingent amounts. Where an amount is deferred to some point in the future, it is always a negotiation as to whether that amount is linked to some financial target (e.g. gross revenue or operating profit) or whether such deferred payment is for some other purpose (e.g. to encourage a vendor to continue to manage the business after the purchase). The parties will need to discuss and agree how and when such amount will be paid (i.e. by wire transfer, cliff payment, X payments of Y dollars per quarter over Z years). The overall price can have a significant impact on the amount of any legal indemnities requested of the vendor.
Another common challenge to finalizing a share purchase agreement in Alberta is the negotiation of the representation and warranties in the parties’ respective schedules. Generally the vendor’s schedule will contain the vendor’s disclosures in respect of various representations. Sometimes the purchaser requests increase the amount of the representations, sometimes the purchaser asks questions ("breakdown") for the vendor to indicate where it and/ or its business may fall short of the particular representation being made. Vendors who are uneasy with providing extensive representations will typically try to restrict disclosure to known "material" areas (as opposed to areas withheld in knee jerk suspicion of potentially increasing purchase price), either in the type of information requested or the relative effects of such potential inaccuracy upon the business value (the "governance" approach); alternatively, the vendor may simply prefer that the purchase contract be based upon its bare indemnities and not be subject to detailed representations at all ("passive" approach). In negotiating representations, the parties will need to keep in mind financial or tax related exposures resulting from breach of the representations, against the risk of breach, and the ability to collect in damages from the vendor where the errors might be found.
Once a final form is agreed to, the share purchase agreement will be completed and executed in counterpart signed copies. The purchaser will pay the purchase price and then arrange share transfers from the vendors to the purchaser (generally under power of attorney authority). In Alberta, share transfers can be registered in electronic format through an intermediary.
Upon completion of the share purchase transaction, the purchaser typically will want to merge the seller into its own corporate entity. This is usually done by virtue of a second transaction whereby the seller is amalgamation with a subsidiary of the purchaser to form a new corporation. Doing so may have tax consequences to the vendor and shareholders depending on how the consideration is structured; for example, the receipt of vendor shares can be tax-free, but the receipt of cash or debt securities by the shareholders of the vendor is taxable. The amalgamation is generally accomplished pursuant to the Business Corporations Act (Alberta) and its regulations.
The Role of Counsel
A share purchase agreement is a contract between a buyer and seller of a company; therefore, a common consequence of its nature is a need for advice from professionals who can help navigate its intricacies. Legal advisers are indispensable in the negotiation and execution of a share purchase agreement, as they can offer guidance that goes beyond what most people are able to provide. For most buyers and sellers, legal advisers will add value during every stage of a transaction. Without this guidance, the buyer may find it difficult to evaluate the company being sold, and, moreover, the seller may be at risk of having the sales process drag on for weeks longer than necessary or, even worse, jeopardizing the legality of the transaction. While it can be easy to overlook the importance of hiring an experienced legal team, they are required to ensure that your resulting share purchase agreement reflects the deal you intended to make. Legal advisers will be able to address a number of issues that require informed guidance and experience with Alberta’s specific corporate regulations, including: Intellectual Property, Privacy Concerns, Tax Payment, Transferability, Covenants, Termination Obligations. Legal advisers can assist buyers executing a share purchase agreement with any necessary wealth management services, including: Mergers and acquisitions are difficult processes which require much more negotiation and due diligence than most people will realize, and which will vary from agreement to agreement. Involved parties must be as prepared as possible for these proceedings in order to ensure that they are able to execute a deal that meets the needs of all stakeholders. Outside of the fundamental contingencies outlined above, the most effective way to ensure this is to enlist experienced legal advisers who can help outline and clearly define the details of the sale. An informed share purchase agreement will help avoid otherwise costly disputes between the involved parties. Certainly, planning for a purchase sale will spare the shareholders of the businesses in question from the headache of having to sort out disagreements that could have been easily avoided if addressed up front.
Tax Considerations of Share Purchases
Share purchase agreements can have significant tax implications for both the buyer and seller of a business and the shares being sold. The Income Tax Act provides special advantages to the sellers of shares of qualified small business corporations, provided they meet various requirements. Complete tax deferral is available where a seller can defer capital gains tax on the sale by using the proceeds from a sale of shares to buy the shares of another qualified small business corporation, provided the additional shares are purchased within 120 days after the end of the tax year of the seller.
Asset sales also have specific tax implications. When assets are transferred, purchasers typically structure the transaction as a forward sale of those assets and receive a tax basis in the shares equal to the purchase price , and taxed only to the extent of proceeds received from that sale that exceed the tax basis of the shares sold. Vendors often argue that on an asset sale the purchaser must pay capital gains tax on the proceeds realized on sale and therefore should pay an increased purchase price equal to that additional tax that the vendor is required to pay in order to sell those assets. Purchasers often argue that the seller has already paid tax on the assets generated over a number of years, and does not need to pay additional taxes on the same assets.
Share basis adjustment clauses facilitate this process by reducing the purchase price of shares on account of additional taxes paid on account of a step-up in the tax basis of the assets sold. This method allows the seller to receive a greater upfront cash price for those shares, but results in an increased tax basis of those shares and a higher tax liability on a future sale or dividend of such shares. The downside for the seller is a future increase in tax payable because of a tax basis that is higher.
These negotiating positions can result in a protracted negotiation of a purchase agreement that could easily be resolved if buyers and sellers were willing to compromise on their positions on tax.