June 20, 2024

With businesses facing the harsh economic reality of the COVID-19 pandemic, many deemed it was the right time to sell – which was particularly true for SMEs.

The increased appetite for a sale and purchase agreement was mutual amongst investors, who viewed the pandemic as an opportune moment to increase their portfolio at a cut-rate price.

Michael Young, Legal Director of the Professional Negligence team at Lime Solicitors explains that on the surface it would appear that the pandemic had presented a mutually beneficial environment to both the buyer looking for a ready deal and keen seller, however, there has in fact been a large increase in sale and purchase agreement disputes. A core reasoning for the up-tick in disputes can be directly attributed to buyers attempting to utilise the pandemic to their favour, and ultimately avoid following through with  deferred considerations.

For business owners entering into a sale-purchase agreement, the quality of the contract is key. By following this advice, business owners will be able to protect themselves from being manipulated out of monies rightfully owed to them.

Admittedly, while deferred considerations do make a seller more vulnerable to financial disappointment, as the achievement of a full sale price becomes dependent on the businesses’ future performance, it undoubtedly makes them a more attractive proposition to buyers. Therein lies the problem. Unscrupulous buyers hoped to gain an unfair advantage, manipulate their accounts behind the guise of the pandemic, and ultimately not pay agreed performance clauses.

Typical examples of behaviour would be where the buyer would suspend business or certain operations under the guise of the pandemic, when in fact this was not necessary. The effect would be to miss contractual thresholds for deferred payments to be reached.

It is then important that the contract for the sale and purchase was well drafted, so the seller can for instance look at accounts, to see for instance if other areas of the business remained open, if accounts have been presented fairly, if there is any genuine argument as to why thresholds may have been missed, or if the purchaser has acted in bad faith to avoid them.

There is also the relevant question of how any furloughing of staff by the purchasers may impact on accounts figures for the purposes of thresholds and deferred consideration payments – this will depend on the exact circumstances of the sale agreement and conduct thereafter.

Any of the above scenarios could result in a seller to miss out on monies they would otherwise be entitled to. So what can sellers do to protect themselves, challenge unfair conclusions on monies due pursuant to business sale agreements, or recover compensation from buyers?

Firstly, it is vital that all sellers ensure that any agreement they enter into built on deferred considerations have been very well-thought out, with extremely specific clauses and plans for mitigating factors outside their control that may impact business performance.

This is of course the most ideal scenario for any seller, yet depending on the buyer may not be possible. In the event that a seller cannot secure watertight deferred considerations, it is equally important that they implement bad faith clauses. These clauses will help to deter unscrupulous buyers and any subsequent poor behaviour.

It also provides the legal backbone for a seller wishing to claim compensation for monies they believed are owed to them. For instance, if there is nothing agreed to prevent a buyer to shut down part of the business bought to avoid a deferred consideration, the seller may face difficulty. A clause to dictate good faith behaviour, then may lead the buyer to proceed properly, or to use the pandemic as justification for limitations, which the seller may then want to explore how valid or not that justification actually is.

It cannot be stressed enough how important it is for a seller to be hands on and ensure that the contract they enter into is fit for purpose. Sellers must insist that any agreement has the necessary built in mechanisms to protect themselves. For example, it is highly advised that a seller implements a stipulation that allows them to check the sold businesses’ accounts in the event of a deferred consideration not being achieved.

This particular mechanism is crucial in preventing the loss of monies through  accounting interpretations. Similarly, a seller should implement stipulations that protect themselves from any warranty issues arising.

For instance, part of the sale and purchase may be to give warranties to the extent there are no outstanding claims from a business perspective, or detailing those known.

The seller may want provision to be involved in the conduct of any claim brought as opposed to the buyer settling an unfounded historic claim against the business and setting it off form monies otherwise owed to the seller simply because that is less hassle.

Finally, and as a last resort, sellers should seek litigation to resolve any sale and purchase agreement disputes. Litigation can be an expensive or lengthy remedy, but at times it can be the only route for sellers to take, especially when dealing with larger businesses. The advantage of litigation, if successful, is that there will be a legally binding resolution that ensures monies owed to the seller are paid. Additionally, the legal expert advice can prove to be invaluable to undermining the buyer’s argument and protecting the sellers’ legal rights. These two factors combined can often be enough to deter defendants from going to court and result in an out-of-court settlement.

Ultimately, the COVID-19 pandemic presented an opportune moment for buyers to take advantage of sale agreements that included deferred considerations.

By hiding behind the serious social and economic consequences of the pandemic, coupled with manipulative business decisions they had hoped to avoid paying monies that they rightfully owed. While a pandemic is hopefully a once in a lifetime scenario, the lessons learned during this period are invaluable.

The need for sellers to ensure that they possess full knowledge of any agreement they enter into, negotiate unassailable deferred considerations, and implement bad faith clauses and mechanisms to protect themselves is paramount.

Lastly, while it may be a last resort, the threat or use of litigation is a powerful tool for sellers. Backed by legal experts, sellers can have the confidence that the letter and intent of their agreement is upheld.

Read more:
COVID-19 remains the go-to alibi for manipulative investors and it is destroying trust with sellers