A young entrepreneur was offered an opportunity to purchase shares in a company, and without obtaining legal advice, he signed an Agreement to purchase the shares.  A few months later, the company received an invoice from one of its major suppliers requiring it to pay a significant amount of money, which if paid, would result in the company becoming insolvent.

The new owner was totally unaware that he was responsible for the company’s outstanding liabilities when purchasing shares.

If you are thinking of purchasing a business it is vital to consider how you will purchase the business. There are usually two options, being either purchasing the shares or purchasing the assets of the business.

The meaning of company vs business

The starting point is that businesses and companies are not the same thing.  A company is a legal entity, which can own a business.  Businesses can also be run by sole traders, or other entities like charitable trusts as well.

The best option is dependent on your situation, and upon the relevant business.  We outline below the key differences between the two purchase options, and potential fish hooks:

Share purchase

A share purchase is where a shareholder in a Company agrees to sell their portion of the company’s shares to a purchaser.  This might be all of the shares, or only some of the shares.  It may be an outright purchase of the shares, or it may be staged (where you pay a portion at a time and gradually acquire shares).

When the shares are sold, the company will remain in existence and the business will continue to trade (usually under the same name). However, the structure of the company in terms of its shareholding will have altered. A benefit of this is that existing contracts (eg, with suppliers and employees) can generally remain in place.

A share purchase is usually straightforward for the vendor.  However, the purchaser will usually have to be cautious of this option as it can result in the purchaser inheriting any undisclosed liabilities of the company, as in the situation above.  The purchaser takes on all existing liabilities of the company from settlement.

It is critical to seek legal advice before agreeing to a share purchase, to ensure that there are vendor warranties in place to disclose all liabilities and ensure that information given is true and accurate.

Asset purchase

An asset purchase is where a purchaser will purchase the assets of the business, including the intangible (ie non-physical) and tangible (physical) assets and the stock in trade.  This is generally using an Auckland District Law Society Agreement for Sale and Purchase of a Business.

When the business assets are sold, ownership of the business will change over to the purchaser, who will often set up their own company to purchase the business.  Further, the trading name (which is an intangible asset) of the business will usually remain the same unless agreed otherwise.

However, unlike a share purchase, the purchaser will not acquire any of the business’ liabilities and the assets are usually agreed to be free of any security interests.  Whilst employee contracts are terminated, the purchaser has the option to offer to re-hire any of the employees using their new company.

To understand which option is right for your situation, we strongly encourage you to seek legal advice before purchasing a business. Choosing the wrong option can be costly.