Buying and selling tech businesses in Australia
In 2022 businesses worth over AUD55 billion were bought and sold in Australia, with the 20 largest deals accounting for some AUD45 billion of this total. That leaves a huge number of matters making up the balance of AUD10 billion. Some of these were substantial transactions in their own right, others were relatively minor, but all required the same careful approach to risk.
The basic rule of buying and selling businesses, whether asset sales or share sales, is caveat emptor ie ‘let the buyer beware’. In other words, it’s up to the purchaser to kick the tyres and ask all the right questions; the seller is not required to volunteer information unless specifically asked. This process of asking for relevant information is known as ‘due diligence’ and typically involves a number of stages:
• the seller collates a bundle of pertinent documents (usually referred to as the ‘data room’) which contain relevant financial, tax, legal and operational details of the business;
• the purchaser scrutinises the data room to get a better understanding of the business. The purchaser may identify gaps in the data room or other areas where further questions are needed;
• the seller drafts a ‘disclosure letter’ which sets out specifically agreed exceptions to the representations and warranties give in the SPA in respect of which the seller will not be liable;
• the purchaser prepares a draft of the main sale document (the ‘Sale and Purchase Agreement’ or ‘SPA’). This will typically contain various promises to be given by the seller, including:
– conditions precedent ie specific conditions which must be satisfied before the deal can proceed. Conditions are important contractual terms and if they are breached, the injured party will generally find themselves deprived of all (or nearly all) the benefit or value of the contract. Think of an agreement to sell an NFT which turns out not to belong to the seller after all. In this case the purchaser can choose to call off the contract and claim damages;
– representations and warranties to be given by the seller concerning the state and condition of the business or assets being sold. Representations are promises made during negotiations to induce a party to enter into contract and if they turn out to be false (a ‘misrepresentation’), this can lead to damages and often a right to rescind (ie call off) the contract. Representations are similar to conditions, whereas warranties are more minor contractual promises, a breach of which may result in a claim for compensation but will not allow an injured party to cancel the entire agreement. Something like “this website gets 10,000 unique monthly views” when in fact it’s nearer 6,000 – it might be possible to address this kind of discrepancy by adjusting the purchase price to reflect the site’s true value so the seller will need to partially refund the buyer;
– restraints and obligations governing the parties’ conduct, either after signature and completion, typically aimed at preventing the seller division straight back into competition with the purchaser after the business sale;
– indemnities which back up the representations and warranties, and provide that one party will indemnify, defend, and hold harmless another party in certain circumstances. Indemnities are contractual promises that one party will fully compensate another party for any loss (usually including legal fees) arising from certain acts or circumstances.
In 2022, Australia witnessed a remarkable flurry of business acquisitions and sales, amounting to an astonishing AUD55 billion. The top 20 deals alone contributed a substantial AUD45 billion to this staggering figure, leaving an intriguing AUD10 billion dispersed among numerous other transactions. Despite varying in scale, each of these deals demanded a meticulous approach towards risk assessment and management.
There are several reasons for conducting due diligence, including:
• identifying general issues and potential flaws in the business, thus enabling the purchaser to understand the true nature of the business and establish an appropriate sale price;
• flagging issues of particular concern in advance so all parties are aware of what’s important to the others;
• focussing attention and investigation on specific areas of high concern;
• flushing out details of known liabilities or areas of risk;
• giving the parties an opportunity to apportion risk between themselves in respect of liabilities and risks including ‘unknown unknowns’ ie future contingencies and ‘known unknowns’ eg existing but unquantified (or unquantifiable) liabilities.
Guarantees and insurance
Each party’s objective during the due diligence and negotiation process is therefore to identify and quantify relevant areas of risk and either resolve these before the SPA is signed, or factor them into the SPA and the sales price. Occasionally, a risk can’t be entirely anticipated or eliminated and one party will be faced with having to enforce a claim against the other. There are a number of ways for that first party to be sure the other party is good for the money:
• including parent company guarantees in the SPA;
• including personal guarantees from the seller’s shareholders and directors in the SPA;
• setting up escrow accounts to ring-fence some of the purchase price for a period of time;
• taking out specialised “warranty and indemnity” (W&I) insurance policies.
None of these are simple options, nor do they replace the need for proper due diligence or negotiation of warranties and indemnities etc. When you’re handing over a substantial amount of money for a business, or you’re looking to exit from your business for a life-changing sum, you want to know your position is as secure as possible. This is always a good time to get proper legal advice.