The assets of a business are a valuable component of the purchase price. However, the acquisition could be even more costly if you buy assets that are encumbered, or not owned by the seller, or not in working order. Due diligence enables you to understand and eliminate the risks in buying the assets. It helps you to identify the assets that form the purchase price; allows you to determine what the seller has said about the assets and their ownership is correct and helps verify the quality of the assets.
There are different categories of assets, including tangible; non-tangible; operating and non-operating assets. For the purposes of the sale agreement, some of these assets might be regarded as excluded assets and excluded from the sale.
1. Tangible assets – Plant and Equipment:
Tangible assets are physical assets that can be identified and valued. They include operating and non-operating assets. These assets may change over time in value and quantity. An example of a tangible asset is plant and equipment, which includes photocopiers, printers, forklifts, company vehicles, machinery and furniture, for example. When undertaking the due diligence process, ensure that you undertake the following:
- Identify: Obtain a list of the plant and equipment and verify the location of each asset. Check the model numbers and descriptions. The final list, once confirmed and agreed, will be attached to the sale agreement.
- Owner: Check who owns the plant and equipment. The business might not necessarily own, but rather, might have leased or obtained finance for the assets.
- Agreements: For rented or financed plant and equipment, verify that there is nothing under the respective agreement that would prevent the agreement from being assigned or novated and that there are no onerous terms. Ensure that the seller is up to date with payments and hasn’t breached any obligation under the agreement. Note whether any money remains outstanding on the plant and equipment and determine whether you will take over the repayments or the plant and equipment will be paid by the seller before the sale completes.
- Test: Test the plant and equipment to make sure it’s in proper working order. If any equipment isn’t working, request that the seller repairs it before the sale completes, or exclude the plant and equipment from the sale.
- Maintained: Check that the plant and equipment has been adequately maintained. Review when and how often it has been serviced and that the servicing was undertaken in accordance with the applicable maintenance agreement and by a qualified person. If there are any maintenance contracts, these should be reviewed. For any equipment that hasn’t been maintained, consider having the seller service it before the sale completes.
2. Intangible assets – Good will and Intellectual Property
Assets that are intangible, might not be physical assets. An example of assets that are intangible are goodwill and intellectual property.
Good will is an amount that the buyer is willing to pay to recognise the reputation of the business. To determine whether a business has good will, check to see whether they have strong branding; a customer list with repeat and loyal customers and something that can differentiate the business from similar businesses, such as proprietary technology or software.
(b) Intellectual Property:
Intellectual property is a valuable asset of the business although it might be difficult to value. When undertaking due diligence on the intellectual property, ensure that you:
- Identify: Identify all of the company’s intellectual property, whether registered or unregistered. Intellectual property includes, but isn’t limited to, the business name; the business contacts; client lists; the social media accounts; confidential information; know-how; formulas; works; trademarks; service marks; designs; patents; copyrights and policies and procedures.
- Ownership: Understand who owns the assets. The intellectual property of the business may not be owned by the company selling the assets, but by a separate entity either to protect the intellectual property or because it was acquired by a shareholder, say, before the business was operational.
- Copyright: Examine who owns the copyright in the materials, such as the policies and procedures or articles, that you’re acquiring. The owner of the copyright is the author of a piece of material. If the author is an employee of the business who has completed the work during the course of their employment, then the employer will own the copyright in the works. However, if a consultant completed the work, they will hold the copyright unless it has been assigned to the seller.
- Agreements: Obtain all of the back up agreements relating to the intellectual property, so you can be sure who owns it and whether the intellectual property is licenced, or has been assigned effectively through a deed of assignment.
- Assignment / Transfer: In regard to the assets that you have agreed to acquire, it is not enough to provide for the assignment or transfer in the sale agreement. Ensure as part of your due diligence that you check the requirements on how to assign or transfer each type of intellectual property to ensure that you get the benefit of the asset following completion.
3. Operating and Non-Operating assets:
As you are reviewing the assets, you might come across references to operating and non operating assets. These assets are merely components of tangible or non-tangible assets but reference to operating or non-operating assets is dependent on whether or not these assets are used in the business.
Operating assets are used in the business regularly to produce goods or services and may be tangible assets, such as cash, stock and plant and equipment or intangible assets, such as good will and intellectual property.
Non-operating assets are assets that have been acquired, but might not be used daily in the business. They might be obtained for investment or contingency reasons. Shares acquired by the company or equipment that isn’t being used are examples of non-operating assets.
4. Excluded assets:
Excluded assets, are usually assets that are excluded from the sale, either because the buyer does not want to acquire the asset; the asset is not owned by the seller so the seller does not have authority to sell it; or the seller owns the asset, but has excluded the asset from the sale. These assets should be listed and attached to the sale agreement as excluded assets and the value of them should not be included in the purchase price.
Key takeaways: Due Diligence on the Assets
- Due diligence on the assets owned by the Company or the Business is an essential component of buying a business.
- Due diligence on the assets enables you to:
o Identify the assets.
o Investigate who owns the assets.
o Determine the value of the assets.
o Identify any risks relating to the assets; and
o Qualify the processes that need to be fulfilled to fully acquire and receive the benefit of the asset.
About the Author:
The following extract has been taken, in part, from the book, ‘Entrepreneur Know How – Mindset and Winning Steps for Buying a Business,’ written by Sharon Robson (Available through Amazon and select bookshops – see: https://entknowhow.com/the-bookstore
Sharon is the principal lawyer and founder of Antler Legal – a corporate commercial legal practice in Sydney, Australia.