When intending to sell or acquire a company, it is common practice for the parties to enter into a share purchase agreement (SPA). The SPA is a contractual agreement which sets out in writing the agreed terms for the sale and purchase of shares in a company.

Although there is no legal requirement to have an SPA, it is highly recommended that parties do so, for several reasons, including:

  • Documenting the terms of the transaction: the SPA provides a legal framework that details the sale process, setting out what is being sold, to whom and for how much, and specifying the parties' other obligations and liabilities in relation to the transaction.
  • Transparency: by setting out the agreed terms of the transaction, it aims to ensure that both parties understand their rights and obligations and therefore ought to reduce the risk of misunderstandings.
  • Risk allocation and mitigation: warranties, indemnities and other provisions contained in the SPA help manage and allocate risks associated with the target company and the sale transaction between the parties.

Common SPA provisions

Although transactions differ in size and complexity, an SPA is often extensive and detailed. Some of the key provisions typically covered include:

1. Conditions precedent

    In certain transactions it may be necessary for the completion of the SPA to be made conditional on certain matters first occurring, such as obtaining regulatory approval to the sale of the shares. The conditionality of the sale will be detailed in the SPA.

    2. Price

      Various issues may need to be addressed, including (i) how the price will be satisfied, for example, in cash or by the issue of shares in the buyer to the seller(s), (ii) when the price is to be paid, (iii) the method of payment (for example, by bank transfer to a nominated account) and (iv) whether the price is a fixed sum or subject to a price adjustment mechanism (such as completion accounts or an earnout based on the future financial performance of the company).

      3. Warranties

        UK law provides a buyer of shares with little statutory or common law protection regarding the nature and extent of the assets and liabilities it is acquiring, and so the principle of "caveat emptor" (buyer beware) applies. Therefore, to protect itself against undisclosed risks or unexpected liabilities, the buyer will usually insist the seller gives extensive contractual assurances, known as warranties, about the target company, its affairs and assets. As an example, the seller might be required to warrant that it is not aware of any current or pending litigation against the target company. If that warranty is untrue when given and the buyer has not formally "disclosed" the existence of a litigation to the buyer as part of the sale process, the buyer may have grounds to claim damages from the seller if it can show that the breach of warranty has caused a reduction in the value of the target company.

        4. Warranty limitations

        To try to mitigate risk, a seller will seek to negotiate limitations on a buyer's ability to make claims for breach for warranty. This will normally include issuing a disclosure letter (see below), imposing a financial cap on the seller's aggregate liability for breach of warranty and requiring that claims must be made within an agreed time period after completion.

        5. Indemnities

          An indemnity is a contractual promise, usually made by a seller to a buyer that the former will reimburse the buyer, typically on a pound for pound basis, should a specified liability arise. For example, if during the sale process a seller discloses a litigation against the target company, the buyer may negotiate an indemnity from the seller to pay to the buyer the sum of all liabilities, losses and costs that arise from that litigation. Such an indemnity allocates all the financial risk of the litigation to the seller.

          6. Tax covenant

            A tax covenant deals with the allocation of tax liabilities between the buyer and seller and ensures that any tax-related issues are addressed and clearly defined. The seller will normally indemnify the buyer for any pre-completion tax liabilities in the target company which do not arise in the ordinary course of business, or which were not provided for in the target company's last accounts.

            7. Restrictive covenants

              The buyer will usually wish to protect its investment in the target company by requiring the seller to undertake that it will not set up a competitive business, work for a competitor or try to poach the target company's customers or employees for an agreed period of time after completion.

              8. Completion

                The specific actions which must occur to complete the transaction will be detailed within the SPA. These will include the timing/date of completion, any steps to be taken (such as the resignation of the target company's existing directors) and any documentation required to be delivered at completion.

                Ancillary documentation

                The SPA will invariably require a number of other documents to be entered into and delivered at completion. These will generally include:

                1. Board approvals

                The seller and buyer (if corporate entities) will each hold a board meeting to approve the transaction and execution of the transaction documents, including the SPA and ancillary documents. The target company directors will also hold a board meeting approving the transfer of the shares to the buyer. Minutes of the meetings should be prepared and copies delivered to the other parties at completion.

                2. Stock transfer form

                This is the document formally required to transfer the legal title to the target company shares from the seller to the buyer.

                3. Share certificates

                The seller will be expected to surrender its share certificate(s) for the shares in the target company being sold at completion. If any of the certificates have been lost, the buyer can instead accept an indemnity for a lost share certificate, signed by the seller.

                5. Resignation letters

                It is common for the buyer to require some or all of directors of the target company to resign at completion and appoint its own nominees in their place. Resigning directors will be required to sign a letter resigning from their position and confirming they have no claim against the target company.

                5. Disclosure letter

                It is usual practice for the seller to record any matter or circumstance that will render any of the warranties it is required to give in the SPA untrue or inaccurate in a disclosure letter. This negotiated letter is delivered to the buyer when the SPA is exchanged, and the buyer agrees in the SPA that no liability will arise under the warranties in respect of any matter that has been adequately disclosed in this way. If the seller discloses material issues, the buyer will usually address matters by seeking an indemnity from the seller in respect of the relevant matter or by negotiating a reduction in the price payable.

                  If you would like to discuss anything raised in this blog in more detail, please get in touch with a member of the corporate and commercial team or your usual Brodies contact.

                  Contributors

                  Malcolm Holmes

                  Legal Director

                  Regan Lambert - Trainee Solicitor
                  Regan Lambert

                  Trainee Solicitor