The purpose of this short article is to guide you to the most appropriate share purchase document for your requirement. We are not concerned with a deal to buy all the shares. That would need a rather different document.
This small set of documents covers a situation where some person or company buys into a company either by subscribing for new shares or by buying existing shares from their owners. There may be several sellers or several buyers, any of whom could be a company.
Let us assume you are coming in for maybe forty per cent. The scenario is that two director-shareholders are in constant stalemate and have asked you to buy in and act as chairman. Meanwhile three minority shareholders want out. You have agreed to buy all their shares and subscribe to new shares at an advantageous price. Maybe you have also agreed to a loan to the company. So with that commitment, you really need an agreement that wraps things up tightly. You need a Shares purchase and subscription agreement with a full choice of warranties.
At the last minute the three old guys who wanted out decide they like you and they would prefer to stay. You go along with this. So now the deal involves only a share subscription agreement. But of course you still need those warranties.
Now you have slept on that deal and you have second thoughts. You like the business, but the thought of managing those minority shareholders disturbs you. So you decide to go with just one shareholder and buy out all the others. They may not be happy but they agree to sell. So now you do not need to subscribe for new shares. You will have all the shares you want by buying them.
Those are the options: buy shares or subscribe to new shares - or both. Our documents reflect just those options. We also offer a fourth option which is a simpler document with no warranties. This document is not for you. It is for a situation where the shareholders invite someone to become a shareholder by subscribing to new shares in circumstances where that invitee either knows the company already or is coming in on terms he dare not challenge.
She may be a director whom the shareholders wish to motivate with a share holding. She may be the company’s accountant. She may be the chairman’s daughter. The point is that she is not in a position to demand the level of protection that you have demanded. She is very happy with the Net Lawman shares subscription agreement which does not include the raft of warranties.
Warranties - the inside-out promises
The logic of warranties is both simple and cunning. They are designed to level the playing field between the buyer and the seller. The agreement is drawn by the Buyer. That is fair because the Buyer knows nothing about the business and the Seller knows everything (we hope)! So the sale agreement first covers the mechanics of the deal - what is being sold, where it is, how it is to be transferred, and so on. Then it moves on to the “warranties”.
Warranties work like this: I am a seller; you the buyer. You produce an agreement. In that agreement, you suggest that I should warrant (promise) as facts, say 60 matters about my business. These warranties are actually statements of fact which would be correct in a perfect world. You are asking me to confirm a state of perfection.
So what can I do? If I cross one out, you will assume that item to be unsupportable and reduce your price. You may even walk away from the deal. Instead, a new procedure has evolved: I give you a “letter of disclosure” in which I own up to the exceptions to the promises. Subject only to those exceptions, I make the promises you have asked for. This procedure opens up for you many details I might otherwise never have disclosed.
I have to be very careful of course. If I forget to mention something which you later discover, you may turn round and want some of your money back.
Net Lawman gives you a menu of up to 140 warranties covering every aspect of a business. You can decide you want to remove say 30 of them and leave the rest to be qualified by my disclosure letter. Then you can calculate exactly what you think my company is worth and refine your offer accordingly.
We strongly advise any buyer or subscriber of new shares to use warranties - even if you whittle our 140 down to 25.
But there are exceptions, as I have mentioned above, where a simple agreement is all that is required.
Retentions against profit deficiency or warranties
It sounds easy to keep back a small percentage against problems which reduce value. The construction industry uses a 2.5% retention as minimum standard. There are time proven ways to value the defect. Everyone knows where he is. A shares purchase is different.
When you buy shares in a company you are buying future cash flow and profit, usually at some multiple of earnings. If you have had in mind five times net profit for the current year, and the audited net profit turns out to be £100,000 less than the directors’ management accounts showed, you could reasonably want £500,000 back.
The shareholders who sold to you may no longer have that money. You cannot cover the foibles of human nature in any legal agreement, but you can negotiate a level of retention that covers your situation reasonably. If the sellers are unhappy to trust that they will ever get their money, consider placing it in a neutral accountant’s client bank account until he has approved the audit figures. That way, you may persuade the sellers to accept a far greater retention.
When you buy existing shares, the contractual situation is clear. That means you can easily sue the sellers if you need to do so. Things are not so simple if you have subscribed to new shares.
If the company is a party to the agreement and has made the right warranties, you could sue it, but that would be difficult and messy on account of the inanimate state of a company. The directors are not at risk unless they have joined in the deal to give warranties (whether or not using that word). That leaves the shareholders. Do they have the money to make good any problem for you? They certainly do not have proceeds of sale because they have sold nothing.
The best way to avoid such uncertainty is to avoid the possibility of having to claw back part of the money you have paid and instead to retain a substantial part of the subscription price. The formal documents record the full amount payable, but the agreement specifies that it is payable in tranches in whatever way you choose. You get the shares and the votes that go with them, but you can withhold payment permanently if the deal turns out differently from what was promised. It is essential that the company is a party to this sort of deal.
So far, I have not referred to your reason for claiming back money or refusing to pay a balance. For clarity, the reason could be any reason related to a breach of the agreement. Specifically it could be a failure of some specific calculation on which profit is based or it could be a breach of one or more warranties.