Asset Purchase vs Share Purchase: Choosing the Right Option

Avatar for Mateusz Muszynski
Published by Mateusz Muszynski
an in white shirt observing a vast array of white, 3D puzzle pieces arranged in a circular pattern. Asset vs Share Purchase

In simple terms, the best deal type varies based on what you’re buying or avoiding to buy.

In a share or equity purchase or company sale process, the buyer receives shares and post-transaction owns all assets and liabilities associated with that business both known & unknown/undisclosed. In cases where the buyer doesn’t need or want all the assets or wants to avoid certain liabilities associated with the business.

An asset purchase helps the buyer to handpick which parts to own and the seller to retain any parts it prefers. In short, the assets are the underlying resources of the seller – whether physical, digital, or intellectual – and the liabilities are the obligations of the seller. The transaction type simply reflects what is best for both parties based on what’s available to buy.

Asset Purchase Acquisitions: Why do it?

When you hear about a company that is going to buy another company, the first question comes to mind why do companies buy other companies? Let’s have a look at the benefits of an asset purchase including a few key areas:

  • Flexibility in selecting assets for purchase and avoiding expensive financial obligations
  • Limiting the number and size of surprises from unknown or undisclosed risks 
  • Limiting diligence to the assets & liabilities you buy
  • Tax benefits from assets that grew in value – i.e., step-up basis when revalued at FMV
  • Fewer issues via minority shareholders opposed to the sale
  • Ability to amortize goodwill over 15 years straight-line 
  • Ability to avoid operations you don’t want or don’t wish to sell post-transaction

These benefits make the most sense when a selling company has significant physical assets and/or IP (such as patents, licenses, or trademarks) among other factors that may offer more flexibility to buyers that don’t need or want to own everything. A more custom transaction can help these types of buyers and sellers reach closing of the transaction.

Asset Purchase Challenges And Drawbacks – Why do I need to be careful?

Each asset must be handled individually for valuation, documentation, titling, ownership, 3rd party approvals and related aspects.

In cases with high intangible assets, for example a consumer brand or significant patents, the asset purchase can change buyer tax deductions and how depreciation, goodwill, intangible assets, and amortisation occur. In this case, may company needs private equity advisors to analyze all the situations and make any decisions.

Certain challenges or impacts of an asset purchase may include:

  • higher capital gains tax and/or potential premiums per asset
  • re-titling any physical assets – i.e. buildings
  • renewing and/or renegotiating contracts for any employment contracts included
  • renewing customer & supplier contracts for the new entity
  • higher selling price to offset any higher taxes
  • additional time & cost for seller to liquidate other assets if can’t run the business
  • Costly and/or time-consuming valuations per underlying asset purchased
  • Double taxation if agreements & distributions aren’t done properly (for example, once on assets, potentially second on dividend distributions for C-corps)

Private Share or Private Equity Investments: Why do it?

Benefits of a share or equity purchase include a few things: 

  • Lower capital gain tax rates with exemptions for qualifying small business shares
  • Simpler, faster transaction (potentially!)
  • Ability to use net loss carry-forwards
  • May avoid taxes on certain assets (PPE, transfer taxes on real estate and/or other assets)
  • Single taxation of shareholders
  • Fewer filing requirements

These benefits make the most sense when a selling company has operations you’d like to own, clear liabilities, and/or valuable physical assets and/or IP (such as patents, licenses, or trademarks) that cannot be separated easily from the business. A simpler transaction of the whole firm can help these types of buyers and sellers reach closing. 

Equity Purchase Challenges And Drawbacks: Why do I need to be careful?

Each business remains bought in entirety, so you buy both unknown and/or undisclosed problems. Specific liabilities can be substantial or disrupt post-acquisition plans. Understanding why do companies merge becomes crucial for navigating potential challenges and drawbacks in equity purchases.

Certain challenges or impacts of a share purchase may include:

  • Can’t handpick assets & liabilities
  • Assets not re-valued at fair market value so individualized step-up basis doesn’t occur
  • Goodwill remains included and isn’t tax deductible in the transaction (i.e. losing 15-year straight-line goodwill tax amortization benefits per asset)
  • Must deal with all shareholders small & large (some could block the transaction!)
  • Pension obligations of union & non-union employees
  • Undesirable contracts, employee agreements or other liabilities
  • Prior legal liabilities or entanglements
  • Higher cost and greater time for diligence on the entire firm not individual assets

Payment Terms

The consideration refers to the payout structure and terms that the seller receives in exchange for the business or specified assets and/or liabilities. Most common structures include:

  • Cash – either liquid capital or purchase-specific financing options
  • Securities – such as equity, equity interests in cash-producing assets and/or debt
  • Mixed – a combination of cash and securities
  • Earn-Outs – a future pay-out based on meeting certain milestones; often included along-side other structures depending on the type of sale and/or management teams’ retention

Cash Sales: Exchanging Money For Companies

Cash Sales tend to be simple. Once agreed, the buying party sends payment directly and the transaction completes at that price. Such a fixed price does not include additional payment terms or requirements to complete. Understanding why would a company want to be acquired can shed light on the motivations behind pursuing straightforward cash sales.

Cash financing works well for larger companies with a greater cashflow to acquire another company directly – either via prior financing or current operations among other options. 

Other options include leveraged buyouts or more creative structures that source cash from debt financing secured against company assets via business loans, held between banks and buyers. These transactions create a ‘mortgage’ on the selling company paid by future cash flows.

In financial language, the buyer’s loan is secured against the operating profits and underlying assets of the purchase, while improvements in revenue are used to ‘pay down’ debt to the lender and/or buyer over time.

Security Acquisitions: Share Swaps

Securities with various structures can enable large transactions without requiring similar cash levels. This approach can reduce debt levels on the new entity if the securities include significant equity or equity-like securities, such as share swaps. In this kind of sale, the buyer offers their own stock as consideration for the purchase of another company either in full or partially with a reduced cash component. Recognizing the types of private equity funds may also provide insight into additional funding alternatives and their consequences in these kinds of deals.

This “swap” can occur in one of two main ways (among other more complicated structures):

  • Fixed ratio share sales: based on a set number of shares (partial or full) based on a fixed ratio
  • Floating ratio share sales: based on a given, fixed dollar amount & floating ratio

If share values change in value, a fixed dollar amount can reduce dilution to the acquiring entity or increase dilution depending on which entities value changed the most. A swap requires both entities to have valuations based at the time of sale and at the time of agreement (i.e., usually for public traded companies). A private swap is possible and requires private valuations at both times as well as large enough businesses to shift value in short periods of time (often not possible). 

Certain challenges include shareholder negotiations, management of share distributions, dilution of shares via new issuance, and valuation among other factors.

Mixed Consideration Offers: The Best of Both Worlds?

Mixed consideration mergers and acquisitions reduce the need for the buyer to navigate a large cash outlay or dilution of company stock and enables more custom terms than a full cash or full stock purchase.

Mixed sales face challenges regarding changing values of equity, custom demands by either party, more complex and/or time-consuming negotiations among other factors.

Decoding the Strategy: Why Companies Pursue Acquisitions

Companies often pursue acquisitions for a multitude of strategic reasons. Why do companies acquire other companies? These include expanding market reach, diversifying product offerings, accelerating growth through innovation, achieving cost efficiencies and synergies, accessing new capabilities, eliminating competition, expanding geographically, realigning strategic focus, and ultimately, unlocking shareholder value. Each acquisition is a carefully calculated move aimed at enhancing competitiveness, driving growth, and positioning the company for long-term success in a rapidly evolving marketplace.

Caveat: Earnouts And Contingent Funding

Contingent funding involves contractual agreements that outline specific conditions for future payouts. These payouts provide additional upside to the seller and limit cash outlays for the buyer across multi-year horizons customized per deal.

Earnouts remain a key feature of contingent funding where payment to the seller is split into a current portion and future portion across a schedule with performance milestones. These milestones enable firms to limit risk during the early years of purchase and sellers to earn higher payouts based on post-transaction achievements. Other contingent funding structures includes securities or potential to earn equity interests based on similar milestones as well as more exotic ones.

Earnout Drawbacks

Unfavourable earnouts can lead sellers to receive lower than desired prices, particularly if post-transaction performance rises based on seller efforts. Accounting, performance monitoring, and other needs raise costs and may inhibit future transactions due to outstanding known or unknown payouts.

Final Thoughts

It can be hard for a first-time buyer or seller to get the right deal, navigate acquisition pitfalls, and achieve a successful deal. Looking for assistance from an expert acquisition advisory services can provide invaluable guidance and excellence in resolving these complexities.

Acquinox can help: an agile, experienced M&A consultancy to help you navigate the pitfalls of M&A, so you’re not out in the cold while buyers get all the benefits. Get in touch for a consultation if you’re considering a merger or acquisition.

Contact us now and get
a Free Quote

Contact us and we will be glad to help

    Check Mark

    Your request has been sent successfully

    We will contact you within 24 hours