Do you duet like Taylor Swift when it comes to your due diligence?

“I knew you were trouble when you walked in” – Taylor Swift

If you are buying the assets of a business in administration, you probably already know that there could be a few skeletons in the closet. Otherwise, it wouldn’t be in administration in the first place. So, before you sign on the dotted line to acquire its assets, make sure you know what it is you are really buying by doing your legal due diligence.

Legal due diligence is the process of requesting and scrutinising information contained within the legal documents that affect the assets of the business being acquired. Reviewing the due diligence documents and taking advice in relation to them gives the buyer, a clearer picture of how the business has been and continues to be run. It also gives an understanding as to why the business is in trouble, potential opportunities and the liabilities associated with the asset purchase of the business.

This process is likely to be carried out under tight deadlines as the administrators will look to complete the sale in as short a timeframe as possible to try and achieve a better result for the business’ creditors, than if they were liquidated. A better result is generally more likely if the assets are sold quickly given that they potentially lose value over timed.

Assuming the administrator has allowed you access to the premises where the business’ assets are stored enabling you to inspect them, and you have agreed a purchase price for the assets with the administrator, then your legal due diligence strategy should follow the below key steps:

1. Check the Administrators Appointment

You should always review the documents confirming the administrators’ appointment to make sure they are valid. This will protect you in the long run, as it will ensure that the administrator’s ability to sell the assets of the business cannot be challenged by creditors.

2. Check Who Owns the Business’ Assets

Have you seen documents confirming that the assets are owned by the business with proof that all invoices relating to stock, plant and machinery have been paid for in full? If the assets have not been paid for in full, they could be subject to retention of title claims later down the line (see Supplier and Customer Contracts for more details below).

3. Check the Customer and Supplier Contracts

Is the business in breach of any of its contracts for example, its payment obligations? If stock has been provided under a contract it could be recalled by suppliers on the basis debts owed by the Business have not been paid in full, thus potentially subject to retention of title provisions.

Are the business’ key contracts capable of being replaced by you as the buyer or is there a risk that suppliers or customers can terminate crucial agreements based on the insolvency of the company that originally ran the Business? Will the replacement of contracts require the consent of the supplier’s/customers concerned and is it likely that the consent will be withheld?

4. Check the Obligations to Employees

Where the business is sold as a transfer as a going concern and the buyer is to broadly provide the same products or services after the assets have been purchased, the Transfer of Undertakings (Protection of Employment) Regulations 2006 (TUPE) is likely to apply. This means the business’ existing employees will have the terms of their employment contracts protected and any liability for debts or obligations owed by the seller to those employees will be deemed to be transferred to you.

You need to review the business’ existing employment contracts and consider how the business’ employees will fit into your future business plans. Take time to consider things from a practical perspective and analyse just how those employees will be integrated into your business and its culture.

5. Check the Intellectual Property Assets

Is the intellectual property (IP) used by the business needed after the assets have been purchased? If it is, you will need to ensure the IP (such as trademarks, patents and designs) is properly protected so they can be used freely post-sale.

In conclusion, there is clearly a lot of information to get through during the due diligence process. When selling a business outside of a distress purchase, legal due diligence has the freedom to take place over several months. However, when selling the assets of a business through administration the timeframe may be reduced to weeks or even days.

There are many opportunities in buying distressed businesses from administrators but let’s not forget it comes with its own risks. A rigorous due diligence strategy will help you identify and understand those risks and make sure that the business is in fact a cupid, and not just ‘oh oh...trouble, trouble, trouble’.

Need assistance?

If you would like any help and advice on due diligence, please contact our specialist corporate team on 0151 305 9650 or email hazel.walker@glenvillewalker.com

This article is not intended to be interpreted as advice.

Our next article in this series will explore all areas of asset purchase agreements.