Stock Purchase Agreements

When you acquire a corporation through a stock purchase, the company does not disappear and its business is not transferred into a new entity. You acquire the shares that represent ownership of the existing corporation.

That distinction is fundamental.

The corporation continues to own its assets, hold its contracts and intellectual property, employ its people, maintain its licenses and permits, owe its debts, and carry its tax, employment, regulatory, contractual, and operating history.

That continuity may be precisely what makes the stock purchase valuable. It is also what makes careful investigation essential.

A buyer needs to understand not only the assets and revenue that make the company attractive, but the corporation that produced them. Financial statements, tax returns, debt, contracts, employee obligations, litigation, regulatory issues, ownership records, intellectual property, customer concentration, working capital, and other material aspects of the business can directly affect what the buyer is actually acquiring.

In a stock purchase, due diligence is not simply about confirming what the company owns. It is about understanding the company whose history and future obligations will remain inside the entity after you become its owner.

The Stock Purchase Agreement then becomes one of the primary mechanisms for allocating that risk. Representations and warranties, disclosure schedules, indemnification provisions, purchase-price adjustments, escrows, holdbacks, closing conditions, and other negotiated terms can determine what happens when the company turns out to be different from what the buyer reasonably understood it to be.

A seller approaching a stock purchase has a different problem.

You have spent years building the company. The buyer is not simply negotiating a number for your shares. The buyer is investigating the business, testing the information provided about it, and negotiating contractual protections against problems that may surface after closing.

The purchase price matters. So does how much of it you actually receive, when you receive it, what can reduce it, and what obligations survive after the transaction.

Representations and warranties concerning financial statements, taxes, contracts, employees, intellectual property, litigation, compliance, assets, and other aspects of the corporation can become the basis for future claims if the buyer later contends that the company was not what was represented.

Indemnification provisions can establish how long particular claims survive, what losses may be recovered, whether thresholds or caps apply, and whether funds are held in escrow or otherwise retained to secure those obligations.

For a seller, a successful stock purchase is not simply a signed agreement and a favorable purchase price. It is a transaction that converts the value you built into the consideration you negotiated without leaving unnecessary, undefined, or disproportionate exposure behind.

Preparation also matters. Financial, corporate, contractual, employment, tax, licensing, and ownership records that are incomplete or inconsistent can create buyer concern, reduce negotiating leverage, delay closing, or give the buyer a basis to revisit economic terms that appeared settled earlier in the transaction.

Once the parties begin negotiating the Stock Purchase Agreement, the transaction moves beyond the basic question of what the buyer will pay for the stock.

The agreement establishes what the parties are promising one another, what information the buyer is entitled to rely upon, what must happen before closing, how the purchase price may change, and who bears the financial consequences when something does not happen as expected.

Representations and warranties are not decorative provisions. They establish factual statements concerning the corporation, its financial condition, taxes, contracts, employees, assets, intellectual property, litigation, regulatory compliance, ownership, and other material matters.

Disclosure schedules identify exceptions to those representations.

Indemnification provisions determine when one party may be required to compensate the other for specified losses. Escrows or holdbacks may secure those obligations. Survival periods, baskets, deductibles, caps, exclusions, and other provisions can materially change how much risk remains with each party after closing.

Two Stock Purchase Agreements with the same purchase price can produce dramatically different economic outcomes because the allocation of risk between buyer and seller is different.

This is also where language that appears routine can become important. Closing conditions, covenants, definitions, materiality standards, knowledge qualifiers, purchase-price adjustment formulas, dispute procedures, and post-closing obligations can change what a provision actually accomplishes when a problem develops.

An asset purchase and a stock purchase can result in the buyer controlling the same operating business after closing, but the legal path to that result is fundamentally different.

In an asset purchase, the buyer generally identifies the specific assets it is acquiring and the obligations it agrees to assume. Contracts, leases, intellectual property, licenses, permits, equipment, inventory, customer relationships, and other business assets may have to be individually identified and transferred.

In a stock purchase, ownership of the corporation changes while the corporation itself remains intact.

That difference affects liabilities, contracts, employees, licenses, taxes, operational continuity, due diligence, and the parties' negotiating positions.

Buyers frequently value the ability to identify what they are acquiring and limit assumed obligations in an asset purchase. Sellers may view the transaction differently because tax consequences, retained assets and liabilities, corporate wind-down issues, and the economics of the sale can produce different results.

Sometimes continuity of the corporation is itself a substantial part of the value being acquired.

The appropriate structure is not determined by what the parties call the deal. It is determined by what must be transferred, what must remain intact, what liabilities and obligations exist, and what legal, tax, financial, and operational consequences follow from each available structure.

The decision should therefore be made before the parties become committed to a transaction structure that does not accomplish what they actually need.

Due diligence is supposed to change the buyer's understanding of the company when the facts justify it.

A proposed purchase price, transaction structure, indemnification package, escrow, or other economic term is negotiated based upon assumptions about the company's revenue, earnings, assets, obligations, contracts, employees, customers, tax position, and future operations.

When those assumptions change, the transaction may need to change with them.

A discrepancy does not automatically mean the acquisition should be abandoned. It does mean the issue has to be understood before the buyer continues relying upon an earlier version of the deal.

The discovery may affect valuation. It may be addressed through a purchase-price adjustment, a specific indemnification obligation, an escrow or holdback, an additional representation or closing condition, corrective action before closing, or another negotiated solution.

In other circumstances, the problem may be important enough to change the underlying economics or viability of the acquisition.

The purpose of due diligence is not to confirm the deal the parties already want to make. It is to determine whether the company the buyer is actually acquiring supports the price, structure, expectations, and risks upon which the proposed transaction is based.

Transaction momentum is not evidence that the original terms remain appropriate.

Sometimes the decision to acquire stock is driven by something inside the corporation that the buyer cannot afford to lose.

A material government contract, commercial agreement, license, permit, regulatory approval, lease, intellectual property right, or other essential interest may belong to the corporation itself. Attempting to acquire the operating assets without preserving that interest can fundamentally change what the buyer receives.

This is particularly important in San Diego and Southern California, where companies throughout the defense, technology, engineering, manufacturing, maritime, aerospace, logistics, and related sectors may derive substantial enterprise value from government contracting relationships and other rights associated with the existing corporate entity.

The first question is whether the material interest can actually be transferred.

Assignment rights, consent requirements, novation procedures, change-of-control provisions, licensing rules, regulatory approvals, and other restrictions have to be examined individually. A stock purchase can preserve entity continuity because the corporation itself remains in existence while its shareholders change, but that does not eliminate the need to determine whether the contemplated change in ownership triggers separate contractual or regulatory requirements.

When no available mechanism allows an essential asset or right to be transferred independently from the corporation, the transaction reaches a hard structural reality.

If the buyer intends to acquire an essential asset that cannot be transferred out of the corporation, the buyer must acquire the corporation. Otherwise, the buyer does not acquire that asset.

That issue can dictate the transaction structure before price, indemnification, representations and warranties, and the other provisions of the Stock Purchase Agreement are fully negotiated.