19 April, 2017
Planning ahead is essential for any kind of transaction. It is an exercise which helps to anticipate potential problems, allowing steps to be taken to pre-empt any of those problems from arising. It is no less true for the sale of a business.
This article is written from the point of view of a seller. The considerations of a purchaser may be somewhat different.
Also, a sale of a business allows for the seller to ‘cherry pick’ certain components of the business to dispose, unlike in a sale of the shares of a company which involves the sale of the entire entity which owns the business ‘lock stock and barrel’.
Most business entities typically have various components such as employees, equipment, lease/rent, contracts with suppliers, intellectual property, accounts receivables and payables etc., some of which encompass contractual obligations on the seller that do not determine as soon as the sale of the business is completed because the sale may only involve some and not all aspects of the business. For example, if the purchaser does not wish to employ the seller’s employees upon taking over the business, then the seller remains the employer of the employees. The same will apply to ongoing contracts entered into by the seller which are not assigned or novated to the purchaser.
Thus, before entering into any contract for sale of business, it is important for both the seller and purchaser to first embark on a series of inquiries to identify which components of the business will be subject to the sale and purchase.
Below is a list of such matters (non-exhaustive) which are common in a sale of business that sellers may want to consider:
Tenancy agreement
Businesses that are operating at rented premises normally have a fixed tenancy period which can be problematic if the sale is to take place at a time when the tenancy is still subsisting as it may mean early termination of the tenancy by the seller-tenant. In such a case the seller may potentially commit a breach of the tenancy agreement and suffer the consequences of forfeited deposits or a claim by the landlord for unexpired term rents, unless:
- The seller novates the tenancy agreement to the purchaser; or
- The handover date of the business takes place after the expiry of the tenancy; or
- The landlord agrees to terminate the tenancy agreement with the seller and enter into a fresh one with the purchaser.
Each of these options entails different considerations. The option to novate, for example, may require some amount of time to negotiate as it is a tripartite agreement involving the landlord, the seller and the purchaser. Some purchasers may also insist on making novation/procurement of a new tenancy agreement with the landlord a condition precedent to the sale and purchase agreement.
Tip: The seller should review its tenancy agreement, to make an assessment of the viability of the 3 possible options and negotiate accordingly with the purchaser (and the landlord if relevant) in order to reach an agreement which is most appropriate in the circumstance.
Employment contracts
As mentioned, a contract for sale of business does not discharge a seller from its obligations towards its employees. Employees can generally be grouped into two categories whenever there is a sale of business:
- Employees who are offered new employment by the purchaser;
- Employees who are not offered new employment by the purchaser.
In respect of employees belonging to the second category and also those belonging to the first who rejected the offer of new employment, the seller remains contractually bound by both the terms of employment and the statutorily prescribed obligations under the Employment Act 1955 (“EA”) (if applicable). If the seller no longer requires these employees after the sale of business, the seller has to take the necessary steps to retrench these employees and ensure that the retrenchment complies with legal requirements.
Another thing to take note of is that sellers must give notice of termination even if employees have been offered fresh employment by the purchaser (ie employees in the first category). In other words, the law does not recognise automatic continuation of employment with the new owner of the business, and the existing employment contract with the seller must still be “terminated”. The seller should therefore be aware of the notice periods in the employees’ contracts – the length of the notice period may in some cases put the seller in a quandary of choosing either to delay the sale of business or to make payment in lieu of of notice to its employees.
Tip: The seller should review its employment contracts and be well-aware of any notice periods and contractual obligations to its employees, and plan ahead about how it intends to deal with (a) employees who are offered new employment; (b) employees who are not offered new employment; and (c) employees who are offered new employment but reject the new offer.
Contracts
Contracts relating to the business, such as contracts for the supply of goods and hire purchase agreements for business equipment, will similarly continue to bind the seller even after the sale of the business, unless they are novated to the purchaser or are sooner discharged. Sellers should take appropriate steps to manage their contractual obligations. The timing of a sale of business will often also impinge upon the relevant contracting third parties being agreeable to the assignment, novation or discharge of the ongoing contracts.
Tip: Identify any ongoing contracts that may require a novation, assignment or a full settlement of outstanding liabilities
prior to the sale.
Intellectual property
Intellectual property includes trademarks, logos, copyright, trade secrets and any other recorded intellectual property used in the business. It is a valuable intangible asset and for that reason a contract for sale of business would ordinarily include clauses requiring the seller to transfer the ownership of its intellectual properties to the purchaser.
In negotiations and at the due diligence stage, a seller that is unable to clearly show creation, ownership and proper registrations of its trademarks & patents might find itself in a much weaker bargaining position.
Tip: Sellers should delineate clearly the intellectual properties which are subject to transfer and those that are excluded because they either belong to third parties or that the sellers still wish to retain ownership over them. Extra care should be exercised in identifying intellectual properties belonging to third parties to avoid infringing their rights and the consequential claims in damages.
Personal Data Protection Act 2010 (“PDPA”)
This act applies to commercial transactions and they often involve the processing or transfer of personal data which is defined as that which “relates directly or indirectly to a data subject, who is identified or identifiable from that information or from that and other information in the possession of a data user, including any sensitive personal data and expression of opinion about the data subject.” Personal data includes individuals’ name, mobile number, and home address.
Sellers may find themselves in breach of the PDPA if the personal data of individuals collected in the course of their business transaction is disclosed by the sale of the business (e.g. the personal data of their employees, customers’ list, suppliers etc.) to the purchaser without the consent of the individuals concerned. A breach of the PDPA is an offence punishable with fines that range from RM100,000 to RM500,000 or with imprisonment.
Tip: Sellers should therefore mindful that their obligations under the PDPA is complied with in a disposal of the business.For an overview of PDPA, refer to our article here.
Goods and Services Tax (“GST”)
This consideration will be applicable to sellers that are GST registered. GST is levied on any supply of goods or services made in Malaysia where it is a taxable supply made by a taxable person in the course or furtherance of any business carried on by him. Generally, a disposal of business assets would count as a commercial transaction attracting GST, as the word “supply” is given a wide meaning. However, but a distinction should be made between a transfer of business assets and transfer of business as a going concern (“TOGC”), because the latter is not treated as a supply under the
Goods and Services Tax Act 2014 (“GSTA”) (item 1, 2nd schedule of the GSTA).
The general rule is that if the transferred assets are to be used by transferee (purchaser) in carrying on the same kind of business, then the seller is under no obligation to charge GST to the purchaser for the sale of business or account for the tax in respect of the sale. There are several factors and conditions to be fulfilled in order for the TOGC exception to apply.
Failure by the seller to impose GST on the sale price could result in the seller having to bear the GST amount as part of the sale consideration, in order to avoid the hefty penalties under the GSTA for not charging and remitting the GST to the Malaysian Customs.
Tip: Find out at an early stage whether the sale of business can fall under the TOGC exception and if so, this should be specifically addressed in the sale and purchase agreement.
For further information, please contact:
Donovan Cheah, Partner, Donovan & Ho
donovan@dnh.com.my
