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Anatomy of an Asset Purchase Agreement

Asset Purchase Agreements (APAs) are essential documents for asset sales, but they're far more complex than a simple transaction. Unlike Stock Purchase Agreements (SPAs), which govern stock sales, APAs involve the sale of specific assets and liabilities, requiring a detailed enumeration.

While both SPAs and APAs share many terms, they differ in crucial aspects. For example:

  • APAs itemize acquired assets and assumed liabilities explicitly, unlike SPAs, which reference transferred shares.

  • APAs require legal instruments for asset ownership transfer, like bills of sale and assignment agreements, while SPAs don't need these since assets transfer through stock ownership.

  • Representations and warranties in APAs focus on asset sufficiency for business operations after closing, unlike SPAs, which do not describe acquired shares.

Additionally, in asset transactions, "Shared Assets" used in both the seller's and acquired business need special treatment in the deal.

In subsequent discussions, I'll delve deeper into each section of an APA and provide detailed insights into their contents. You can also refer to a sample APA, such as the MSC Industrial Direct Co., Inc. and Barnes Group Inc. agreement for their distribution services business assets, though agreements may vary in structure and specifics.

Preamble and Recitals

The initial section of an APA, called the Preamble, introduces the agreement, identifies involved parties, and outlines the contract's effective date. Often, it establishes defined terms like "Seller" and "Purchaser."

Following the Preamble, the APA typically includes a section called the Recitals. These statements, prefaced with "WHEREAS," don't usually carry binding obligations. Instead, they express the intentions of the parties and offer context for interpreting the APA in the future.

Article 1: Definitions

Article 1 in most APAs outlines a set of definitions for key terms used throughout the agreement. These defined terms are not standalone provisions but are integrated into other operational sections of the contract. They may seem like standard or complex jargon when read independently, but they hold significant importance as they can substantially influence the meaning of the provisions where they are utilized. Some terms, like "Liabilities," "Material Adverse Effect," or "Seller’s Knowledge," are pervasive in the agreement and often undergo thorough negotiation. Others such as "Acquired Assets," "Acquired Business," "Assumed Liabilities," "Retained Assets," and "Retained Liabilities" are pivotal in defining the specifics of the transaction, determining precisely what each party is acquiring or retaining in the deal.

In addition to defining terms, this section often includes references to terms defined elsewhere in the APA and a segment dedicated to the rules of interpretation that apply to the contract.

Article 2: The Transaction

Article 2 of a typical APA outlines the specific terms of the sale. It generally states that, subject to the agreement's provisions and unless specified in Section 2.2 concerning Excluded Assets, at the Closing, the Seller will transfer to the Purchaser all of its rights, title, and interest in various properties and assets used exclusively in the Acquired Business, free of any claims or limitations except for Permitted Encumbrances. This section also defines Excluded Assets, which the seller retains, Assumed Liabilities, assumed by the buyer, and Excluded Liabilities, remaining with the seller. Additionally, Article 2 covers the purchase price, any adjustments to it (like changes in target net working capital at closing), and outlines the documents and items to be exchanged during the closing process. These may include bills of sale, assignment agreements, intellectual property transfers, real estate documents, alongside legal opinions, employment contracts, escrow agreements, and other supplementary documents.

Article 3: Seller Representations and Warranties

Article 3 in many Asset Purchase Agreements encompasses the seller's representations and warranties concerning the target business. Similar to prior discussions, representations and warranties are assertions of past or present factual information about the acquired assets, encompassing aspects like assets, liabilities, properties, condition, financial performance, operations, and future prospects. Inaccurate statements within these representations and warranties can lead to potential liabilities for the party providing the information.

Here’s a long list of subjects that may be addressed by seller representations and warranties:

  • organization and good standing

  • authority and enforceability

  • absence of conflicts

  • capitalization and ownership

  • financial statements

  • books and records

  • accounts receivable and accounts payable

  • inventories

  • absence of undisclosed liabilities

  • absence of certain changes and events

  • assets (including sufficiency of assets)

  • real property

  • intellectual property

  • material contracts

  • tax matters

  • employee benefits

  • employment and labor

  • environmental, health and safety

  • compliance with law

  • legal proceedings

  • customers and suppliers

  • product warranties

  • product liability

  • insurance

  • related-party transactions

  • guarantees

  • brokers and finders fees

  • solvency and

  • full disclosure.

Few, if any, transactions will include all of these representations and warranties, and many of them overlap at least in part.

Article 4: Buyer Representations and Warranties

Article 4 commonly encompasses corresponding assurances and guarantees from the buyer to the seller. In some cases, these assurances might be included within a different portion of Article 3 alongside the seller's assurances. If the buyer is paying through shares, its assurances generally align closely with those provided by the seller. However, in transactions predominantly involving cash payment, the buyer's assurances are typically narrower in scope. After all, cash transactions tend to focus on the straightforwardness of the payment method.

Buyer representations and warranties frequently cover some combination of the following topics:

  • organization and good standing

  • authority and enforceability

  • absence of conflicts

  • governmental consents

  • legal proceedings

  • financing

  • brokers and finders fees and

  • independent investigation.

Article 5: Covenants

If your deal involves a gap between signing and closing, Article 5 in the Asset Purchase Agreement typically includes commitments, known as covenants, from both parties regarding their actions during this interim period and after the deal is sealed.

One common covenant involves granting the buyer access to the acquired business and its records before closing, allowing the buyer to continue planning and integrating the acquired entity.

The agreement often mandates that the seller operates the acquired business in the usual manner consistent with past practices until the deal closes. This section might outline specific actions permitted or restricted for the seller, aiming to maintain the business in a state similar to what the buyer examined during due diligence. The more detailed these requirements, the more advantageous it usually is for the buyer, ensuring the business remains aligned with their expectations.

Moreover, this article typically necessitates the seller to promptly inform the buyer of any significant developments affecting the acquired business or the transaction. Not only does this ensure the buyer receives timely information about its soon-to-be-owned business, but it may also allow the buyer to declare a material breach or failure of a closing condition if notified about such issues.

Another common covenant involves both parties making diligent efforts to finalize the transaction, including obtaining necessary regulatory approvals and securing consents from third parties. This becomes crucial in asset transactions, where the direct transfer of individual assets demands compliance with various legal and contractual requirements, unlike stock sales involving indirect transfers.

Other covenants you may encounter in Article 5 include provisions governing:

  • confidentiality

  • no-shops

  • public announcements

  • preparation of interim financial statements

  • seller cooperation with financing

  • customer communications

  • employee matters

  • fraudulent conveyance law and satisfaction of seller obligations to creditors

  • indemnification and insurance

  • non-competition

  • non-solicitation

  • treatment of shared assets and intercompany arrangements

  • use of the seller’s retained names and marks

  • handling of mail and other communications and

  • production of witnesses and attorney-client privilege.

Article 6: Closing Conditions

Once again, in a scenario where there's a gap between signing and closing, the Asset Purchase Agreement will outline conditions precedent that must be met or waived before the parties are obligated to finalize the transaction. These conditions typically involve ensuring that the other party's representations and warranties were accurate when made and are still accurate at closing. It also encompasses the fulfillment of pre-closing commitments by the other party.

Naturally, all necessary regulatory approvals and consents from third parties need to be obtained as part of these conditions. Additionally, the buyer often requires a condition ensuring that the acquired business hasn't undergone a significant adverse change—one that impacts its long-term earnings capability. Sometimes, the buyer might push for conditions related to securing financing or completing the due diligence process satisfactorily.

Article 7: Indemnification

Another section in the Asset Purchase Agreement addresses indemnification rights, allowing each party to seek compensation from the other for losses resulting from breaches in representations, warranties, and covenants. These indemnification provisions might also cover losses related to specific issues, like an identified environmental concern. Sellers typically indemnify buyers for losses linked to "Retained Liabilities," while buyers reciprocate by indemnifying sellers for "Assumed Liabilities."

This Article will not only outline each party’s basic rights to indemnity. It also typically:

  • establishes a survival period for representations and warranties after which claims for breach cannot be brought,

  • sets limits on indemnification, including a threshold or deductible and a cap,

  • if applicable, outlines the use of any funds deposited in escrow for indemnification,

  • lays out procedures to be followed to make indemnification claims and to handle third party claims,

  • indicates the extent to which indemnification is a party’s exclusive remedy for breaches and

  • clarifies how losses should be calculated for purposes of any recovery.

Article 8: Termination

Article 6 of an Asset Purchase Agreement details the termination rights of each party in the event that conditions to closing are not met or waived. These rights encompass termination due to various reasons, including failure to meet conditions, mutual consent, a material adverse effect, legal injunctions, failure to obtain necessary consents, or missing the specified deadline for closure.

Furthermore, this section outlines the consequences of termination, specifying which provisions persist post-termination (e.g., confidentiality terms), potential compensation owed by one party to the other, and the continued responsibility for pre-termination breaches.

Article 9: General Provisions

Finally, virtually every APA will contain an Article dedicated to miscellaneous provisions governing a variety of subjects, including expenses, governing law, notice, dispute resolution, expenses, severability, counterparts, assignment, amendment and more.

Other Articles

Aside from the more common sections described above, many Asset Purchase Agreements contain Articles devoted exclusively to other topics, including taxes, employment and labor and environmental matters. Such additional Articles will usually only appear in an APA if their subject matter is particularly important and requires a more fulsome approach than it would otherwise receive


Gayatri Gupta