When negotiating the sale of your manufacturing business, it’s important to understand which terms are most favorable for both the buying party and the selling party. Only understanding what’s best for yourself could leave you squandering opportunities to upsell your business or potentially reap the rewards of a situation where both parties benefit (and you’re better off for it). The structure of the sale is vitally important to the selling price and tax savings. In this case, you must intimately understand the difference between an asset sale and a stock sale. You must know which is most beneficial to which party and why.
The Asset Sale
In an asset sale, the seller retains the legal entity, but sells off its individual assets such as capital equipment, leaseholds, inventory and the like. Generally speaking, the asset sale is going to be more favorable for the buyer. This is especially true in the manufacturing industry, which is equipment-intensive. Asset sales won’t usually include cash or the seller’s debt. However, net working capital, such as accounts receivable, expenses and accounts payable, will be included.
Buyer’s love asset sales because they increase the amount of depreciable basis in the equipment and other assets they purchase. This allows the buyer to quickly realize tax benefits they wouldn’t otherwise receive in a stock sale. Asset sales also allow the buyer to more easily dodge potentially damaging liabilities, such as contract disputes or equipment warranties.
From the seller’s point of view, asset sales will mean paying more in taxes. Ordinary assets are taxed by high ordinary income tax rates, while intangible assets incur a capital gains tax (currently around 20 percent).
The Stock Sale
In the stock sale, the buyer will purchase the legal entity of the business rather than the individual assets. This format is much more favorable, and generally preferred, by sellers. The assets are thus transferred in unison with the business.
From the buyer’s point of view, a stock sale doesn’t allow for the re-depreciation of most assets. As a result, buyers will not realize the tax benefit they otherwise would in an asset sale. Furthermore, any lawsuits, warranty issues or employee qualms will be transferred to the buyer (the hot potato gets tossed). While those liabilities can be negotiated during a sale, the buyer will likely not start with a clean slate.
From the seller’s point of view, selling as a stock sale, in lieu of individual assets, means getting taxed at a reduced capital gains rate. They can also become less burdened by liabilities, depending on the final terms of the sale (those liabilities don’t always leave).
Asset sales are generally more common than stock sales, especially in the manufacturing industry. However, as a seller playing the market, you should understand that buyers will be looking to negotiate an asset sale where possible (this is especially true for strategic buyers). If an asset sale is on the table, you should calculate what you stand to lose in taxes through the process. You could potentially negotiate a higher selling price in exchange for the benefits of an asset sale. In some cases, not only will you come out farther ahead than you would in a stock sale, but the buyer will save more money through the re-depreciation of assets. The win-wins are always the sweetest deals of all.