Understanding Sales Purchase Agreements (SPAs): a complete guide

Our firm frequently deals with Sales Purchase Agreements (SPA) and this blog aims to shed light on what a SPA is, why it is essential, and the important components that come with it. Whether you are a buyer or a seller, understanding the intricacies of a Sales Purchase Agreement can make a significant difference in the outcome of your business transactions. 

What is a Sales Purchase Agreement (SPA)?

A SPA is a legally binding contract that sets out the terms and conditions of a sale between a buyer and a seller. It is typically used in the context of buying and selling a business or a significant asset, such as shares in a company.

What clauses are typically in a Sales Purchase Agreement? 

A SPA usually contains several key sections, including: 

• Who are the parties to the contract 

• Definitions including the subject matter of the contract 

• Purchase Price and Payment Terms 

• Representations and Warranties 

• Indemnities 

• Closing Conditions 

• Restrictive Covenants 

By detailing these elements, a SPA provides a comprehensive framework that governs the sale process, ensuring that all parties have a clear understanding of their commitments and protections. 

What is the purpose of a SPA?

The Sales Purchase Agreement serves multiple purposes, including specifying the purchase price, detailing the assets and liabilities being transferred, and setting out the rights and obligations of both parties. It provides protections and certainty to all parties and may contain mechanisms to resolve disputes. 

Why Not Just Use a Stock Transfer Form?

A Stock Transfer Form is a simple document used to transfer ownership of shares from one party to another. While it may seem straightforward, relying solely on a Stock Transfer Form can be risky in complex transactions. Here’s why: 

1. Limited Scope: A Stock Transfer Form only facilitates the transfer of shares and does not address other critical aspects of the sale, such as the condition of the business, liabilities, or future obligations. 
2. Lack of Protections: Unlike an SPA, a Stock Transfer Form does not include warranties or indemnities, leaving the buyer vulnerable to undisclosed issues or future claims. 
3. No Detailed Terms: A SPA provides detailed terms and conditions that govern the sale, including payment schedules, performance obligations, and dispute resolution mechanisms. A Stock Transfer Form lacks these comprehensive provisions. 

In essence, while a Stock Transfer Form may be sufficient for straightforward, low-risk (and usually low value) transactions, a Sales Purchase Agreement is essential for more complex deals to ensure all aspects of the sale are thoroughly addressed and both parties are adequately protected. 

What Are Differences Between Warranties and Indemnities?

Warranties and indemnities are critical elements of a SPA, providing assurances and protections for the buyer. 

What is are warranties in a SPA?

Warranties are factual statements made by the seller about the business or assets being sold, covering aspects such as financial status, legal compliance, and asset condition. They give the buyer confidence in the purchase and a basis for legal recourse if any statement proves false. 

What is the indemnity clause in a SPA? 

Indemnities, in contrast, are commitments to compensate the buyer for specific losses arising from issues, like potential tax liabilities. They offer more direct protection compared to warranties. 

Typically, the seller provides these assurances because they possess detailed knowledge about the business which the buyer lacks. However, in some circumstances, buyers might also offer certain warranties and indemnities, particularly in balanced negotiations or where their actions post-sale could impact the seller. 

Sellers may hesitate to provide extensive warranties and indemnities due to concerns about future claims, negotiation leverage, and the cost and complexity of comprehensive disclosures. Negotiating caps on indemnity amounts, time limits for claims, and specific exclusions can help mitigate these concerns. 

By clearly defining these elements, both parties ensure fair protection and minimize risks, making warranties and indemnities a crucial part of the sale process. 

Why Might Some Parties Not Give Warranties and Indemnities?

While warranties and indemnities are crucial for protecting the buyer, there are reasons why a seller might be reluctant to provide extensive warranties and indemnities: 

1. Risk Exposure: Trustees, in particular, are very reluctant to provide warranties and indemnities on the basis that they require certainty as to money within their control. This problem can be met by them paying for an insurance policy to meet their obligations should claims arise. Insolvency Practitioners do not give warranties or indemnities in most situations, but accept that a lower price is the consequence of this desire to avoid future potential liability.
2. Negotiating Power: In competitive markets or desirable transactions, sellers may have the leverage to limit the warranties and indemnities they provide.
3. Cost and Complexity: Drafting and negotiating detailed warranties and indemnities can be time-consuming and costly, which might deter sellers, particularly in smaller transactions. 

Sellers often seek to limit their liability by negotiating caps on indemnity amounts, time limits for claims, and specific exclusions for certain types of warranties. 

What are Restrictive Covenants in SPAs?

Restrictive covenants are clauses in a SPA designed to protect the buyer’s interests post-transaction. They typically include: 

• Non-Compete Clauses: Prevent the seller from starting or engaging in a competing business for a specified period and within a certain geographical area. 

• Non-Solicitation Clauses: Prohibit the seller from soliciting or hiring employees, customers, or suppliers of the sold business. 

• Confidentiality Clauses: Ensure that the seller does not disclose sensitive information about the business and breach confidentiality.

Buyers insist on restrictive covenants to safeguard the value of the acquired business, ensuring that the seller does not undermine its operations or poach its key resources. However, these covenants must be reasonable in scope and duration to be enforceable and not constitute an unfair restraint of trade. 

Earn-Outs and Seller Protection

An earn-out is a payment mechanism where part of the purchase price is contingent on the future performance of the business. While earn-outs can bridge valuation gaps and align seller and buyer interests, they introduce uncertainty for the seller, who may have limited control over the business post-sale. They are usually only suitable where the seller(s) will be continuing to work in the business post-sale. 

To protect themselves, sellers often negotiate clear performance metrics, ensuring targets are well-defined to avoid ambiguity. Operational covenants can be included to guarantee that the buyer manages the business in a way that allows the seller a fair chance to meet these targets. For example, not charging the sold business or company with costs which benefit the buyer’s group as a whole. Sellers should also secure rights to access financial and operational data to monitor performance and include pre-agreed dispute resolution mechanisms to handle any disagreements over earn-out calculations. 

These provisions help ensure that sellers have a fair opportunity to earn the additional payments and protect their interests if disputes arise, making earn-outs a balanced approach to business sales. 

Conclusion on Sales Purchase Agreement (SPA)

A well-drafted SPA is essential for ensuring a smooth and successful business transaction. It provides comprehensive protection for both buyers and sellers, addressing key issues such as warranties, indemnities, restrictive covenants, and earn-out provisions. At Anthony Gold, we understand the complexities involved in SPAs and provide expert legal advice to help you navigate these challenges.

Contact us today to learn more about how we can assist you with your corporate and commercial legal needs. Call 020 7940 4060 or send us your enquiry at mail@anthonygold.co.uk.