What Are Stock Purchase Agreements?
A stock purchase agreement, or an SPA for short, is an agreement that a company or its shareholders and buyers sign whenever shares of a company or corporation get bought or sold. Stock Purchase Agreements are used most often by smaller corporations when selling their stock publicly to create a certain amount of trust and security between buyer and seller. Both the company itself or its respective shareholders can sell stock to potential buyers. That’s where Stock Purchase Agreements come in very handy as their purpose is to protect you, regardless of whether you’re the buyer or the seller.
A Stock Purchase Agreement and a Asset Purchase Agreement Are Not The Same Thing
It’s important to know that a stock purchase agreement is not the same things as an asset purchase agreement, or an APG. The main difference is that stock purchase agreements only sell shares of a company in order to raise money or to transfer ownership of shares while asset purchase agreements aim to finalize company asset sales. Namely, the stock purchase agreement will outline several key points:
- The name of the company in question
- The name of the buyer(s)
- The market value of shares
- The amount of shares that are being sold
- When and where transactions will take place
- Buyer and Seller warranties and coverage
- Possible employee issues, like benefits and bonuses
- Indemnification agreements to cover unpredictable costs and expenses
Finally, prior to reaching a lasting agreement, a letter of intent, or LOI, must be produced by the seller, explaining the proposed sale at length. It’s up to the buyer to have the presence of mind to make sure that the purchase agreement contains the same terms as the LOI does to avoid any future discrepancies which may arise.
What Goes into a Stock Purchase Agreement?
Stock purchase agreements get broken up into several sections that aim to define what certain terminologies mean and to describe how the transaction process works. The contents of a stock purchase agreement will typically resemble the following:
- Details of Transactions
- Seller’s Warranties
- Buyer’s Warranties
- Closing Conditions
The Preamble…No, not the one in the Constitution
The first part of a stock purchase agreement is called the preamble. In it, the agreement is formalized and the respective parties are identified as well as the date of the contract and purchase. Typically, parties are referred to as either “seller” or “purchaser”. After these key points of information get stated in the preamble, the next section begins and it is normally called the Recital. This part serves as the main meat and bones of the agreement outline.
Definition Section in Stock Purchase Agreements
The definitions section is the first article on most stock purchase agreements as it defines certain key terminologies and phrases which will get used all throughout the agreement. All of the relevant terminology that gets defined will be either boldfaced or capitalized and they will usually be listed in alphabetical order. The attention to detail with the terminology definitions is very crucial, because while it can be very tempting to skip through this section, understanding exactly what these terms mean in the context of the purchase agreement is key since it can drastically impact the meaning of the agreement. Therefore, you really should take the time to read through the whole section so as to familiarize yourself with the wording and its meanings within the agreement. In particular, words such as “liabilities”, “material adverse effect”, and “seller’s knowledge” can all have huge effects on the contract just depending on how they are defined in a particular context.
Transaction Part of Stock Purchase Agreements
In this part of the agreement, the exact terms of the sale will be outlined at length. It will contain a part that refers to the seller transferring ownership or selling to the purchaser or the buyer acquiring from the seller some specified amount of shares. Further, the purchase price and any adjustments made to it will be clearly shown here, including:
- Share certificates
- Purchase price
- Legal opinions
- Employment agreements
- Escrow agreements
- Other auxiliary documentation
Stock Purchase Agreement Seller’s Warranties
In this segment, the seller’s warranties are stated expressly and get defined. Untruthful or incorrect representations of warranties can result in the liability of whichever side made the statements. This may include statements concerning past and future facts related to the business, such as:
- Operating results
- Prospects and goals
Stock Purchase Agreement Buyer’s Warranties
For the most part, this part of the agreement is identical in function to the previous section, except that it focuses on the warranties and representations from the buyer’s side. Oftentimes, these two sections mirror each other quite closely. Since the buyer usually pays cash for the stock, their warranties may be more limited than the seller’s.
Stock Purchase Agreement Covenants
Most deals have a set time frame from when the parties agree to sign off and the actual closing. Because of this limitation, the covenants segment of the agreement outlines things that each party should avoid doing during that time frame. Typically, this translates into a long list of actions that need to happen during that time period in addition to some actions which are outright prohibited until the closing of the arrangement.
Stock Purchase Agreement Closing Conditions
This part of the agreement is comprised of terms and conditions that either need to be met or waived prior to the time that the arrangement closes. These conditions often include both sides carrying out their pre-closing covenants and ensuring that all terms are fulfilled.
Indemnification in Stock Purchase Agreements
Article seven aims to clarify indemnification rights by stating the terms whereby the other party gets compensated just in case one party breaches their contract. It will also typically include a section discussing the losses that may arise from specific cases. You can expect this section to talk about:
- The specified period of time in which claims against representations and warranties can’t be brought
- Time limits for indemnification
- Use of escrow funds for indemnification, if applicable
- How often or to what extent indemnification is the primary remedy for a breach in contract
- How losses get calculated for recovery
Termination Provision in Stock Purchase Agreements
In the eighth article, you’ll encounter details about each party’s right to terminate the contract. This will typically cover some of the follow reasons for termination:
- Failure to meet a condition
- Mutually agreed upon termination
- Termination by the buyer if the company had a material adverse effect
- Termination in the case of expiration
- Termination for not getting government or third-party consent in a timely manner
Miscellaneous Provisions in Stock Purchase Agreements
The final section of an agreement will always end with a section that goes over any miscellaneous provisions. These provisions touch base on several subjects, like:
- Governing law
- Dispute resolutions
Why are Stock Purchase Agreements Important?
Stock Purchase Agreements matter because they articulate the terms of a sale and they put it into writing. They can prevent arguments or misunderstandings that would otherwise end up in court. Furthermore, the agreement also gives the buyer more faith in the transaction since the seller has the chance to describe why they are selling. Lastly, it also details other important details, such as warranties, dispute resolution means, and covering costs when unexpected problems cause loss.
When Stock Purchase Agreement is Not Useful
Admittedly, there are few situations where having a Stock Purchase Agreement wouldn’t be useful, such as:
- There is only one shareholder in the company, and/or
- You’re offering a limited capacity offering that qualifies for Regulation D exemption.
Even then, however, an SPA can only help, never hinder you.
Why Stock Purchase Agreement Would Be Useful
- The agreement serves as a binding contract that ensures the sale will take place
- It will allow businesses to raise revenue for the company
- The buyer and seller have time to review the agreement before it’s finalized
- It explains special tax treatments the signers may get for the transfer.
Instance of Why a Stock Purchase Agreement is Crucial
There are a few instance as to why a Stock Purchase Agreement is crucial to use, which may include the following situations:
- The buyer may expect to receive dividends on their investment. They may later claim that they were promised any number of dividends if there is no prior stock purchase agreement in place; dividends can be fully explained when an agreement takes place.
- Some disputes over unexpected costs can cause a disagreement to take place. Without a stock purchase agreement, there’s no official dispute resolution protocol in place. As a consequence of that, it can result in high court costs to resolve the issue. With an SPA, at least both parties have an outline on how to handle the disagreement.
- In the event that someone with a large stake in the company leaves, they may decide to sell their shares. Without no SPA in place, they can choose to sell their shares to company outsiders without even asking the other shareholders. With the agreement intact however, a “right of first refusal” clause can be created, which would mean other shareholders will have the option to purchase the shares before they’re sold to someone else externally.
Some common mistakes that people make is thinking they don’t need to make a Stock Purchase Agreement because the person they’re selling to is someone known. That decision affects your whole company, so there’s no room to leave things to chance or faith. Similarly, simply filling out a pre-made stock purchase agreement template from the internet is probably not a great idea either as it likely won’t contain all of the relevant clauses needed for your business. It’s always best to have legal professionals craft your document after meeting with you to assess the individual needs and interests of your business. That’s where we can help you.
California Corporate Attorneys Can Help
We have extensive experience with drafting and filing Stock Purchase Agreements for our clients. We invite you to give us a call at (310) 943-1171 to speak to a California corporate attorney today. Our lawyers in Glendale, Los Angeles County, California, will ensure that your transactions are always in your best interest.
KAASS LAW is authorized to practice law in California. The above content is intended for California residents only. This content provides only general information which may or may not reflect current legal developments. KAASS LAW expressly disclaims all liability in respect to actions taken or not taken based on any of the contents of this website. The above content DOES NOT create an attorney-client relationship. KAASS LAW does not represent you unless you have expressly retained KAASS LAW in person at the KAASS LAW office.
KAASS LAW helps clients in: Los Angeles, Burbank, Hollywood, Glendale, Van Nuys, North Hollywood, Studio City, Highland Park, Eagle Rock, Sunland, Tujunga, Sylmar, San Bernardino, La Crescenta, La Canada, Beverly Hills, Westwood, Santa Monica, Brentwood. Pacoima, Montebello, Commerce, Alhambra, Downey, Bell, Maywood, Walnut Park, Vernon, Lynwood, Echo Park, Silverlake, Mission Hills, Northridge, Woodland Hills, Encino, Canoga Park, North Hills, Porter Ranch, Chatsworth, Reseda.