CONSULTATION & GUIDANCE

Listening.  Having the patience to listen and understand your business and the challenges unique to your business is Yahne.Law’s commitment to its clients.   Working hand-in-hand with clients to improve business performance, drive shareholder value, and create competitive advantage develops the long-term professional relationships essential to our mutual success.

SELECTION OF FORM BUSINESS

After making the decision to go into business, a new business owner must determine the appropriate legal entity for the new business.  The determination of the appropriate legal entity is an important decision that implicates legal and tax consequences that must be fully explored.  Yahne.Law will work with you and your accountant to select the most advantageous form of your new business.  The following is a summary of various business alternative forms. 

SELECTION OF FORM BUSINESS CONTINUED…

Sole Proprietorship. In a sole proprietorship, one owner controls the business and assets. A sole proprietorship is not taxed separately from the owner. The owner declares the business income or loss on the owner's personal income tax return ("pass through" taxation). However, the business owner is personally liable for all the business's debts and obligations.

General Partnership. In a general partnership, two or more persons agree to operate a business together for profit. Every partner has the power to make contracts on behalf of the partnership and these contracts are binding on all of the partners, even if they did not consent. Each partner is personally liable for all of the partnership's liabilities, and a creditor is entitled to collect all monies due from a single partner. A general partnership is not taxed separately from the partners. The partners declare partnership income or loss on their individual income tax returns ("pass through" taxation).

Limited Partnership. In a limited partnership, one or more general partners manage the business and are personally responsible for all of the partnership's liabilities. One or more limited partners contribute capital and receive a share of the business profits. Limited partners do not take part in managing the business, and if they are too active in the running of the business they are subject to losing their "limited" partner status and risk becoming personally liable for the business. A limited partnership is not taxed separately from the partners. The partners declare partnership income or loss on their individual income tax returns ("pass through" taxation).

Limited Liability Company. A limited liability company has "members" who usually own and manage the business. However, a limited liability company is allowed to have non-owner "managers" run the company instead of members. Most states allow a single person to operate as a limited liability company, but some states require that a limited liability company consist of two individuals. Members are not personally liable for the debts and obligations of the limited liability company. The limited liable company is not taxed separately from its members. The members declare company income or loss on their individual income tax returns ("pass through" taxation).

Corporation. Unlike a sole proprietorship or a partnership, a corporation is recognized for all purposes as a legal entity separate from its owners. A corporation is a hierarchy. The shareholders are investors who have little say in the management of the corporation. Shareholders elect a Board of Directors and the Board of Directors designates officers to carry out the business of the corporation.

• "C" Corporations. A "C" corporation is a separate tax-paying entity whose profits are subject to corporate income tax rates. Shareholders are not personally liable for the debts and obligations of the corporation.

• S" Corporations. An "S" corporation may have no more than seventy-five shareholders and they must be U.S. citizens or resident aliens. There can be only one class of stock. An "S" corporation is taxed like a partnership, and the shareholders are not personally liable for the debts and obligations of the corporation.

Once you have selected the appropriate entity for your new business, you must obtain recognition of your chosen entity by the appropriate governmental authorities.  Depending upon the form you select, you may be required to obtain a charter from the Secretary of State authorizing you to do business.  Also, you may be required to obtain licenses to conduct your business (e.g. a business license from you local government or a license to do business under an assumed business name).  Finally, you must file appropriate notices and elections with the Internal Revenue Service and state taxing entities.  We will prepare and file the necessary notices to enable your business to operate. 

After your business has obtained official recognition, you must then observe certain formalities to ensure that your entity will continue to receive recognition and authorization to do business.  On of the very first steps is to create a partnership agreement to establish the rights of the partners or a corporate record book to establish the rights of shareholders, directors and officers.  For corporations, the corporate record book will consist of a number of documents, including bylaws and minutes of the first meeting of directors, both of which are discussed below.

Bylaws & Operating Agreements

Bylaws and Operating Agreements are the document that regulates how the corporation or limited liability company will be run. It covers things such as how often and when meetings will be held. It will provide for how much notice should be given prior to a meeting and in what manner notice will be given. This document also sets forth the rules regarding how many shareholders or directors are needed to establish a quorum and how much of a majority vote will be required to take certain actions. For example, the Bylaws may state that a simple majority is all that is necessary to take most actions, but that a two-thirds majority is required to amend the articles of incorporation. The bylaws will also provide for the mechanism by which the bylaws may be changed. For example, bylaws may be changed with the approval of a two-thirds majority of the shareholders. 

First Director's Meeting Minutes

The Minutes of the first meeting of the Board of Directors cover all of the business that needs to be conducted at that first meeting. The bylaws of the corporation will be adopted. Shares in the corporation will be issued. Authority will be granted to open a bank account and to conduct business in the name of the corporation. Those are just the basic steps to forming a corporation. Depending on how you want ownership of your business to be structured, there may be other steps you should take. You may want stock transfer agreements that set out who can own stock in the corporation and how and under what circumstances stock can be sold. You may also want shareholder voting agreements that specify how certain shares of stock will be voted at shareholder meetings. These types of arrangements should be made concurrently with the formation of the corporation. 

Maintaining good standing for your business requires vigilance and timely preparation and filing of various documents.  For example, for corporations, the corporation must keep the corporate record book up to date with minutes of the annual shareholders’ and directors’ meetings.  Also, biennial reports concerning your business entity must be made to the Secretary of State.  We will oversee and maintain your business’ records so that you need not worry and can devote your attention to your business.

Where more than one person is to be involved in the business, great care must be taken to ensure that all “partners” in the venture communicate freely about continuation of the business should one or more of the partners be unable or unwilling to continue in the venture.  Drafting written agreements between the “partners” can enable the business to survive and thrive, while affording the individual “partners” a level of comfort as to their individual role and stake in the business.  These agreements may take many forms, including, without limitation, corporate by-laws, employment agreements, promissory notes, security agreements and buy-sell agreements.  Many, if not most, business owners overlook a critical element of their operating agreement that can save them both money and angst: buy-sell provisions. When you create buy-sell, or buyout, provisions for your operating agreement, you and your co-owners can prepare for events that have been the downfall of more than a few successful small businesses -- namely, the death, divorce, bankruptcy or retirement of one of the owners. Because of the essential and sometimes overlooked benefits of buy-sell agreements, what follows is a discussion of those agreements.  

What Is a Buy-Sell Agreement?
Contrary to popular belief, a buy-sell agreement is not about buying and selling companies; rather, it is a binding contract between business owners. A buy-sell agreement is made up of several clauses in your written operating agreement (or it can be a separate agreement that stands on its own) that control the following business decisions: 

• who can buy a departing member's share of the business (this may include outsiders or be limited to other business members)

• what events will trigger a buyout (see the list below), and

• what price will be paid for an owner's interest in the business.

It may help to think of a buy-sell agreement as a sort of "premarital agreement" between you and your co-owners.

What Events Should You Cover Under a Buy-Sell Agreement?
Your buy-sell agreement will instruct and remind you and your co-owners how you have agreed to handle the sale or buyback of an ownership interest when one member's circumstances change. Typically, the events that trigger a buyout of a member's interest under a buy-sell agreement are: 

• an attractive offer from an outsider to purchase a member's interest in the company

• a divorce settlement in which a member's ex-spouse stands to receive an ownership interest in the company

• the foreclosure of a debt secured by an ownership interest

• the personal bankruptcy of a member, or

• the disability, death or incapacity of a member.

Why You Need Buy-Sell Provisions
It's a huge mistake to ignore the fact that sooner or later your business will change. If you doubt this even for a minute, think about what would happen if you don't create a buy-sell agreement and one of the following occurs: 

• One member quits to move to another city or leaves to start another business. Without an agreement, your business might be automatically dissolved, forcing you to divide any assets and profits among the business owners and decide whether to start a new business with the remaining business owners. If your business doesn't end, you must still decide whether you should buy out the departing business owner's ownership interest, and for how much.

• One member dies, gets divorced or becomes mentally or physically incapacitated. In this case, you might have to work with the spouse or other family member of a deceased, disabled or divorced owner. There is a substantial possibility that the family member would be inexperienced or otherwise unable to act in the best interests of the business. On the flip side, you (or your family) might get stuck with a small business interest that no outsider wants to buy and for which no insider will give you a decent price.

• One member sells his or her share to a stranger or to someone you know well and can't stand. In this case, you may be forced to share control of the company with an inexperienced or untrustworthy stranger -- or you'll be faced with the struggle of running a business with someone you'd rather not even see on the street.

Just looking at this list, it should be obvious that if you don't anticipate and plan for circumstances like these, you're risking serious personal and business discord -- perhaps even court battles and the loss of your business.

Nearly as important as the relationship between business owners is the relationship between employees and the business.  Depending upon the nature of the employee and the duties that employee is to perform, it may be wise, and, in many cases, absolutely essential to enter a written contract with the employee.  In many situations, non-compete agreements and confidentiality agreements with the employee and/or independent contractor may be essential to the continued existence of your business.  Scott Yahne has drafted numerous employment agreements and independent contractor agreements for businesses and employees and independent contractors.  Even in cases where an individual written employment agreement is not required, your business may be well served by adopting and employee handbook.    

Defining the terms of your company’s business relationship with its clients and customers is as important as obtaining the business .  Without careful and considered planning, the business relationships upon which your business relies can sour and become unprofitable in a variety of contexts.  Just as it may be essential to enter non-compete agreements and confidentiality agreements with your employees, the need to do so with your clients and customers may be even more crucial. Moreover, adequately protecting your company business against clients and customers who will not honor the terms of your business relationship can often be accomplished only by negotiating necessary terms and conditions before you start doing business with a customer or client.   For example, to avoid financial deficits, you must include legally enforceable terms in your agreements to permit the recovery of interest and the costs of collection where a client and/or customer does not pay as agreed. 

Scott Yahne has guided many businesses through transition.  Sometimes the transition occurs due the sale of the business or its assets from one owner to another.  More often, we have assisted our business clients to buy or sell existing business or the assets of those businesses.  These acquisitions may involve a single seller and a single buyer, or, the sale of a business to a public company.  

There may be business deals you can safely write up on a restaurant place-mat - but the sale of your business isn’t one of them. The “keep-it-simple” principle has its limits. To protect your legal and financial interests, you need to put together a detailed sales contract for you and the buyer to sign. Here are some items to consider for inclusion in your sales contract. An overview of the acquisition process reveals the many issues that will arise.

Starting the Process -- The sales process begins either when a company makes a conscious decision to explore the market, or when it receives an unsolicited expression of interest from a third party. Shareholder value is maximized when a company is well-positioned for sale, and its financial, legal and accounting functions are in good order and easily understood by third parties. This can be best achieved by dealing with issues in advance of the sales process so issues do not become larger problems either before or during the sale process. 

Due Diligence -- In selling a company, the persons controlling the seller will go through a process called "due diligence". Due diligence is a comprehensive strategic, financial and legal investigation by the buyer and its advisors respecting the target company. Prior to discussing transaction specifics, some preliminary due diligence will probably be done by the buyer. Most of this will be strategic and/or financial due diligence. If the buyer is a strategic buyer, it may focus on what strategic value the target company will provide to it (for example, elimination of a competitor, access to new customers, or acquisition of a complimentary product line). If the buyer is a financial buyer, it may focus on the target company’s financial condition and operating history so as to satisfy itself that it will receive a reasonable rate of return on its investment.

Before a prospective seller discusses a possible deal or provides any information, it should make sure that its counsel drafts a Confidentiality/Non-Disclosure Agreement and that such agreement is signed by the prospective buyer. This is a different form of agreement than businesses typically have their employees sign respecting confidentiality. It should provide that not only will the information which is provided be treated confidentially, but that the existence of any discussions will also be so treated.

Form of Transaction -- Once some preliminary due diligence has been conducted and it appears that a transaction is advisable, the parties must agree upon the legal structure of the transaction. There are three different ways which a prospective buyer can purchase a business:

Asset Sale -- The selling company sells its assets to the buyer. Depending on the deal, the selling company’s liabilities may be assumed by the buyer, or may be retained. After the sale, if all or substantially all of the assets of the selling company have been sold, the selling company is liquidated and the proceeds are distributed to its shareholders.

Stock Sale -- The shareholders of the selling company sell their stock to the buyer. The buyer "steps into the shoes" of the shareholders of the selling company.

Reorganization --The most common form of reorganization transaction is a merger. Instead of cash and/or a note, the shareholders of the selling company generally receive stock in the buyer. If properly structured, a reorganization is tax-free, but the selling shareholders must be satisfied in holding the buyer’s securities as payment of the purchase price, which depending on the circumstances may or may not be freely tradable, even if the buyer is publicly-traded. 

Each of these forms of transaction has different strategic, legal and tax implications. For example, generally a buyer will prefer an asset sale, which provides the buyer with tax advantages and allows the buyer to control to a better extent what liabilities are assumed. From the seller’s perspective, however, an asset sale has the highest tax cost, particularly if the seller is a corporation which has not made a Subchapter S election.

Often the interests of the buyer and seller are divergent in structuring the form of the transaction, and it is important for a selling company to get good legal and tax advice before making a commitment to the form of transaction. 

Letter of Intent -- Early on after a determination has been made that a transaction would be advisable, consideration will probably be given to whether or not a letter of intent should be signed. Letters of intent, when used, can either be binding or non-binding. While it may be the intention of the parties to replace it with a more formal and comprehensive purchase and sale document, a binding letter of intent is an enforceable contract. A non-binding letter of intent, as to its non-binding provisions, requires the prospective seller to proceed with the prospective buyer on a good faith basis. Almost always, non-binding letters of intent contain some provisions that are binding, such as confidentiality provisions and a "no-shopping" provision that is usually requested by the prospective buyer (i.e. a provision which provides that the prospective seller will not have discussions about a transaction with any third party). It is important for a selling company to involve its professional advisors before anything is agreed to, since often letters of intent contain deal terms that cannot later be modified, even if the letter of intent is non-binding. 

Additional Due Diligence -- The buyer and its professional advisors will probably conduct additional due diligence after a letter of intent is signed or, in situations where a letter of intent is not used, after the parties have determined to proceed further after initial discussions have taken place. Here the due diligence will also deal with a myriad of legal issues. Some of these include determining that the selling company has no off balance sheet liabilities; that the buyer will have the benefit of the contracts and agreements to which the selling company is a party based on the transaction structure which has been agreed to; and that the selling company is the owner of all of the tangible and intangible property used in connection with its business.

Preparation of the Definitive Agreement -- A definitive buy-sell contract will be prepared. Usually this is prepared by the buyer’s lawyer and the selling company’s lawyer will make suggested changes. Usually there are many items that are negotiated, such as the following:

Purchase Price Terms -- Both the purchase price and the payment terms need to be agreed to. With respect to the amount of the purchase price, the seller should obtain professional assistance (from an investment banker or valuation professional) in determining the purchase price in most cases. "Rule of thumb" formulas for determining purchase price should be avoided in all but the most obvious situations. With respect to the payment terms, the buyer will try to defer a portion of the purchase price, and will want to offset from the payment of the deferred portion any claims that might arise after the closing under the contract’s indemnification provisions. To the extent that a portion of the purchase price is deferred the seller should consider asking for provisions respecting security and guaranty of payment.

Representations and Warranties -- The contract will contain representations and warranties about the seller’s business. Sometimes these are extensive and cover many issues and concepts. Sometimes they are more limited and the sale is made on an AS IS basis or on a modified AS IS basis. The seller’s lawyer will prepare schedules which are exceptions to the representations and warranties, and will also try to limit the scope of the representations and warranties. These provisions of the contract are crucial, since it is usually provided that if the representations and warranties are untrue, that the buyer is entitled to indemnification from the seller for any resulting losses sustained by the buyer.

Pre-Closing Covenants and Conditions -- The contract will contain certain obligations of the parties to be observed prior to the closing, and certain matters which must occur prior to the closing (conditions). Some of these provisions will be typical (such as agreements requiring the seller to conduct business in the ordinary course and providing the buyer and its representatives with due diligence access); and some of these provisions will be unique (such as conditions requiring the approval of third parties who are parties to contracts that the seller is a party to, governmental approvals, or the entering into of required agreements). An important consideration is whether the buyer will ask for a financing condition (i.e., that its obligation to close is conditioned upon its obtaining financing).

Post-Closing Covenants -- The contract will contain certain obligations of the parties to be observed following the closing. These often include indemnification provisions; consulting arrangements; and non-competition provisions. 

Generally speaking, the definitive agreement is highly negotiable, assuming the bargaining power of the parties is roughly equal. For example, as noted above often the representations and warranties can be limited or otherwise "watered-down". Likewise a seller’s obligation to indemnify the buyer from losses (such as a loss occasioned by a breach of the representations and warranties) can be limited. 

Closing -- When the definitive agreement has been agreed to, and all of the conditions have been satisfied or waived, the closing occurs. Sometimes the definitive agreement is signed at the same time as the closing, and sometimes the definitive agreement is signed first followed by the closing after all of the closing conditions have been satisfied or waived.