Introduction to Understanding the Types of M&A Agreements
What is the main acquisition document you should expect to see in a business acquisition transaction? It depends, but you will typically encounter one of three primary M&A agreements: a Stock Purchase Agreement (SPA), an Asset Purchase Agreement (APA), or an Agreement and Plan of Merger (Merger Agreement). Each type of agreement has its own set of benefits, risks, and strategic implications.
For buyers and sellers, understanding the differences between these business acquisition agreements is crucial for structuring a deal that aligns with their financial and operational goals. In this blog, we will focus on Stock Purchase Agreements (SPAs) and Asset Purchase Agreements (APAs); Merger Agreements will be covered in a future blog.
The choice of structure—SPA, APA, or Merger Agreement—is often driven by tax considerations, especially for the buyer. Buyers aim to maximize tax benefits, but sellers must ensure they are compensated appropriately, often through purchase price adjustments. For example, if an Asset Purchase Agreement offers tax advantages to the buyer, the seller may seek a corresponding price adjustment to balance the deal’s value. Sellers should also negotiate compensation if the deal structure imposes adverse tax consequences.
Stock Purchase Agreement (SPA)
A Stock Purchase Agreement involves the buyer acquiring the entire company by purchasing all of its issued and outstanding shares. In this type of business acquisition, the buyer obtains all of the company’s assets and liabilities.
From a tax perspective, a stock purchase often favors the seller because it results in taxation at the shareholder level—typically at the capital gains tax rate, which is generally lower than the ordinary income rate. This approach also avoids double taxation at the corporate level, which occurs in an asset sale involving a C corporation. However, for buyers, a stock purchase can be less attractive because the assets transfer at the seller’s existing tax basis, limiting opportunities for stepped-up basis tax benefits.
A key advantage of a Stock Purchase Agreement is that it allows the buyer to retain the company’s existing structure, contracts, and relationships. This can ensure a seamless transition post-acquisition, particularly when the business relies on licenses or contracts that are difficult to transfer in an Asset Purchase Agreement.
However, the simplicity of a stock sale comes with risks: the buyer inherits all known and unknown liabilities, such as potential lawsuits or tax obligations. Because of this, buyers often prefer Asset Purchase Agreements to minimize liability exposure and secure tax benefits.
Asset Purchase Agreement (APA): A Selective Acquisition
In an Asset Purchase Agreement, the buyer selectively acquires the company’s assets and assumes specific liabilities. This provides greater flexibility compared to a stock purchase, as buyers can “pick and choose” the assets they want while leaving behind unwanted or unknown liabilities.
A significant advantage of an Asset Purchase is the tax benefit for the buyer. Buyers can adjust the value of acquired assets to their fair market value, rather than their depreciated book value. This adjustment enables higher depreciation deductions, reducing future tax liabilities. Additionally, goodwill—the premium paid above the value of tangible assets—can be amortized on a straight-line basis over fifteen years, providing further tax relief.
For sellers, however, asset purchases can have tax disadvantages, particularly for C corporations. In such cases, taxes may apply at both the corporate level (at ordinary rates) and the shareholder level (capital gains rates) when proceeds are distributed. S corporations avoid corporate-level tax, but the income from the asset sale passes through to shareholders at ordinary or capital gains tax rates, depending on the asset classification.
One challenge with Asset Purchase Agreements is the need to transfer contracts, licenses, and regulatory approvals, which often require third-party consent. This process can add complexity and delay the transaction. However, these hurdles are typically secondary to the significant tax considerations that influence deal structure.