Due Diligence and Restraints of Trade
If you are considering selling your business, there are a number of key things you need to think about to avoid post sale problems. Two, in particular, are the due diligence process and any restraint of trade.
A Purchaser’s due diligence process involves the Purchaser carrying out an investigation of the business which will consider aspects of the business that are pertinent to evaluating the business, it’s worth and the Purchasers decision to buy the business. This may include commercial risks in relation to competitors, suppliers and regulatory approvals and licences, past and potential financial performance, intellectual property, staff relationships and other contractual entitlements.
A recent case in the High Court highlighted the importance of disclosure during the potential Purchaser’s due diligence period and the resulting cost to the Vendor, following the sale, if certain matters are not disclosed in writing. In this particular case the Vendor had not disclosed in writing to the Purchaser that the business did not hold the required regulatory approval in relation to certain pet care products that were being sold by the business and was ordered to pay damages to the Purchaser for the breach of warranty.
The damages awarded were $250,000 and the claim made was for significantly more, so it can be a costly mistake for a Vendor.
Often due diligence is considered more of a matter for the Purchaser to be concerned about, but the Vendor also has obligations with regards to certain matters that need to be disclosed and these will need to be disclosed in writing. Otherwise the Vendor could be in breach of the Vendor warranties provided for in the Sale agreement.
The obligation is not on the Purchaser to make inquiry, if the usual warranties are included in the agreement there is an obligation on the Vendor to make certain disclosures and to make them in writing.
If the Purchaser is carrying out due diligence prior to an Agreement for Sale and Purchase being entered into we would recommend any prospective Purchaser is required to enter into a confidentiality agreement.
Restraint of Trade
The other issue that can arise for a Vendor following the sale is the provisions around restraint of trade.
A restraint of trade is intended to limit the Vendor from engaging in business activities similar to the activities that the business being sold is engaged in for a specific time period (for example 1 year) within a defined area (for example 20 kilometres from the premises or within the whole of New Zealand). The restraint of trade can restrict, in the case of a Company, not only the Company but also the Directors and Shareholders ability to be involved in the industry or any similar industry. A Vendor should consider carefully the extent of the restraint and what effect this might have on future job and business prospects.
We recommend obtaining legal and accounting advice early in the process if you are considering selling your Business, particularly focussing on due diligence and restraint of trade issues.